Business Interruption Insurance – The Leading Causes of Underinsurance and How To Avoid It

No business wants to, or expects to, be the victim of a major claim such as a flood or a destructive fire. However, it’s crucial that your business has the correct cover in place should such a disaster occur.

A key piece of cover is Business Interruption (BI) Insurance, however research shows that businesses are regularly finding themselves under insured or not insured at all, which can lead to major issues in the event of a claim.

The Chartered Institute of Loss Adjusters (CILA) found in recent research that 43 per cent of BI policies are underinsured by an average of 53 per cent. Such problems can be caused in a variety of different ways, but some common problems are:

1. Insufficient indemnity periods

Approximately 75 per cent of BI policies have an indemnity period of 12 months, according to industry research.

However, one year is usually an unrealistic expectation for a business to have fully recovered after a disaster.

You only have to think about how long it might take to rebuild the premises, taking into account the time needed to remove debris, obtain planning permission for the new premises, find a building contractor, get the contractor onto site and then completing the building.

This doesn’t take into account the time needed to recover lost sales etc to fully recover the business.

A simple way to combat this issue is to extend the Indemnity Period to allow the business   more time recover its position in the widest possible sense. This also gives you much more time to consider your options and recover the business in the best possible way. A much more realistic period would be 18 or 24 months although even longer periods should not be ruled out in certain circumstances.

2. Failure to include wages in the gross profit calculation

In the CILA survey, 2 out of 5 respondents listed inconsistent definitions of gross profit as the primary cause of BI underinsurance. The average accountant’s definition tends to exclude staff wages and utility costs, while for insurance purposes, those are crucial to calculating an appropriate gross profit.

A very simplistic Gross Profit calculation for Insurance Purposes would be as follows: -

Turnover + Opening Stock – Closing Stock – Purchases – Carriage Packing & Freight – Bad Debts  = Gross Profit

3. Ensuring the Gross Profit Figure is regularly reviewed

The timing of claims in relation to when the Gross Profit Sum Insured was set can also be an issue given the Gross Profit Sum Insured needs to be correct for the 12, 18 or 24 Month period following a loss, which if a business is growing, maybe a little different to the figure set at the Insurance Renewal if the loss occurred 10 or 11 months after the Insurance Renewal date.

It is therefore vital that the Gross Profit figure is kept under review and altered if it becomes out of step with the current business performance or the Insurance is arranged on a Declaration Linked basis, which allows for a 133.33% uplift on the sum insured.

To discuss Business Interruption Insurance, sums insured or any of the issues raised in this article please contact us on 01422 358 525 or email