We are pleased to have one of our favorite guest bloggers back with us. In my 30+ years in the P&C insurance world, I rarely meet anyone with more industry knowledge and experience than Bill. Today, he shares this valuable industry expertise on business interruption insurance and the current pandemic. I think you will find it most insightful.
-Timothy L. Coomer, Ph.D., CEO, SIGMA Actuarial Consulting Group, Inc.
Many business income coverage forms specifically exclude loss arising from viruses. For example, agents have told me anecdotally, that 70-80% of their business income policies include the ISO CP 01 40 07 06 – Exclusion Of Loss Due To Virus Or Bacteria endorsement or a similar exclusion.
Even without a specific viral or pandemic exclusion, the insuring agreements of most business income forms, in order to trigger the primary business income coverage, require “direct physical loss of or damage to property.” Most insurers, based on the intent of the coverage and considerable case law, believe that a mere temporal viral contamination of property surfaces that can be easily cleaned by common disinfectants does not rise to the “direct physical” damage standard. It’s interesting that most policyholder attorneys assert that a viral contamination constitutes “direct physical” damage, yet I’ve not seen evidence of any direct property insurance claims for such damage.
For the order of civil authority additional coverage in most business income forms such as the ISO CP 00 30, a lesser damage standard that “direct physical” loss is required in more current policy forms. However, there are additional conditions for coverage, including a requirement that the purpose of the order be due to property damage and that access to the immediate area where the business is located be prohibited by the civil authority. That is largely not the case in the COVID-19 pandemic because business owners usually have access to their business premises and others have access to the area surrounding these businesses, unlike the scenario where entire business districts may be restricted following a tornado, hurricane or wildfire.
As for other policies such as CGL, auto, workers compensation, EPLI, D&O, E&O, there may or may not be coverage and that will depend on the precise wording of those insurance contracts. Thus far, there has been little litigation in these areas, though with businesses reopening, we may see an increasing number of CGL, and possibly D&O, claims even though many of the CGL policies have communicable disease exclusions. If litigation under business income forms is unsuccessful, we may see an uptick in claims filed against E&O policies.
At the end of this Q&A is a listing of articles I’ve written so far on the insurance implications of the COVID-19 pandemic.
What are the top scenarios that BI typically covers?
Most business income forms cover continuing expenses and loss of profits resulting from direct physical loss of or damage to property on the described premises from a covered peril that causes a cessation or slowdown of normal business operations. Depending on the type of policy, coverage usually lasts until a dollar limit is exhausted, a time limit (e.g., 12 months) expires or, of course, the business resumes normal operations.
About Bill Wilson
In addition, there is short-term coverage (usually 2-4 weeks) for damage to property away from the premises (but within a mile in most forms) that is caused by a covered peril if a civil authority prohibits access to the area surrounding the premises because of property damage.
The perils that are covered depend on the Causes of Loss form attached. Named perils forms cover the most common perils such as fire, windstorm (e.g., tornado and hurricane), water from ruptured plumbing systems, vandalism, theft, etc. Additional perils (e.g., off premises power failures) may be added by endorsement. Open perils forms cover these and many others unless they are specifically excluded.
Business owners are much more aware now of the coverage gap relating to a pandemic. Going forward, how can brokers help their clients better prepare?
At this point, that remains to be seen. Historically, there has been very little coverage available in the marketplace and what coverage has been available has been very expensive and available at underwriter discretion only for certain limited exposures. The reason for this is that pandemics are uninsurable on a widescale basis.
The essence of insurance is that it involves the transfer and sharing of risk whereby the many pay for the losses of the few. In the case of pandemic risk, it is possible for virtually the entire universe of insureds to suffer significant financial loss almost simultaneously. Since there effectively is no sharing of risk, the result is likely the insolvency of many, if not most, insurance companies offering this coverage, making the risk uninsurable.
Frankly, I see no way that a pandemic risk can be insured by the private sector, even with a government backstop, any more than unemployment compensation is insured privately. That potentially widescale catastrophic risk (as it has unfolded recently) is assumed by the federal government and funded, at least in part, by payroll taxes. It is likely that such a program will be necessary to fund the financial consequences of a pandemic.
