Business Interruption Insurance: Why It’s Worth the Investment

Property insurance may cover you for disaster--but it may not. Make sure you have enough coverage to pay for lost income.

You don’t have to be in the path of a hurricane to understand the value of business-interruption insurance. When a blackout hit Astoria, Queens in July 2006, Marino & Sons Fish Market was forced to close for 10 days. Hundreds of pounds of halibut, cod and shrimp had to be discarded. Marino’s refrigeration compressors burned out due to lost power. “We lost tens of thousands of dollars in damaged equipment and lost inventory,” says owner Charles Marino.

But Marino & Sons was luckier than many neighboring businesses, which are still struggling to come back. Its business-interruption insurance included a special clause that covers utility breakdowns. “We’ve had the insurance for over 20 years. Business interruption was always part of the store’s property insurance,” Marino explains.

Within days, Marino received a check from Utica National Insurance Group for equipment that malfunctioned. Utica assures him that the check for lost revenue will arrive by October, eight weeks after power was restored. “Without this insurance, we would have been put out of business,” Marino said.

Business interruption insurance is included in some small-business property policies, but is often an endorsement or add-on. The insurance covers property damage and lost revenues when a disaster—hurricane, fire, earthquake, storm or flood—affects your business. The disaster must involve a physical event that affects the business, such as a car crashing into your premises, snow causing your roof to collapse, or civil authorities closing off a street due to an attack, as happened to merchants near the World Trade Center after 9-11, notes John Gryszek, an underwriting specialist at Hartford Financial Services Group. Policies do not cover owner illness or cyber attacks, which are covered by separate insurance (see Protect Your Assets with Cyber Insurance, SBR, May, 2006).

In addition to property damage, the policy covers lost revenues based on income earned during a comparable period. When applying for coverage, businesses must document previous revenue with monthly income and expense records. If a CPA’s office is destroyed in January, the busy tax season, the CPA might receive a $20,000 reimbursement for lost revenue, but only $8,000 for August. Premiums rise along with the size of potential losses—a bigger business pays more.

Premiums are also based both on the likelihood of a fire or disaster and how much they would disrupt the business. A restaurant would likely face a higher premium than a real estate agency because of the greater risk of fire. And the real estate firm gets a discount because it can more easily find a replacement location and resume business more quickly.

Over 80 percent of businesses carry business interruption insurance, says Robert Hartwig, chief economist at the Insurance Information Institute, a New York-based research organization financed by the insurance industry. But many owners don’t even know they’re covered. “It’s often part of a small business property insurance package,” notes Robert Hoyt, chairman of the Risk Management and Insurance Department at the University of Georgia’s Terry College of Business. He advises small business owners to make sure that business interruption is included in their policy and that the loss-of-revenue payout is sufficient. “Ultimately it’s any business owner’s responsibility to worry about maintaining their business, and at the end of the day that includes anticipating a loss of income,” he says.

When buying coverage, don’t focus too much on the physical assets that you want to protect or replace. “Often it’s the loss of revenue not property damage that will hurt the business,” says Donna Childs, co-author of Contingency Planning and Disaster Recover (John Wiley 2003). “If you have a consistent loss of income, it doesn’t matter if you’ve lost equipment,” she says. Reimbursement for lost income can last through the end of the policy, which usually covers one year, but funding will stop as soon as the business reopens.

All too frequently, businesses are under-insured. Milt Glazer, owner of Master Manufacturing Co., learned that when fire consumed his garden equipment factory in Sioux City, Iowa, in July 2005. His insurance company compensated him for lost revenue for a year and paid for the property damage. Within three days, Glazer had rented a smaller building eight blocks away (“We move quickly in Iowa,” he says). “But I only had 60% of what I needed, and I’ve never been able to fully replicate my business,” Glazer adds.

In addition to making sure the policy has adequate income protection, make sure it covers what you need, advises Gryszek, the underwriter. Rebuilding costs should covers computer systems, specific equipment (ovens if you’re a restaurant) and telephone systems.

Here are some tips for taking out business interruption insurance:

• Make sure the reimbursement for lost revenue starts immediately and doesn’t include a lengthy waiting period of 30, 60 or 90 days. It will cost extra but it’s worth it.
• Ask that the policy include reimbursement for lost revenue on a weekly basis, not monthly, so payment is fast.
• Store all of your documentation of taxes and audited statements offsite. If those documents are lost in a disaster, it can greatly delay reimbursement.
• You may be able to cut premiums by buying through a group such as the National Federation of Independent Businesses or Chamber of Commerce.
• Consider adding contingent business interruption coverage, which compensates you if you lose business because of the closing or business interruption of a major supplier.
• Take the time to document your monthly income carefully to make sure you buy adequate coverage.