Do You Have the Right Business Insurance?

Whether you are a seasoned operator or new to vending, the vending business carries a certain amount of liability that operators need to protect themselves against. Operators can be properly insured without overspending if they are reasonably informed about what coverages they need.

First and foremost, operators must realize that they cannot depend on personal auto and homeowner's insurance for their business needs. An operator who assumes this is leaving himself open to a major loss.

Operators will need to consult with an insurance professional in determining the amount of coverage they need to cover their business assets.

Personal auto and homeowner's insurance are highly automated insurance products that can be compared fairly easily, are relatively the same in coverage design, and only require a couple dozen answers to get them done.

Business insurance, regrettably, is more complicated. Commercial insurance requires a fairly large amount of underwriting information, and may provide vast variations on what is covered, limited or excluded.

Insurance and risk management

The purpose of insurance is to protect assets, but let's step back from that for a moment. Insurance is a contract under which one undertakes to pay or indemnify another for loss from certain specified contingencies or perils.

On the other hand, risk management is the practice of protecting an organization from financial loss by identifying, analyzing and controlling risk at the lowest possible cost.

Fundamentally, there are only four ways to manage risk: transfer it, assume it, reduce it or eliminate it. It has often been said that you transfer your risk of loss to an insurance company, but that really is not true -- you transfer the known loss, the premium, for an unknown loss and hopefully the financial burden of the loss.

So what coverages do you need to protect yourself and your assets? You can break down the answer into seven types of insurance which equate directly to the type of exposure to loss. Those seven coverages are listed below. We'll address most of them, one at a time.

First concern: disability insurance

The most significant concern you must address first is disability insurance. What will you and your family do if you are injured, sick or gone?

This is where risk management comes into play because you need a written disability contingency plan. It doesn't have to be fancy, but you should go through the thought process and make a plan and get insurance coverage for short-term and long-term disability.

Have a written plan for how your business operations will continue if you are out of the picture for a short period of time. You should also plan for how you will exit the business in the event of a catastrophe.

If you have a partner or partners, it is advisable to have a "buy/sell agreement" funded with life insurance. If one of the partners dies or becomes disabled and the business cannot continue, this policy will protect your investment.

Property and liability coverage may be purchased with a simple "business owner's policy." This is a combination of property and liability coverage with a basket of miscellaneous coverages thrown in.

At the lowest entry point into commercial insurance are some fairly standardized BOPs. Unfortunately, most insurance companies that offer these standardized BOP policies do not allow vending operations in their underwriting guidelines.

Determine what the "replacement cost" values are for business personal property and inventory.

I am often asked about machine coverage. The loss of all your machines at once would present a significant financial hardship, but that possibility is quite remote.

As we apply risk management techniques to the loss exposure of vending machines, it may be the best approach to "manage the risk" rather than transferring the risk of financial loss to your insurance company.

Treat vandalism and damage as a cost of doing business as opposed to trading premium dollars to and claims dollars from your insurance company.

Additionally, the "inland marine" coverage (the name of the property coverage away from your premises) is expensive, depending on various factors, and could be $2 to $3 per $100 of values. To cover $35,000 of vending machines could cost more than $1,000.

Remember, the best approach is to manage the risk and fund small losses with internal funds and rely on external funds (i.e., insurance) for the significant losses.

This is where the rubber meets the road when it comes to risk management and insurance. Although there are some losses that you may choose to pay for with internal funds, my experience is there are many losses where you must have the protection of a financially solid insurance company.

This coverage will protect you for product liability claims such as someone getting sick; injury claims where a customer trips over a dolly or candy cart; property damage to a customer's property; and the most famous vending operations loss -- the water damage claim.

Additionally, your customers will often require you to have liability coverage and require you to name them as an "additional insured" on your policy.

Liability coverage for vending operations is based on sales. A sales projection is made at the beginning of the policy year.

An audit is conducted to determine the exact sales that will then be used to develop the premium. Some carriers will conduct their audits on a voluntary basis. They will mail you a form to complete and return. Other carriers will send an auditor to review your books.

Many small operators start their operations out of their residence. This can cause significant insurance and risk management considerations. As already noted, homeowner's insurance is not commercial insurance and is not designed to provide coverage for commercial exposures.

Product stored in your garage is not covered by your homeowner's policy, and liability for "business pursuits" may be marginally covered. But if you ask your homeowner's carrier for a certificate of insurance for a customer, it is likely their head will explode.

If you decide to try to cover your operations under your homeowner's policy, I recommend caution. You may find yourself in a situation where they will no longer provide your homeowner's coverage when they discover you have a business operating out of your home.

Seriously think about the products you are selling in your machines. If someone gets sick or dies, what will be your defense? Will the bad press put you out of business?

Stay away from homemade products and sell prepackaged, name brand products.

Also, ask your equipment suppliers to provide you with a certificate of insurance that names your company as an additional insured. This is called a non-insurance risk transfer, which effectively transfers the claim to the manufacturer, keeps it off your loss experience, and protects your premiums in the future.

OCS has special considerations

If you are in the OCS business, this is an area that has a greater potential for loss -- specifically water damage. It is very important to manage this risk of loss and make sure the internal water shut-off mechanisms are operational and in good condition.

