Mistakes in setting sums insured / declared value where the Insured elects an Indemnity Period of less than 12 months.

I recall the very first business interruption claim I did was for a risk in Toowoomba and to my horror found that the Insured had only declared 3 months insurable gross profit with a 3-month Indemnity Period. That sum insured had not been reviewed for many years and as a result of 100% average, as it was on that policy, the client received only 6.9% of their loss.

Fast forward 40 or so years and in Vanuatu last week with the earthquake claims I saw many occasions of the very same issue. This has prompted this refresher post.

Fortunately we see very few Business Interruption policies sold in Australia and New Zealand with an Indemnity Period less than 12 months. In fact, quite rightly we are seeing Brokers suggest longer Indemnity Periods due to a general lengthening of the time taken to recover from a major insured event.

From the very beginning of Business Interruption insurance, it was understood that most events would cause a short disruption rather than a long one. In fact, around 75% of interruption claims by number have an Indemnity Period of less than 3 months.

As such, it would not make sense for an insurer to offer to cover the full amount of 75% of all claims plus the first 3 months of all other claims and only charge 25% of the premium they would charge for a client who elected to insure for 12 months.

So, what the insurance market determined was that they would require all clients with an Indemnity Period of 3, 6, 9 or 12 months to do is to declare the insurable gross profit for the full 12 months.

Where a client, sought to insure for less than 12 months they would offer a discount on the premium rate. In today’s market that may be a 20% discount for 3 months and 10% for 6 months.

So, the question then is, is it prudent for a business owner to insure for shorter than 12 months to only achieve a token discount and lose 6 or 9 months coverage. To me it is a no brainer.

Where an insured elects an Indemnity Period greater than 12 months, then the typical policy requires the amount declared to be a multiple of the annual insurable gross profit. Ie 1.5 times if the Indemnity Period is 18 months.

To learn more, please check out the BI Explained section on BIcalculator.com