What is Run-Off Insurance and do you need it?
There’s no great mystique to run-off insurance. The key to understanding this cover is getting to grips with the “claims made” nature of the protection.
Given that you’ve probably been purchasing professional indemnity (PI) insurance for some years, you’ll appreciate that PI policies are all underwritten on what is referred to as a “claims made” as opposed to “claims occurring” basis.
Claims made explanation
An insurance policy that responds to a claim (or an event that may lead to a claim) that is first notified to the insurer while the policy is actually in force, i.e. a claim made during an insured period. The event giving rise to the claim could have occurred before the policy started or when you were insured by another insurer.
Example policies: Professional indemnity, professional indemnity run-off, and directors and officers cover.
Claims occurring explanation
An insurance policy that responds to a loss that actually happened while the policy was in force. So, if you’ve switched insurers since the event, it will be the insurer that provided the insurance at the time of the event that would deal with the claim.
Example policies: Employers’ liability, public liability, and car insurance.
The “claims made” nature of professional indemnity insurance means that a professional indemnity policy still has to be in force to ensure that you are covered should a claim be made against you or your former practice for work undertaken in the past.
To ensure you are protected, a run-off professional indemnity insurance policy must be purchased and maintained whilst the professional liability period to your clients runs off.
Run-off cover is a professional indemnity insurance policy that comes into effect when you or your employees stop trading, and any claims made under it will relate to work carried out before the policy started.
How does run-off work?
Professional indemnity insurance provides protection to firms, whether they are limited companies, or partnerships including LLPs or sole traders. It covers the business’s principal or partners, the directors, and the staff both past and present. A professional indemnity run-off policy will provide indemnity to cover the cost of defending any claim made against those insured under the policy and will reimburse the losses occurring should the claim be upheld against the insured parties.
Retirement is a typical reason for purchasing run-off insurance and we find it is particularly popular with smaller firms or sole traders. With larger firms, the business is often sold or taken on by a younger principal who maintains the professional indemnity cover and therefore provides the run-off under that policy. However, this is not always the case – the new owner may not wish to have the responsibility of the legacy liabilities and equally, the outgoing incumbent may not want the responsibility of his liabilities being trusted to someone else.
The consequence of both scenarios is that it is necessary to keep a run-off policy in force after retirement to cover any claims that may arise in the future.
Who needs it?
Anyone acting as a specialist, expert or consultant could be held responsible for negligent acts, errors and/or omissions by clients who claim reliance on the services or advice provided.
Going into run-off
Once you have decided you need to provide run-off insurance for your business, you need to advise your current insurer/broker. If your policy has a while to run before its renewal date, you will need to inform your insurer/broker that you have ceased trading. They will attach an endorsement to your policy stating that cover will not be provided for any service or work provided after that date (the run-off endorsement date). At the next renewal, the insurer will offer run-off renewal terms and may ask you to complete a proposal form to establish work you have undertaken since the last renewal to the date your company closed.
You will then have the option to either take up the run-off policy or not. If you renew the policy, it should carry the same terms and conditions as the previous policy, but it will also now include the new endorsement noting the run-off date. Insurers will respond to any claims notified or made against you during this new policy year so long as the work was undertaken prior to the run-off date.
If you choose not to take up a new policy and make any alternative arrangements, your professional indemnity cover will cease and any claims brought against you for work undertaken in the past will be uninsured.
You should remember, even spurious or speculative claims require a defence and without professional indemnity insurance cover these can be damaging.
Traditionally, run-off insurance is maintained in this way every year for up to six years (72 months). Six years is the period many professional bodies require their members to carry run-off professional indemnity. This is therefore a good benchmark to use for all professions. That said, there are other factors that should be taken into account when considering the period that run-off needs to be maintained for and which may result in a shorter or longer period of cover being more relevant.
What is the cost of run-off?
The problem with run-off insurance is that a premium still needs to be paid each year, even when there is no further income coming into the practice to pay it. Generally, the premium in the first year after closure is the same as the last year of trading. The tail-off of potential liability takes a number of years to show any significant decrease, so from an insurer’s perspective, there is as much chance of a claim in the first few years of run-off as before.
After the first full year of run-off, premiums should start to show signs of reducing and we would normally expect them to fall by between 20% and 25% per annum subject to claims and the market rates not increasing.
Single premium multiple year run-off
A popular solution is to purchase a multiple year run-off policy that is payable by a single up-front premium. Not all insurers provide run-off cover on this basis, but cover can be purchased for any period between 12 to 72 months.
If you are thinking about retiring and/or planning your exit strategy, run-off insurance is an essential consideration – or in some instances, a compulsory one depending on your professional body. We would recommend that you purchase this insurance to ensure you have the protection you need in place should any potential future claims be made against you. It offers peace of mind and financial assistance when you need it most.
Speak to your insurance broker about the length of run-off cover you may need, as it will vary depending on the nature of work you’ve carried out over the years.
ICAEW is an Introducer Appointed Representative of Jelf Insurance Brokers Limited. Mash Commercial is a trading name of Jelf Insurance Brokers. Not all products and services offered are regulated by the FCA (for details see www.marshcommercial.co.uk/info/regulations/). Registered Office: 1 Tower Place West, London EC3R 5BU.
Go to London Accountant for more features, news and opinion.
Follow us on Twitter @ICAEW_London and join us on LinkedIn: LSCA and Croydon.
Subscribe to ‘regional updates’ to receive more articles.