What Insurance Limit is Right for You?
When considering liability insurance, the selection of an appropriate limit of liability becomes a critical consideration. Depending upon the insured's particular circumstances a number of interrelated factors may come into play. Consider the following:
- What Limits Are Available? The limit of liability set forth in any given insurance policy's declarations denotes the maximum amount the insurance carrier will pay out for covered claims. Carriers normally have set guidelines regarding the maximum limits they will offer. A requirement for high limits may restrict the pool of insurers capable of bidding on your account. In some instances you may need to consider layering your coverage with a primary policy provided by one carrier and one or more excess policies written through other insurers taking positions above the primary. Just remember that normally an excess carrier will not write more limit than the underlying layer. So it is important to maximize your primary coverage when trying to build up to an acceptable limit through excess layering.
- What is Your Budget? As a general rule the higher the limit of liability, the more the insurance will cost. While a variety of limits may apply, such as a limit per person or per accident, the most common combination is per claim/annual aggregate limitations. The term "straight limits" refers to a situation where the limit per claim is the same as the annual aggregate limit for the entire policy period. By contrast "split limits" involve a higher annual aggregate than per claim limit. The advantage to split limits is that in the event of a single policy limit claim you would have something left over to cover the next claim that may arise. Normally, an increase in the per claim limit is quite costly compared with an increase in the annual aggregate. We typically recommend split limits, because you can generally maximize your coverage and get the biggest bang for your buck.
- Is your business or career in its early stages? If you are just starting into a profession, a lower limit may well be more tolerable. This is because you will typically have fewer clients with smaller matters, hence lower exposures, in those early years. Moreover, if the coverage in question is written on a claims made basis, the likelihood of a covered loss in the first year is much lower than in subsequent years. This is because you would have to make a mistake, which causes damage, and is discovered and then serves as the basis of a lawsuit all within that first year. This is quite unlikely. Professional liability claims in particular normally have an extended latency period from the time of the error to the time of discovery and suit. Also, typically whatever limit is in force at the time of the suit will apply to your claim, not the limit which was operable at the time of the original error. There are, of course, exceptions to this. For example, underwriters sometimes apply a new retroactive date to increased liability limits. Also, if an error is immediately discovered and reported under an early lower limit policy, that policy would respond to any claim that ultimately arises out of the reported circumstance.
- Are you approaching retirement? If retirement is looming on the horizon and you are currently insured under a claims made policy, liability limits become an important consideration. An extended reporting period endorsement ("tail" coverage), normally is purchased for a period of years and simply extends the coverage under your last policy. Unlike an annual policy, the limit of liability for tail coverage does not replenish on an annual basis, but applies to the entire tail period, which may span many years. Thus, it makes sense to consider increasing your limits before retirement to insure that you have adequate coverage throughout your golden years,
- What limits do other practitioners in your profession commonly carry?
You will normally want to keep your limits in line with what others in your profession are carrying. It is important that your limit of liability be perceived by actual and potential claimants as reasonable within the context of the broader professional community.
- What is your net worth? Your liability limits should bear a reasonable relationship to your overall net worth. You will want the limit high enough to be taken seriously by potential claimants. In the event of a claim, you certainly do not want the plaintiff eyeing your personal assets because your liability limit seems inadequate to cover the claimed loss.
- What do you estimate as the high end exposure on a typical claim? If you typically handle high value transactions, then it stands to reason that your potential exposure with respect to any given claim will be higher than for a practitioner handling matters of lesser value. Your selection of an appropriate limit should take this factor into consideration.
- What do your clients require? It is not at all uncommon for clients to require that their professional advisors carry certain minimum limits of liability. Adding a new client with such requirements in the middle of an insurance policy period, is generally viewed by underwriters as adequate justification for a mid-term change in liability limits.
- What do your referral sources and business partners require? Business referral sources such as lawyer referral services will often require certain minimum limits of liability as a threshold requirement for being listed on the service's panel. Suppliers may have similar requirements for downline distributers. For example, insurance companies may require that the agents and brokers selling their policies maintain certain minimum liability limits.
- What does the law require? Depending upon the nature and/or form of your business or professional practice, there may be specific statutory requirements governing what limits of liability you may carry. For example, the California Corporations Code § 16956 sets forth minimum standards for a Limited Liability Partnership as follows:
... maintain a policy or policies of insurance against liability imposed on or against it by law for damages arising out of claims in an amount for each claim of at least one hundred thousand dollars ($100,000) multiplied by the number of licensed persons rendering professional services on behalf of the partnership; however, the total aggregate limit of liability under the policy or policies of insurance for partnerships with fewer than five licensed persons shall not be less than five hundred thousand dollars ($500,000), and for all other partnerships is not required to exceed five million dollars ($5,000,000) in any one designated period, less amounts paid in defending, settling, or discharging claims as set forth in this subparagraph.
In sum, while many factors bear on the issue of selecting an appropriate limit of liability, perhaps the most telling is the "sleep well" test. Simply put, do you sleep well at night knowing that you have secured what you consider to be adequate coverage.