Recently, I had the honor of presenting a talk to a group of insurance professionals from around the country at the 2012 First Party Claims Conference in Warwick, Rhode Island. The topic was “Business Income and Extra Expense for Small Business vs. Manufacturing or Retail.” My co-presenter was Glen Ricciardelli, a partner at Matson, Driscoll & Damico, LLP, a leading forensic accounting firm working on behalf of the insurance industry. Our different backgrounds enabled us to provide varied perspectives on the subject.
Now, I realize that most discussions about insurance are boring. But, with business income insurance and extra expense insurance, we are talking about keeping a business alive after a disaster—anything but boring.
Most businesses purchase business income insurance, the intention of which is to put you in the same financial position you would have had if there had been no loss. However, it is often more important to ensure that the business also has extra expense insurance. Why? Before we discuss it, it is worth defining business income insurance and extra expense insurance:
Business Income Insurance
BII provides loss income coverage for your business by replacing your operating income during the period when damage to the premises or other property prevents income from being earned. Regardless, your business must meet its expenses: payroll, utilities, communications, advertising/marketing—expenses that help your company derive profit. If you suffer a business interruption and have to close for several months, or operate at a reduced pace due to fire or other perils covered by your Earnings insurance, this income will cease or be reduced.
For the purpose of this insurance coverage, “earnings” are defined as the actual loss sustained by the insured as a direct result of business interruption necessitated by damage or destruction of real or personal property. The damage or loss must be caused by the insured perils. Furthermore, “business income” is defined as the sum of total net profit, payroll expense, taxes, interest, rents, and all other operating expenses earned by the business.
The amount of coverage your Earnings insurance provides is established on the basis of either amount of insurance or actual loss sustained for each 30-day period of necessary business interruption caused by damage or loss from covered perils. There are several ways to set up Business Interruption depending upon your particular business. Monthly limitations, coinsurance, maximum time period to be paid, etc.
Extra Expense Insurance
If your building was rendered untenantable by fire or any other insured peril, it would probably be necessary to secure other quarters to continue your business operations. However, the use of such buildings would undoubtedly involve many extra expenses, such as rent, installation of telephones, computer networks, etc. Extra Expense insurance covers such expenditures over and above your normal monthly expenses.
As you can see, BII has a number of limitations:
• It only allows for financial recovery of earnings until the business recovers, plus typically a month or so afterwards. This may not allow a business to recoup a loss that occurred well after the business is restored; for example, when it takes a long time for the business to regain its customers.
• It may be limited to one year or a specific dollar limit.
• It may be very difficult to determine what sales would have been had there been no loss.
• Necessary records may have been destroyed or disposed of as a result of the loss.