How Business Overhead Insurance Works
What Business Overhead Insurance covers, how it's underwritten, and tax treatment.
The purpose of Business Overhead Insurance is to reimburse for expenses so that the business can keep running while a producing business owner is unable to work for health reasons or has returned to work at a reduced capacity. In some cases, the goal is to cover the assistant's salary without charging the firm's general expense account.
These benefits are usually for less than three (3) years in order to allow enough time for the principal to recover or buy time to sell their business equity at a fair market price.
This risk is important for professionals in small practices, such as doctors, lawyers, accountants and architects where each person is effectively responsible for his or her share of overhead expenses and may have a book of business to service. Without it, the professional may lose clients, goodwill, and employees.
The fundamental need for Business Expense Insurance is to cover the overhead while a producing principal cannot work at full capacity for health reasons. During the underwriting process, insurers attempt to dissect whether a significant financial loss would actually occur without the producing person. A small firm of three producing practitioners, for example, would clearly financially suffer if even one of them were disabled, while a larger firm of twenty producers may be well insulated except for the expense of the disabled partner's assistant's salary. The underwriting process takes into account the nature of the business, the occupation, the number of producing principals and the number of employees that are doing the same or similar work to generate business revenue.
If the owner does not significantly contribute to the generation of business income through his or her own production efforts, additional underwriting questions may be asked in order to determine financial dependency.
Most Business Overhead Insurance policies pay for fixed monthly expenses that are ordinary and necessary for the operation of the business. Examples include employee salaries, equipment lease payments, rent, utilities, insurance, taxes and office supplies. Professional labor substitution is also commonly covered, although some policies require a special rider for it. Expenses that are not commonly covered would be renovation or remodeling of the office, the purchase of new equipment, and the cost of goods sold. The reason cost of goods sold is not covered is that it presumes income generation activity of the individual who is, of course, not actually producing.
Benefits normally begin after a waiting period (also referred to as an Elimination Period) or 30, 60 or 90 days. The benefit amount is normally somewhere between $5,000 and $30,000 per month, although higher amounts are available, and typically pay for at least twelve (12) months. Benefit Periods of up to thirty-six (36) months are available. The length of the Benefit Period is determined by the business at the time of application, normally based on how long it would take to sell business equity at a fair market rate give the owner time to recover before a selling decision would have to be made.
Most Business Overhead insurance policies provide some kind of increase feature where the coverage amounts increase with inflation or business expansion.
What happens if the monthly benefit is not used? In such cases, surplus benefits carry over to subsequent months and can be used as reimbursable expenses occur.
Another unique feature available in many modern policies is the ability to convert a business overhead policy to an individual income protection policy with no medical underwriting. This can be very valuable if a principal decides to part ways with the practice.
Tax Treatment of Business Overhead Insurance
Premiums are tax deductible as a general business expense. Benefits are technically not tax exempt. However, this is offset by the expenses which are tax deductible, resulting in a tax-neutral benefit.
How to Request Proposals
Business Overhead proposals require certain information relating to ownership. Group insurance does not require health history information and is most appropriate for groups of ten (10) or more. Otherwise, individual policies are used and will require health information to qualify. Both group and individual versions of Business Overhead Insurance can be requested here.