There are numerous insurance plans that operate on a claims-made principle, which implies that your insurance provider will only address claims made against you within the policy duration. This implies that the insurance coverage needs to be active when the claim is filed against you with the insurance provider.
The problem is that claims can be made against you after a transaction, project, or business is completed. If that is your case, it may be difficult for you to find an insurance policy that would protect you from such an occurrence. This is where run-off insurance can be truly valuable for your situation.
What is a Run-Off Insurance Policy?
Let us say that you sold or closed your business. Or perhaps you decided to merge with another firm, or you simply chose to stop operating. Such a decision, unfortunately, does not save you from any claims that may arise for performance in the past.
It’s true that losses can still occur several years after the completion of your work or service. These losses can greatly affect you and your finances, particularly if your insurance policies for your company are no longer active. This is why run-off insurance is helpful.
If you are planning to shut down, sell, or merge your business, or your insurer is not interested in renewing the policy, you should understand what run-off insurance is. So, what exactly is it?
Depending on your liability insurance requirements, your policy will most likely be written on a claims-made basis, which is what run-off insurance is. Run-off insurance is a provision that helps ensure you, the insured, continues to benefit from your insurance coverage for a certain period even after your policy has expired or been cancelled. In other words, your insurance company remains liable for claims under a terminated or lapsed policy for the entire run-off period.
On the other side of the spectrum, your policy may be written on an occurrence basis. This means the event will be covered even if the policy has already lapsed. If a client made a claim against you for a service you provided several years ago, the claim will have to be referred to the insurer at the time of occurrence.
Since most insurance policies are claims-made, you do not have the benefits of occurrence-based policies. Run-off insurance provides a simple remedy to your circumstance as it ensures you are covered for claims that may arise in the future.
How Does Run-Off Insurance Work?
To understand how run-off works, let us have an example.
Say, you are a financial advisor who provided advice to a client in 2018. That client suffered a significant financial loss about three years after following your advice. During this time, you have already closed your business, effectively cancelling your Professional Indemnity Insurance.
Unfortunately for you, your old client decided to sue on the basis that your negligent advice led to substantial losses.
Because your insurance no longer covers you, you will be held liable to pay for the damages that resulted from the lawsuit. However, since you have run-off insurance, you remain protected from the claims made for your past acts.
As a reminder, you can only benefit from the run-off if the claim is made during the run-off period. Ensure that you read the terms and conditions, taking note of the period covered by the insurance.
What Types of Policies Benefit from Run-Off Insurance?
Run-off works excellently with different types of insurance policies. Consider run-off for the following types to ensure you get the protection necessary after your claims-made policy has lapsed:
- Professional Indemnity: Doctors, lawyers, engineers, and other professionals that provide services can benefit from run-off coverage.
- Directors and Officers: After leaving their positions, a director or officer may find run-off coverage necessary because claims can occur after they no longer work for the firm.
- Information Technology Liability: Errors, omissions, or any negligence may be discovered a few years after providing IT service to a client. Run-off coverage protects the IT professional from such a claim.
- Product Liability: A business manufacturing, selling, or distributing products can face product liability claims even after it ceases operations.
- Management Liability: Injured employees can file claims against their employers even if the business is no longer open or has new leaders.
Remember that you can be held liable if your business ceases operations or is under new management. Your responsibility as a professional, partner, principal, director, or officer does not suddenly stop because the business does not exist anymore.
Obligations agreed to under the agreements and deeds you signed can actually outlive the life of the company as they are more accurately attached to the individuals. Additionally, certain sale contracts require the purchase of run-off insurance for the client’s protection against the entity’s past liabilities.
Do You Need a Run-Off Cover?
There are multiple reasons why you may need run-off cover. The easiest way to determine whether it is necessary for your protection is to answer these questions:
- Will your business undergo a massive change in the foreseeable future?
- It could be that your business is ending, merging with another firm, or your insurance company no longer wants to renew.
These are examples of when your insurance policy is at the end of its lifespan; they do not mean it is the end of your legal liability.
Forgoing run-off insurance makes sense in specific cases. However, not having this cover will be as if you do not have insurance at all if you face any claim. You could be held liable at a personal level, making disputes more challenging to handle.
So, when exactly should you opt for run-off cover? Here are the main circumstances warranting the extension:
- Change of Corporate Structure: Your business may be facing a merger or acquisition. Regardless, you’re transferring or sharing control to another individual or entity. Specific policies, such as professional indemnity and directors and officers, will cease immediately as soon as the change is effective. Run-off cover protects you from allegations of negligence, duty breaches, and insolvency claims, among others.
- Retirement: If you are planning to sell or close your business when you retire, clients and stakeholders can still raise claims against you. Protect yourself even if they bring about claims regarding misconduct, mismanagement, and others with run-off insurance. For more tips and financial advice on preparing for retirement, check out Grace Life & Wealth.
- End of Business: Closing your doors does not exempt you from any claims your previous clients or employees file against you. You must avail of the extended reporting period or run-off cover to avoid paying out of your pocket.
- Contract: Commercial contracts often stipulate that insurance should cover several years after the work is done. That includes after the contract expires. It is to protect yourself and your reputation whilst giving your client peace of mind.
- Industry Standards: Depending on your industry or association, you will be required to maintain cover for a specific number of years. Doctors, accountants, engineers, and architects usually need automatic run-off cover in their professional indemnity policy.
- Non-Renewal: Your insurer may not be interested in renewing your policy. Reasons vary from the elevated risk to their appetite changing. Run-off extends your insurance so that it covers past acts despite your insurer’s non-renewal decision.
It’s best practice to ensure the run-off period reflects your requirements, such as contractual obligations and industry standards. Also, consider the relevant laws applicable to your contracts in your state, this will help you understand the run-off period.