What property wording should brokers look for related to potential BI coverage during a pandemic?
You’d start by determining whether or not there is specific coverage for pandemics or the communicable disease(s) which precipitate them. Recently, I’ve examined several policies that have, for example, coverage for the SARS-CoV-2 virus “and its mutations, and variations.” That makes it likely that there is coverage unless there is another basis for denial.
If there is no specific coverage, you’ll next want to determine if there is a specific exclusion for the pandemic or the communicable disease(s) underlying the pandemic. Many commercial property policies have virus and bacteria exclusions such as the aforementioned ISO CP 01 40 endorsement. Other carriers have drafted their own exclusions for viruses, bacteria, and other microorganisms, such as one entitled “Exclusion – Organic Pathogen.”
If there is no specific pandemic type of exclusion, then there MIGHT be coverage, especially if coverage is provided on an open perils basis. However, for coverage to exist, the insuring agreement(s) in the policy form must be triggered. That gets us back to issues such as whether there is “direct physical loss of or damage to property,” whether a civil authority has prohibited access to an area where a business is located, and so forth.
Finally, even if there is coverage, it is usually limited to a maximum time period such as 2-4 weeks in the case of orders of civil authority and, for damage or loss ON the premises, only until the property can be “repaired.” Since the SARS-CoV-2 virus allegedly can survive on surfaces only for 3 days or so and can be easily remediated with readily available disinfectants, that time period of coverage may only be a few days…and most business income coverage forms have a waiting period of 72 hours before coverage begins. In other words, even if there IS coverage, it is likely not much and certainly not enough to compensate business owners for potentially months of shutdown or slowdown of operations.
Many of our clients think of BI only as coverage for lost revenue during times of natural disaster. Is that an accurate perception? What is the "right" way to view BI coverage?
Business income coverage doesn’t require a natural disaster to be triggered. Whatever perils are covered by the Causes of Loss affixed to the policy apply. As for coverage for “lost revenue,” business income coverage doesn’t cover all lost revenue, only the loss of Net Income. Business income coverage pays for continuing expenses, including payroll, and profits that would have been earned during the period of restoration of operations if the business was not shut down or curtailed. There is also usually some coverage for extra expenses incurred to expedite the resumption of operations.
Besides parametric coverage, what future private solutions may be available to the BI pandemic coverage challenge?
As mentioned earlier, some pandemic coverage has been offered in the past on a very selective and restrictive underwriting basis. However, the pricing is usually significant enough that very few people elected to buy the coverage. Based on recent events with COVID-19, I suspect that most carriers will generally not be interested in providing such coverage even selectively. Those businesses that can get it will pay dearly. It is far more likely that a government program will be required, though the insurance industry, with its experience and expertise, might play a significant role in such a program.
When were the first BI policies written? IN other words, how long has BI been a commercially available product?
Well, we’d have to define what is meant by “business income” to definitively answer that question. Insurance for the loss of profits on goods unable to be sold due to fire loss dates back to at least 1797 in a policy sold by Minerva Universal in England.
In 1821, the Beacon Fire Insurance Company of England offered “the insurance of a weekly allowance to Tradesmen and others during the period they are deprived by fire of the means of pursuing their usual vocations.” While this appears to be an early form of unemployment compensation insurance, we’re getting closer to the consensus definition of what constitutes “business income” or “business interruption” insurance.
In 1853, a prospectus from the General Indemnity Insurance Company read, “the fire department includes a new feature of considerable importance namely, insurance against loss of business profits in consequence of fire.” This type of insurance continued through the 19th century. During the same time period, coverage known as “chomage” began to be sold in France which basically covered payroll for the benefit of employees.
In the U.S., “Use and Occupancy” policies appear to have first been introduced by Boston insurance agent Henry R. Dalton in 1877 when insurance agents often drafted their own policies. The general consensus is that the first policy resembling modern business interruption forms was introduced in 1880 to insure Newton Mills in Massachusetts.