Improper installation is a frequent problem, and a water filter's failure can also cause serious water damage. Have the manufacturers of the water filters name your company as an additional insured and make sure you can retrieve your records of your product purchases.

Personal auto coverage won't do

Many novice vending operators use their personal automobiles to deliver product and conduct business. This can be a significant problem. As stated earlier, personal automobile coverage is a different type of coverage than commercial coverage.

The most significant problem could be your personal auto carrier will not provide commercial coverage; they will have an exclusion in their policy for commercial operations.

Additionally, if you are involved in a crash and sued, the suit will name your business, and the business is not a named insured on your personal auto policy. Hence, you will have no coverage.

Some personal auto carriers will not allow "business operations" on the policy because the anticipated business exposures are quite different from personal auto exposures.

This could be one of your greatest, potentially uninsured exposures. Get your commercial vehicle out of your personal name and into the company name; get it insured under a commercial automobile policy.

Business insurers offer higher limits

It may cost more, but it is the only way to protect you and your business. A major difference between personal and commercial auto insurance are the limits the carriers are willing to provide.

Personal auto carriers usually will not provide a $1 million limit, but with the commercial exposure, I would recommend this limit as a minimum. Consider eliminating all the extraneous coverages. If you need or want comprehensive and collision coverage, set high deductibles.

How insurance premiums are set

Once you have set all of your coverages, how will the carrier set your premium? The premium is derived by multiplying your payroll (divided by 100) times your "rate." But, "rate" means different things to different people because there are so many types. There is a final "rate" per $100 of payroll you use to calculate your premium, but there are also other rates. These include:

  • Pure premium rates
  • Loss cost rates
  • Base rates
  • Interim billing rates
  • Advisory rates
  • Residual market rates

Based on the state, the rate for vending operations can vary unbelievably. There are only six states where the vending rates are actually set: Arizona, Iowa, Idaho, Illinois, Florida and Texas.

The balance of the states use pure premium, advisory, loss cost, etc. In these instances, the insurance company will add their individual experience and expenses to the rate and apply scheduled credits and debits based on risk characteristics.

This is where you can make a difference in your costs and where risk management can pay huge dividends.

Risk characteristics affect rates

Insurance companies can apply discounts or surcharges based on your "risk characteristics." These are:

  • Years in business
  • Active managers/owners
  • Pre-employment physicals
  • Medical insurance provided
  • Drug-testing programs
  • Training programs
  • Risk management programs

The message is simple, although it varies by insurance company and state. The lower your risk of loss, the less premium you pay. Of significant weight is your historical experience.

If you develop a certain level of "pure premium," which varies by jurisdiction, you are eligible for (and must be) "experience rated." This means that for every payroll dollar there are "expected losses."

Insurers keep tabs on your losses

The insurance companies report your payroll and losses for the past four years and nine months. They report it to your state rating jurisdiction six months after your normal anniversary date (effective date). If your actual losses are less than expected losses, you are rewarded with a credit.

Conversely, if losses are more than expected, you are penalized with a debit. This means that every dollar spent in medical costs, indemnity costs (lost wages), permanent disability, vocational rehabilitation and other expenses will impact your experience rating for the next five years.

Be proactive. Change your culture and put risk management and business management on the same level.

Elements of business coverage needed

  • Disability insurance
  • Property coverage
  • Liability coverage
  • Automobile coverage
  • Workers' compensation
  • Health insurance
  • Life insurance

In business insurance, terms have various uses

One factor that complicates business insurance is that when you move from one type of business insurance to another, the rules change, the language changes and definitions of the same term often change. From property to liability to automobile to health insurance, all the rules change. An example is the term, "coinsurance."

In property insurance, coinsurance is a provision that requires property to be insured at a specified percentage of its full value (usually 80, 90 or 100 percent) in exchange for a rate credit. If, at the time of a loss, it is determined that you carried inadequate limits, you will be penalized. The loss recovery will be a percentage of the total loss amount calculated by dividing the actual insured amount by the required amount.

For example: You have property insurance with a $5,000 limit on your policy with a 90 percent coinsurance clause. You have a fire and $8,000 worth of property is destroyed. It is determined that the "replacement cost" of your property is $10,000. You would recover $5,000 ÷ (.90 × $10,000) = 56% × your loss of $8,000 = $4,480 (less your deductible).

In health insurance, "coinsurance" indicates how an insurer and an insured will share the costs of a bill that exceeds the insurance policy's deductible up to the policy's stop loss. Coinsurance is expressed as a percentage or pair of percentages with the insurer's portion stated first.

Functions of risk management
Function
DESCRIPTION
Identify Search for and locate risks before they become problems.
Measure Transform risk data into decision-making information. Evaluate impact, probability and time frame. Classify and prioritize risks.
Select Translate risk information into decisions and mitigating actions (both present and future) and implement those actions.
Monitor Monitor risk indicators and mitigation actions.
Control Correct for deviations from the risk mitigation plans.
Communicate Provide information and feedback on your operations, risk activities, current risks and emerging risks.

About the Author

Bill Werber is a certified risk manager and commercial insurance broker at Westland Management Services, San Diego, Calif. He has been a NAMA Knowledge Source Partner and is a risk management adviser to the California Automatic Vendors Council.

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