How Much Property and Liability Insurance is Enough for Your Business?
Having adequate insurance coverage is crucial, but overdoing can cause serious economic harm to your business.
Just as important as assessing the types of insurance that you need to obtain to protect yourself and your business, is accurately assessing how much insurance you need.
It's also important to keep in mind that having too much insurance can be almost as big of a mistake as having too little insurance. Overspending on insurance can add up and take away from funds that could be better spent on other parts of your business.
So how do you determine how much insurance is enough but not too much? Use the following process to help you buy enough insurance without overdoing it:
- Ask yourself if the insurance in question is designed to protect you in the event your property is damaged or whether it insulates you from the liability associated with hurting other people and their property. In most policies, these components have separate limits.
- Property insurance. To help you determine the amount of property insurance you should carry you must:
- Know your lender's limits. If a bank or other commercial lender has given you a loan on the piece of property that you're about to insure, you must usually maintain a certain level of insurance according to the loan agreement. If you fail to do so, the lender may have the right to foreclose or to purchase its own insurance on the property and charge you a ridiculous price for it.
- Know the value of your property. There are really two "values" to a piece of property. The first is what you paid for it. The second value is what it would cost to replace the property if it was lost to fire, theft, or other unfortunate circumstances. If your business could not do without the property in question, you probably need to insure the property for its replacement value. This will often cost more than insuring the property for its actual value, however, so think twice before you insure everything for replacement value.
- Liability insurance: Determining how much liability insurance you need to protect your business can be complex and definitely not an exact science. Consider the the following to help guide you:
- Know the legal minimums. Ask your agent or state insurance commissioner whether there are any minimum insurance levels set by law. Also check to see whether these limits are higher if you are in a certain type of business, or if you must have greater coverage to do business with the state and plan to do so. (For example, many states require much higher auto liability limits if you are running a taxi business, or if you want to transport goods on behalf of the state.) You must purchase at least this much insurance, but it is usually not enough.
- Know your business. Look at the structure of your business. If your business is incorporated and you obey all the rules of running your business as a corporation, you can probably get away with buying insurance with lower limits. In the event you're sued and lose, only the assets of the corporation may be seized to satisfy a judgment. On the other hand, if you are a sole proprietorship, you generally need more liability insurance because you can be held personally responsible for judgments against your business. Knowing your business also means accurately assessing how likely it is that you, someone else, or someone else's property could be hurt in the routine course of your business.
- Know your people. This includes knowing both your employees and yourself. Is your business staffed with highly skilled professionals with years of experience in their field, or high school kids? Are you, or any of your employees, accident prone? Consider this factor when you decide how much liability insurance to buy. And if you're prone for trouble, plan for trouble.
As a general rule, if you're a small business owner, it's probably better to be a little overprotected on the liability side, versus the property side, of the insurance equation.
For example, carrying only the minimum amount of liability insurance on a vehicle that is required in your state leaves you vulnerable. On the other hand, paying $1,000 a year for theft insurance on a vehicle with a book value of only $2,000 will drain cash from your business and get you very little protection in return.
If you have followed these steps, it should help you to limit your insurance coverage to what you need. However, if the quotes from your agent still seem too high, or have you been told that certain aspects of your business are uninsurable, you may wish to explore some alternatives to insurance.
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