Insurance is something that every business owner should think about. Because of the typically intimate relationship between business and personal assets, insurance is especially critical for small business owners.
If you’ve recently started a business, you may believe that insurance is a luxury that only large, successful enterprises can afford, but that you don’t need to worry about right now. After all, you’re working with limited funds, have staff (or at least yourself) to pay, and need to sell your product, among other things. In other words, you’re saying to yourself, “I’d rather spend money dealing with what I know will happen than what could happen.”
To some extent, this mindset isn’t entirely negative. Many small firms have depleted their cash reserves by paying insurance premiums to protect themselves against losses that never occurred.
However, we’d want to dispel the notion that insurance is solely for the protection against accidents. The most significant reason you might need insurance is to protect yourself from legal risks.
In any case, if you realize how crucial insurance is to your company, you’ll be in a better position to figure out how much you need.
The importance of insurance to the health of your business
Life is full with unexpected events, some good and some negative. A storm may drop a bag of money on your driveway, but a tree limb on your roof is more likely! We frequently opt to insure ourselves against such unpleasant events. You can avoid much of the economic impact (known in the insurance industry as a “loss”) of such tragic events by paying an insurance premium.
When you cut through the jargon of any insurance policy, you’ll find that it basically boils down to this: In exchange for premium payments, one party (the insurance company) commits to pay another party (the insured) a specific sum of money if a covered economic loss occurs.
For instance, a powerful storm uproots a tree on your property, which then crashes on your house and floods your basement, resulting in $5,000 of damage. If you have a homeowners policy, the insurance company will pay you $5,000, less any deductible amount, because it has agreed to face the financial repercussions of such a risk (the share that you must pay).
You’ll have to compare the expense of insuring against a number of hazards against the financial effect of an uninsured loss as a business owner. Insurance rates can put a significant dent in any company’s budget. However, we cannot emphasize enough that when you start a business, insurance takes on a whole new meaning. In reality, rather than insuring against anything occurring to you, the most significant coverage you’ll buy will most likely be to protect you from liabilities related with what you or your employee might do to someone else.
Because of the clear economic link between the owner of a small business and the business itself, any big, uninsured loss that strikes either of the following may jeopardize the business’s continuous operation as well as the owner’s financial well-being:
Understanding Your Liability for Uninsured Business Losses
The financial and emotional toll of an uninsured loss on a company and its owner can be catastrophic. If a firm suffers an uninsured loss (such as the unintentional destruction of the company’s computer system or a lawsuit stemming from a “slip-and-fall” on the premises), the owner may be affected in two ways.
- To begin with, the loss may reduce corporate profits or force the owner to invest more money into the company to keep it afloat.
- Second, the owner may be legally liable to others for the loss of the business. The amount to which a business owner can be held financially liable for his or her company’s debts and legal judgements is determined by various factors, including the legal form in which the company is owned and operated.
Liability for sole proprietorships and partnerships
In general, if you operate a business as a sole proprietorship or partnership, you will be personally accountable for any debts or legal judgements owed by your company. The amount you may be obliged to pay is not limited to the amount of money you make or the worth of your firm.
Gail Gorgeous, for example, runs a company that creates and distributes hypoallergenic cosmetics. The business, which is not incorporated, earns $70,000 per year and is valued at around $200,000. A group of consumers experienced allergic reactions as a result of an error in the ingredients used in many eye liners, some of which were severe enough to necessitate hospital visits. Ms. Gorgeous will be liable for the entire $250,000 if the consumers’ claims total a quarter of a million dollars.
Corporate liability
If you conduct your business as a corporation (including a S corporation) or as a limited liability company (LLC), you will normally have “limited responsibility,” as defined by the law. In theory, this means that your legal obligation for your company’s debts is usually limited to the amount of money you put into it. To put it another way, you may lose your business, but you will not lose non-business assets like your home or car.
There are, however, exceptions to this norm of restricted responsibility. Your limited liability as a corporation may be revoked if:
- By acting as if corporate property or money were your own personal property, you show a lack of regard for the corporate structure.
- Your business is undercapitalized. That is, the company does not have anywhere near the assets it will require to meet its responsibilities.
- You willingly release yourself from limited liability (such as by agreeing to guarantee, as an individual, the debts of your corporation).
When a large sum of money is at stake in a lawsuit, attorneys will strive tirelessly to take advantage of such exceptions in order to collect legal judgments against you personally.
The impact of personal losses on your business
A small business owner’s uninsured personal loss can have a crushing effect on the company. What impact might personal losses have on a business? Apart from its owner, a solely owned, unincorporated firm has no legal existence. As a result, a big uninsured loss experienced by the owner can bankrupt the company. To pay off a debt, a business owner may be obliged to sell business assets even the business itself.
Although partnerships, corporations (including S corporations), and limited liability companies (LLCs) have different liability standards, you might be shocked to hear that a substantial uncompensated loss to the business owner can nevertheless cause injury to these types of firms.
Impact of personal losses on sole proprietors
If you’re like many small business owners, you operate under the “single wallet,” or as a sole proprietorship. Even if you keep separate business records (ideally), you and your business are one person in the eyes of the law. Even though the cause of the loss has nothing to do with the business, if an auto accident, a house accident, or similar unforeseen incident causes a large economic loss to you personally (rather than your business), your capacity to profitably manage your firm may be called into question.
