Reading the Fine Print to Avoid E&O Exposure

Just because a carrier’s form shows the policyholder has XYZ Coverage does not necessarily mean they have XYZ Coverage in the real world. And yet, I find that few agents understand or know this. And even when they read the words on the form, they don’t understand the implications, especially if they don’t know enough about working capital, loans and finance — knowledge which most agents are lacking.

A great example is coverage where the carrier only pays reimbursement. Traditionally, a carrier pays the claim less the deductible and the insured only must pay the deductible. However, with reimbursement clauses, the insured must pay the full claim first. Then, in theory, the carrier will “reimburse” the insured.

If you are selling such coverages and not advising the client appropriately, you are opening yourself and your agency up to errors and omissions (E&O) exposures.

For example, let’s say a claim is $250,000. The insured must have or find $250,000 and pay the claim. Whether that is the full amount, or if more must be paid in the future, is another potential problem.

How many of your clients have that much extra cash sitting in the bank? If they have all that extra cash, they might consider a more sophisticated insurance plan anyway so it’s a good guess that if they’re buying a reimbursement policy from you, they are not cash rich.

If they don’t have the cash, where do they get it? As the old saying goes, banks only want to lend you money when you don’t need it.

A business has a loss and must find $250,000 in cash. They go to the bank and request a loan. Whether they get the loan depends on their balance sheet and income statement. If they already have a lot of debt, getting a loan may be problematic. They could pledge the “reimbursement” from the insurance company and maybe the bank would use that expected payment as collateral.

If the insured’s business is at a standstill until the claim is covered, getting that loan will be tougher. How fast do banks typically provide loans? Are they going to put the money in your client’s account that same day? So now, the insured is bleeding working capital that is not going to be reimbursed, unless that is also covered, until they get the cash. The loss is now materially larger, potentially necessitating an even larger loan.

How quickly do insurance companies generally pay? And how long will it take to verify all the coverage requirements apply?

At the least, there will likely be some delays. These delays may be no worse than under a regular indemnity form, but the difference is your client has written a $250,000 check, perhaps borrowed money upon which they are paying interest, and is likely unhappy with you for selling them a reimbursement form.

There is no promise the carrier will reimburse the insured for all the expenses the insured incurs and perhaps the client is already thinking they will be fully reimbursed. Plenty of room exists for misunderstanding exactly for what your client will be reimbursed, causing even more friction.

Fortunately for professional agents, there is a solution:

If you do not know how to read financial statements, don’t sell reimbursement insurance policies or learn to read financial statements. It is unethical to sell reimbursement forms without knowing how a reimbursement situation might impair a client’s cashflow because if they don’t have the money, the carrier likely never pays the claim. Have you advised your client of this scenario?

Why do carriers use reimbursement forms/clauses? In workers’ compensation, there are some legal reasons based on filings and such.

But in other coverages, they use reimbursement clauses to save money. They do not have to pay claims as quickly. They may be better able to shut the door on future claims, making their reserving more certain. And, because so many agents do not know what they are selling, and insureds don’t know enough about insurance to understand the implication of reimbursement clauses, they almost certainly will pay fewer claims.

Nothing unethical exists relative to reimbursement forms at the carrier level providing they pay covered claims without delay upon receiving adequate proof of the insured’s payments.

Some people might think these forms are a little sleazy, but I do not see it that way. The carrier has found an alternate method for covering claims, and it is the agent’s job to know and understand what they are selling.

The form may have the best, broadest most comprehensive coverages on the market. But if the insured does not have the cash with which to pay the claim initially, there is minimal to zero coverage.

And if you are prospecting clients that have reimbursement coverages, odds are high the incumbent agent has not explained the situation to the insured.

These situations should be prime low hanging fruit for making new sales. Use your professional knowledge to capture those new sales.