Source: “Business Interruption Insurance: Its Theory and Practice” by Robert M. Morrison, JD, CPCU, with Alan G. Miller, JD, CPCU & Stephen J. Paris, JD, CPCU, CLU, 1986
How are noncash items like depreciation/amortization treated in a BI claim?
According to forensic accountant and business income insurance expert Scott Burrell, CPA, CFF of Business Interruption Consulting, “Depreciation and amortization are generally considered continuing (or fixed) expenses that increase the value of the BI claim. Insurers disagree with this all the time, but they are wrong.”
Why doesn't contamination of a property by the virus trigger coverage?
For damage due to contamination of property on the premises, most insurance experts agree that temporal contamination does not rise to the level of “direct physical loss of or damage to property.” If a property does have a demonstrable presence of a virus like SARS-CoV-2, if you do nothing, the virus dies of its own accord.
Contrast that to fire or windstorm damage. Charred wood and melted plastic do not miraculously heal themselves or otherwise transform from permanent physical damage to an undamaged condition. A roof torn off by a tornado does not magically reappear. The damage is permanent. That’s what happens when you have “direct physical” damage. This is supported by policy language that refers to “repair” of property, not remediation via the use of a container of Clorox wipes. With a virus, you simply have a temporary impairment in the use of the property and no actual “damage” and certainly no permanent “direct physical” damage to the property itself.
Auto comprehensive coverage is usually provided on an open perils basis. It covers direct damage to your vehicle for any non-collision cause of loss that is not otherwise excluded. Most auto policies have no exclusion for viruses, but if someone with the flu should cough and expectorate while in the vehicle, how many insureds would file auto insurance claims? None. You either clean the vehicle or wait until the virus is dead. The same holds true for property insurance. In the springtime, my vehicle often is covered in pollen, something that could create a hazard for someone with respiratory issues. But I don’t file an auto insurance claim, I just wash the car or wait for the pollen to be removed by rain.
How is debt service treated in a BI claim?
According to forensic accountant and business income insurance expert Scott Burrell, CPA, CFF of Business Interruption Consulting, “Debt service is a tricky item. If the debt service is directly related to the property loss, such as a bridging loan to fund construction, the debt service can be included as an extra expense in the claim. If it is normal debt servicing it can be included as part of the fixed expenses, however, most BI claims are calculated on operating profit which is before interest and taxes. So, this one is more related to the actual loss in question as to whether or not it would be part of the BI claim.”
What are your thoughts on a government backstop for pandemics, similar to TRIA?
TRIA has never been tested. We don’t know if it works or not. The primary administrator is the private insurance industry and the government simply provides a financial backstop somewhat similar to the federal flood insurance program…and we know how well that works financially. Most terrorist attacks are likely to be fairly isolated and not have a direct impact on the entire country, unlike a pandemic.
TRIA coverage is optional. I don’t believe it’s possible to provide pandemic coverage on an optional basis because of, among other things, the potential for adverse selection. Again, look at the NFIP. Why would “essential” businesses buy it? Are unemployment compensation taxes optional? Following the civil unrest of the late 1960’s, a civil disorder charge was applied to all property policies in most parts of the country. It was not an option.
There is also the issue of how private industry can adjust millions of claims in a very short period of time. We already know the beating the industry takes when there is a hurricane in a limited geographical area simply because there are not enough competent claims adjusters to go around, and the competency required of a business income adjuster is far greater than an ordinary claims adjuster. PLUS, instead of hundreds or thousands of claims, there are millions of claims in the case of a pandemic. Business income policies are simply too complex to be adjusted without special expertise and the manpower does not exist to handle the number of countrywide claims that are likely to be made.
For more information, check out the PRIA vs. TRIA article in the listing at the end of this Q&A.
It appears the courts are active as it relates to workers compensation coverage and the pandemic. What can we learn from that as it relates to BI?
We won’t know until some decisions are handed down. And, regardless of what the trial courts decide, these cases are likely to be appealed. Decisions at the circuit or chancery trial court level are a crapshoot, especially with claims involving complex contracts like insurance policies.