For instance, a visitor at your house trips over a dog toy in your kitchen that is not part of your professional work area. The guest trips and falls, resulting in medical bills of $20,000 for her injuries. If she sues you for this amount and wins, and you can’t come up with the money, she may be able to force you to sell business assets to pay the $20,000 she owes you. Although your state may limit others’ ability to force you to sell your business property to pay off court judgements, you shouldn’t rely on these rules because they may not protect all of the equipment and inventory you need to run your company.
Personal losses and corporations or LLCs
Even if you’ve taken steps to create your company a separate “person” in the eyes of the law by forming a corporation or LLC, your personal financial losses could hurt your company.
Consider the following scenario: You’re backing out of your driveway and accidently hit a passing bike. The rider’s $2,000 Italian racing bike was damaged, and he was forced to pay $7,000 in medical bills. He sues you and obtains a $9,000 judicial judgment against you. You’re unable to repay your obligation.
There are legal and practical reasons why the wounded driver won’t be able to force you to sell or transfer your company’s corporate assets to her in this case. But it doesn’t mean you’re out of the woods: your company may have trouble obtaining loans in the future.
Typically, banks will not lend money to a small business unless the shareholders/operators agree to be personally accountable for the debt. A bank may view your guarantee as having minimal value if you have a substantial judgment against you.
Personal loss insurance is clearly necessary, as insurance is a critical tool to protect yourself and your business from the troubles that can arise as a result of a personal loss. Keep in mind, however, that insurance is only as good as the maximum coverage limits of your policy. Also keep in mind that some losses may be excluded from coverage.
What are the 3 levels of insurance?
Liability, comprehensive, and collision insurance are the three types of car insurance that are universally available. Other types of auto insurance coverage, such as personal injury protection and uninsured/underinsured driver coverage, are still available, but not in every state.
Why is it important to have adequate insurance cover in the event of a claim?
- Building insurance is based on the cost of replacing an old structure with a new one.
- Every homeowner should take precautions to protect their home from damage in the case of a calamity.
- Obtain regular house appraisals and ensure that you have adequate building insurance coverage.
When it comes to home insurance, many people only worry about covering their contents, and even then, they frequently underinsure since they don’t keep up with replacement prices.
It is critical to have building insurance. If a property is bonded, it is a legal necessity. In the case of fire, floods, lightning, or other unanticipated disasters, it protects the real building structure as well as any permanent fixtures and fittings, garages, swimming pools, pavers, and walls. The latter may be subject to limits, which will be indicated in the contract.
Calculate the cost of replacement. This is especially important for homeowners who should reevaluate their building insurance coverage every year because the real replacement cost of the building and the market value of the property may fluctuate significantly.
According to Bartels, a property’s value can rise after extensive remodeling or renovation work. “When making substantial alterations to your house, it’s critical to check with your property’s insurer to make sure your coverage is still appropriate. Anyone embarking on a home improvement project should have their property appraised thereafter to assess whether they are adequately insured in the case of a claim.”
What’s the deal with thatch? Because of the fire risk associated with a non-standard structure including wood frame walls and a thatch roof, premiums on a typical construction tile, roof, and brick will differ. Prepare to pay more if you’re buying a property that’s considered high-risk due to its structure.
Obtain accurate appraisals A building insurance policy covers the structure of a building “on the premise of “new for old.” Get an annual update from a qualified valuations business on how much coverage you’ll need to rebuild your house and replace all of the fixtures and fittings from scratch if necessary. Then go out and find the greatest cover.
Your policy should be updated. Make it a practice to review your policy every year, as replacement values and building prices tend to rise year after year. If you’re thinking about remodelling, think about how it may affect your insurance price.
If you’re considering purchasing a new house, don’t forget to include building insurance in your monthly budget.
What is insufficient insurance coverage?
- Underinsurance refers to a lack of insurance coverage that leaves the policyholder liable for a considerable portion of a total loss or expense, putting them in a financial bind.
- If a homeowner is underinsured and their home sustains major damage, the insurance reimbursement may not be sufficient to cover the cost of repairs or replacement. Inadequate health insurance coverage, on the other hand, can lead to medical debt and even bankruptcy in the event of a major illness or accident.
- The cost of homeowner’s insurance is increasing. You might be able to save money by shopping around for competing bids.
- Set money aside to cover health insurance deductibles and copays so that you don’t put off needed care due to a lack of funds.
What does actuarial value mean?
A plan’s coverage % of total average costs for covered benefits. For example, if a plan’s actuarial value is 70%, you’ll be paying for 30% of the total cost of all insured benefits on average. However, depending on your actual health care needs and the conditions of your insurance policy, you may be responsible for a higher or lesser percentage of the total expenses of covered treatments for the year.
What are the 4 types of insurance?
Fire, floods, accidents, man-made disasters, and theft are all covered by general insurance for your house, travel, automobile, and health (non-life assets). Motor insurance, health insurance, travel insurance, and home insurance are all examples of general insurance. A general insurance policy compensates the insured for losses sustained throughout the policy’s term.
What are liability coverages?
Liability coverage covers for damage to another person’s property and/or injuries caused by an accident in which you are at fault. Most states require this coverage in order for you to lawfully operate your vehicle.
Property damage and physical harm are the two aspects of liability coverage.
What are the principles of insurance?
Insurable interest, utmost good faith, proximate cause, indemnity, subrogation, and contribution are the six main criteria that must be met in the insurance sector. The right to insure that arises from a legally recognized financial relationship between the insured and the insured.