General Liability policies can be written on either an occurrence basis or a claims-made basis.
Ramifications of a Claims Made Policy
General Liability policies can be written on either an occurrence basis or a claims-made basis. It is very important when buying your insurance policies that you understand the difference between the two. There are ramifications to purchasing a claims-made policy that may not be clear at the moment, but can cause serious issues or hidden costs later down the line.
Most standard insurance policies are written on an “occurrence” basis. If someone is injured today but a lawsuit isn’t brought until the six-year statute of limitations about to run out, todays policy covers it. Occurrence policies are preferred because of the ability to stop buying insurance without worrying about uncovered liabilities.
“Claims Made” policies are triggered by the filing of a claim. If someone is injured today but a lawsuit isn’t brought until a respective states’ statute of limitations is about to run out, the policy that is in place when the lawsuit is filed picks up coverage. This works as there is a date called a retro-active date on a claims-made policy. The retro-active date is a specific date (month, day, year), usually the date of the first time you bought the policy. The first year’s policy will pick up all potential claims dating back to the retro-active date (1 years’ worth of potential claims), the second policy period will pick up all claims dating back to the retro-active date (2 years’ worth of potential claims), the third policy period will pick up all claims dating back to the retro-active date (3 years’ worth of potential claims), and so on. Because of this, claims made policies necessitate the purchase of an expensive “tail” policy in the event the insured stops buying claims made coverage – this can be due to shutting down the business, a change in ownership or the move to a cheaper occurrence policy. Tail policies cost 1.5-3.5 of the expiring premium. Someone insured on an occurrence policy can always move to claims made but someone insured on a claims made policy cannot move to occurrence without buying a tail.
Hidden Costs of a Claims Made Policy
Comparing prices of the two types of policies is difficult. Actuarially, occurrence policy premiums stay level as they only cover one years’ worth of claims from any occurrence that happened during the time period of the policy. Claims made policies “step up” over time. The first year a claims made policy is put in place the premium is 25-50% of the “mature” premium it will increase to over the course of 3-5 years. After the 3-5 year step up period the premiums of occurrence and claims made policies are level.
The step factor is due to the retro-active date noted above.
Example of Actuarial Pricing for a $1,000 policy:
Potential Gaps in Coverage
A potential gap in insurance exists if a business ceases to operate, a change in ownership occurs or a switch to an occurrence policy occurs. The triggering of any of the above will negate the retro-active date and without the purchase of a tail policy, you will have no coverage for past events.