IF there are adverse decisions, what the industry usually learns is that, if you never intended to cover a particular risk, you need to review such decisions and bolster the language to make it clear and unambiguous. Regardless of the decisions, I would anticipate carriers adding more ironclad exclusions dealing with pandemics or other kinds of potentially catastrophic and uninsurable losses.
How do you see captives being utilized in the future to deal with the challenges of pandemic BI coverage?
I am admittedly not an expert on the subject of captives, but I don’t know how you would use a captive to insure against a pandemic. For one thing, I would suspect reinsurance would be very limited, if available at all, and very expensive.
For what it’s worth, here is an interesting law firm article that explores some of the issues: "Captive Insurance Opportunities and Solutions Post-COVID-19" - Morgan Lewis & Bockius LLP
Do you believe the pandemic will change policy wording going forward for commercially available products?
Yes. I believe that insurers that don’t have virus and/or communicable disease exclusions will add them. Those with virus exclusions may very well expand them to include other types of pandemics or even other types of catastrophic exposures. The challenge will be drafting language that will hold up in court.
I read a blog post this week whose author asserted that insurance policies are so long and complex because insurers want to confuse insureds and obfuscate coverage. “Tergiversation” is the term sometimes given to intentionally ambiguous contract language, translated to “weasel words” in the vernacular. Nothing could be further from the truth. It is in the insurer’s best interest to have unambiguous policy provisions because the insured almost always wins when policy language is deemed by the courts to be ambiguous. The hard part is drafting unambiguous language and what you get through decades of that effort and court decisions are the policies we see in the marketplace today…complex contracts written by and for attorneys.
Captives have historically made attempts to cover a broader definition of BI liabilities. But the vocabulary and our industry knowledge will be impacted by this pandemic. Have you seen any unique policy wording used by a captive, or can you suggest verbiage that you believe would have worked well during the current pandemic?
By “work well,” are you referring to language that would cover or exclude losses? We will know what verbiage works well (for coverage or lack thereof) when the judicial dust settles. I reviewed one policy that expressly covered SARS viruses and their mutations and the insurer STILL denied the claim. I suspect they will lose in court if this is their only basis for denial.
Insurance companies believe that pandemic related BI claims are not covered due to exclusions in their policies. How do you see these exclusions changing/evolving in the future?
I addressed this in some other questions above. I think the ISO virus exclusion will hold up in court, though I would not be surprised to see exclusions of this type expanded beyond viruses and bacteria to include any potentially catastrophic pathogen, pandemic, or perhaps other type of widespread losses such as those that allegedly may arise from global climate change.
How will litigation impact the future of business interruption coverages? Will it lead to a narrowing definition of the terms (triggers) of coverage or broadening interpretation of what is/isn't covered?
Again, I think I addressed this above. We really won’t know until we see how the courts at and above the appeals level respond to these suits. This may very well take many years. In the meantime, I think you’ll see changes in policy language to inarguably exclude pandemics and perhaps a governmental response with something akin to unemployment compensation.
What are some anticipated changes in the policy language?
See the string of comments above.
How will the pandemic change the way BI coverages are written? Will insureds be more inclined to purchase standalone BI coverages or add endorsements related to BI as part of their property policy?
Again, see prior comments. One change I will note here involves Business Owner Policies (BOPs), most of which include 12 months of business income coverage with no dollar limit. I would be surprised to see that model continue given recent events. If coverage is found under these forms, I think there is probably a certainty that such broad coverage will disappear or be limited only to certain perils.
Do you foresee any actions by the ISO to revise their standard policy language?
I suspect ISO may introduce underwriting options for carriers that include very broad catastrophe exclusions.
A growing number of states have proposed legislation related to business interruption. Do you think a federal TRIA-like bill is necessary and what, in your opinion, are some aspects that should be included in the bill?
See my comments under an earlier question and in the article linked below regarding PRIA vs. TRIA. I don’t see a TRIA-like bill working. I don’t think the insurance industry would support it at all. Pandemics are simply uninsurable by the private sector.
