At a glance
- Business interruption policies are unique in that they are limited by both a sum insured and a maximum indemnity period (MIP)
- Inadequate MIPs are a common cause of underinsurance, as customers often underestimate how long it would take to recover following a loss
- Looking at an organisation's business resilience measures is key to establishing a suitable indemnity period
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By reading this article, and correctly answering the three questions underneath, you will have achieved the following learning outcome: Explain the factors that a business should consider in order to set the correct maximum indemnity period.
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Underinsurance in business interruption (BI) policies is common, and can jeopardise an organisation’s ability to fully recover following a loss.
Unlike other insurance classes, underinsurance relating to BI can come from two major sources: an inadequate sum insured, and an insufficient maximum indemnity period (MIP).
In this article, we discuss MIPs, why they are frequently exceeded and how to ensure you set indemnity periods that are sufficient for your needs.
The importance of maximum indemnity periods
An MIP is the time during which claims can be made under a policy following a loss. If the MIP expires – be it 12, 18, 24, 36 or 60 months – then claim payments will cease, even if the sum insured has not yet been exhausted. Therefore, setting an adequate MIP is as important as calculating a correct sum insured in the event of a large loss.
More than just reinstatement
BI insurance is designed to help customers recover to the position they were in prior to a loss.
This does not simply mean supporting a business while it reinstates damaged property, such as repairing buildings or replacing machinery. BI policies are designed to provide the continued financial support a business needs to return to its previous status.
Even after property has been reinstated, it can take a significant amount of time for a business to win back lost customers, train new staff or integrate new equipment.
Consequently, MIPs must account for the maximum time it might take a business to return to its former level of profitability. It is important to carefully scrutinise MIPs to ensure they have been calculated with this crucial principle in mind, particularly if considering shorter MIPs lasting 12-18 months.
Plan for worst-case scenarios
MIPs must account for worst-case scenarios. This includes taking into account a vast range of circumstances that can add significant time to an organisation’s recovery, for example:
- Thinking and decision time
- Making planning enquiries and applications
- Dealing with residents’ objections to planning applications and demolition and site debris removal delays
- Environmental issues
- Meeting strict listed-building requirements
- Delayed planning decisions, or additional requirements added
- Long lead times for replacing plant, machinery and other essential property
- Discovery of hazardous materials, such as asbestos
- Potential Health and Safety Executive (HSE) inquiries or proceedings
- Recruiting and retraining staff
- Seasonality – a loss may cause a business to miss important trading periods
- Difficulty in winning back lost customers and opportunities
Whilst wishful thinking leads many into believing it will take less time for their business to recover, it is often the case that unforeseen delays arise and a period of anything less than 24 months may not be adequate.
Preparing for a worst case scenario doesn’t begin at the beginning of a claim, it should begin at the outset of cover, as any of the issues listed above could make a huge difference in whether or not the indemnity period set is enough.
How to set the correct length
BI insurance provides the cash flow needed to assist a recovery. However, this is just one part of the bigger picture. The wider issue that customers are most concerned with is one of business resilience and how they can minimise the impact of potential losses.
Working on issues of business resilience, for example, creating or refining business continuity plans, is central to determining what length of indemnity period they will need.
How we can help
Business interruption is recognised as a particularly difficult area, earlier this year it was estimated that as many as 80% of businesses in England and Wales have an element of underinsurance on their properties.
For more details about how we can help, or to gain access to our Business Interruption Calculator, please speak to your local Zurich contact.