Understanding your business insurance deductibles can be tricky, but it’s a valuable part of managing your insurance costs and having a solid knowledge about why those costs are what they are.
What is an Insurance Deductible?
A deductible is the amount of money you’re required to pay out of pocket before your insurance policy applies coverage. In other words, it's the amount of money a small business is responsible to pay for any claim submitted. The insurance carrier covers the remaining amount owed. A deductible helps keep the cost of business insurance affordable.
The Types of Deductibles
- Percentage Deductible: This is where the policy-holder agrees to pay a percentage of a property's value.
- Waiting-Period Deductible: This usually falls under a business interruption policy. The small business must be inoperable for a certain amount of time to qualify to receive payments.
- Flat Deductible: This is the most common type of insurance deductible. You pay one flat rate no matter the amount of the loss.
What Types of Insurance Policies Typically Have Deductibles?
Most insurance policies have some sort of deductible, including but not limited to:
- General Liability Insurance
- Commercial Auto Insurance
- Commercial Property Insurance
- Professional Liability Insurance
- Business Owners Policy
How An Insurance deductible Works
An insurance deductible is a fixed amount—or sometimes a percentage of an insurance claim— which is what the insured person has to pay before the insurance kicks in.
Example: If you have an insurance policy with a $1,000 deductible and you file a claim for $30,000, you have to pay $1,000 before the insurance company issues a check for the other $29,000.
When you file a claim with an insurance company, an insurance adjuster will determine the cost of the losses sustained and what you’re owed to repair or replace the item or property.
How to Choose a Business Insurance Deductible
You are generally going to be able to choose the deductible amount you are comfortable with above a standard deductible which the insurance company has set. This gives you some control over the cost of your policy. Generally speaking, the higher the deductible, the lower the premium is on the policy and vice versa.
How to Weigh Your Decision
It pays to weigh the risk and the impact of a loss as well as the premium amount against your cash flow analysis. While it may make sense based on your monthly cash flow to pick the highest deductible and lowest premium, it may be exposing your business to serious risk. If your business’s budget would be crippled by producing the money to cover a high deductible in the event of a loss, then it’s probably too high of a risk.
Replacement Cost Vs. Actual Cash Value
While deciding on the deductible, another aspect to review is how you will recoup your loss. Typically, you’re given the option of a replacement cost vs. actual cash value. An actual cash value basis is the cost of replacement minus depreciation. This type of policy tends to be less expensive than a straightforward replacement cost policy. A replacement cost policy will repair or replace the insured property at its present cost without depreciation. A replacement cost policy will have a higher premium than an actual cash value policy.
Determine the deductible you can afford
It’s important to understand the impact of a deductible on a small businesses' cash flow. Deductibles can usually be negotiated or have a tier system to choose from depending on the coverage. As previously mentioned, the higher the deductible, the lower the premium cost and vice versa.
Example: With a $1,000 deductible, a premium might be $1,850 a year. But with a $2,500 deductible, the policy premium drops to $1,060 a year.
You have to determine the risk and exposure for each policy type your business has in place or may need to add. Depending on the risk, and the type of insurance, it may make sense to pay a lower premium and a higher deductible for your business.
While this would certainly be a good thing for cash flow, some risk may be high enough to justify the lower deductible and higher premium. Look at the risk and make sure a claim wouldn’t jeopardize the financial solvency of the business. Work with your insurance professional to maximize coverage while making the premiums affordable.
Property insurance deductibles can also be figured by an individual claim basis or an aggregate basis. Typically, small companies with no or few claims will find the individual claim basis attractive. However, if your company or industry has a large number of claims annually, it may be prudent to look at the aggregate basis.
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