I’d be more inclined to see a mandatory federal program based on the unemployment compensation system and tax supported. Perhaps the unemployment compensation program could be modified so that, in the case of pandemics, there might be tiers of compensation to ensure that payrolls are covered, from (1) workers who are gainfully employed by “essential” businesses getting some extra hazard pay to (2) workers who are employed by businesses experiencing a slowdown or curtailment of operations to (3) workers who are truly unemployed receiving some percentage of their pay.
I read that Lloyd's of London has been sued (SCGM Inc v. Certain Underwriters at Lloyd's) for not covering COVID because it is not one of the 25 named diseases under the Pandemic Event Endorsement. What are your thoughts on this case?
I have not seen all of the documents, allegations, or bases for denial on this case, so I would address it only in general based on what has been made publicly available. As I understand it, this policy specifically covered SARS-CoV “and its mutations, and variations.” Given that this sure appears like the SARS-CoV-2 virus is a mutation or variation, I’m at a loss why the claim has been denied but, again, I’m not privy to the details of the denial, so I can’t say for sure.
Several state legislators are contemplating legislation that would require the insurance company to cover COVID-19 related losses. Do you believe any of these efforts will be successful?
I suspect they have as much chance of becoming law as I do of being Joe Biden’s VP choice. Most legal experts agree that the legislation thus far is likely unconstitutional and otherwise wrong. I would be surprised, to say the least, if any of them so far could pass attorney general scrutiny or court challenge.
People see multi-billion dollar reserves and surplus and think that is just “play” money. However, most reserves (e.g., loss and unearned premium) are designated for insureds who have paid a premium for what their policies actually cover. They don’t technically belong to the insurer. Surplus funds exist because the actuarial sciences are not perfectly predictive and they provide an opportunity for expansion of operations and the underwriting of new exposures.
The bottom line is that the typical consumer (including legislators) are clueless about how and why insurance works the way it does. The industry must shoulder some of that blame, especially when we spend billions of dollars each year on trivial advertising instead of telling our story about who we are, what we do, and why we do it and investing in the education of consumers about how critical and indispensable the industry is.
COVID-19 Articles by Bill Wilson
This is what I’ve written on the COVID-19 pandemic (not counting the dozens of comments on LinkedIn):
- "Business Income Insurance…Does It Cover Coronavirus Shutdowns?”
- “COVID-19 Civil Authority Orders and Legal Gamesmanship”
- “Having Your COVID-19 Cake and Eating It Too”
- “Is a Viral Contamination ‘Physical Damage’?”
- “It’s Not Just About ‘Direct Physical Damage’”
- “Is Cleaning a Surface Contamination a “Repair”?”
- “Does THIS Policy Cover Business Income Losses Due to the Coronavirus Pandemic?”
- “Business Income Coverage and COVID-19…What If There IS Coverage?”
- "Here we go again: another unsubstantiated and unsupported accusation"
- “How the Insurance Industry CAN Help With the Coronavirus Pandemic”
- "Potential Adverse Implications of the Coronavirus on Personal Lines Coverages"
- “Has the Pandemic Created Coverage Gaps You Haven’t Thought Of?”
- “Insurers Should Deny AND Cover COVID-19 Claims the Right Way”
- “COVID-19 and Possible Agent/Broker E&O Claims”
- “Government Mandates that Insurers Pay for Uncovered Claims”
- “PRIA vs. TRIA…Would a Federal TRIA-Like Backstop Work for Pandemics?”
Feel free to use this information as you see fit. All of my blog posts at www.InsuranceCommentary.com can be reprinted without express permission. I just ask that attribution and copyright be included, as outlined on the Reprints page on my web site (the link is at the bottom of every page on the web site). You can subscribe to my blog for free, Each Wednesday, an email goes out to subscribers with links to all of the blog posts made during the prior week. No doubt the list of COVID-19 articles above will have expanded by the time you read this.
Bill Wilson, CPCU, ARM, AIM, AAM is the founder and CEO of InsuranceCommentary.com. He is a 50+ year veteran of the P&C insurance industry. His web site is www.InsuranceCommentary.com and his email address is Bill@InsuranceCommentary.com.
We welcome your feedback by posting a comment or contacting us at support@SIGMAactuary.com.
© SIGMA Actuarial Consulting Group, Inc.