For most small-business owners, landing a big client is a dream – until they find out the contract requires them to have insurance they don't already have. That can force them to scramble for coverage or wave goodbye to a hefty paycheck.
Requiring coverage like Professional Liability Insurance in a contract might seem like overreach, but it's actually a fairly common practice. We talked to business lawyers to find out why and when contracts require coverage.
Why Do Contracts Sometimes Require Small Business Insurance?
"Most plaintiffs' attorneys are going to zero in on the party with the most insurance because they know that party will either sell or have the means to pay a judgment against them," says Legrand. "If someone you were working with does not have insurance, then your business could become the target of that lawsuit."
Figuring out who is responsible for any given event is seldom black and white. Just look at the situations in "Who's Liable? Maybe Not Who You Think?"
And it's not just a potential legal defense they're worried about. Francine Griesing, founder and managing member of the law firm Griesing Law, LLC (@GriesingLawLLC), says they could end up "paying their deductible amount, having premiums rise, or having to pay for uncovered amounts."
Legrand adds, "It shows that the business you were working with follows solid business practices. If that person doesn't have insurance, then what other advice are they ignoring?"
When Do Contracts Require Small Business Insurance?
According to Jeff Cassin, counsel at the corporate law firm Scarinci Hollenbeck (@S_H_Law), you typically see insurance requirements when there is a situation where one person has an obligation to protect the other. In those cases, he says the business owner wants "to make sure that the protection is backed up by insurance rather than backed up by something less substantial."
Cassin says insurance obligations may be required more frequently in some industries, like construction. As an example, he says to imagine hiring a plumber to solve a minor problem, but the installation doesn't go well and causes water damage. He says as the business owner, you want to make sure they're covered by insurance.
Griesing says a business owner may also require insurance when…
- There is a risk of personal injury or property damage caused by a good or service. For instance, she says a retailer may want a manufacturer or distributor to have coverage. (Related reading: "Defective Products & Product Liability: A Small Business Primer.")
- They rent out commercial space. Griesing notes commercial landlords often have tenants maintain a minimum amount of General Liability coverage for claims that happen on leased property. (Related reading: "Why Your Commercial Lease Requires Liability Insurance.")
- They contract for the right to use licensed technology. According to Griesing, the business owner wants coverage in case there's an infringement claim or the technology malfunctions and causes harm.
While insurance requirements are common, Cassin notes, "Not all contracts require insurance."
Moreover, the type of coverage required depends on the situation.
"There are lots of different types of insurance out there," he says. "So having a relationship with a good broker who actively tries to educate you on where your coverages are needed so you don't get too much or too little is important."
About the Contributors
Jeffrey K. Cassin devotes his practice to mergers and acquisitions (M&A), business transactions, and corporate law. He has extensive experience in acquisitions and divestitures, including mergers, acquisitions, and dispositions of assets, stock, LLC interests and partnership interests, recapitalizations and other similar transactions, and business-to-business and business-to-consumer agreements as well as corporate and LLC governance matters. Throughout his career, he has drafted numerous LLC operating, shareholder, joint venture, and partnership agreements and other corporate formation and organization documents. (Photo credit: Alexandra Scelia)
Francine Friedman Griesing is founder and managing member of Griesing Law, LLC. With over 30 years' experience, Griesing is a valued strategic advisor to top executives and general counsel in the Philadelphia region and for the largest US corporations and institutions. Her practice focuses primarily on providing clients with a high level of expertise in defending high stakes litigation arising out of complex business transactions and handling sensitive employment matters for corporate clients through litigation and alternate dispute resolution. Griesing is an honors graduate of Binghamton University and the University of Pennsylvania Law School.
Andrew Legrand is the founder of Spera Law Group, LLC, a cloud and paperless law firm in New Orleans. He helps small-business owners create and protect successful companies. As a tech nerd with a law license, Legrand also works as a technology consultant for Paperless Chase and has presented at the American Bar Association's TECHSHOW, ClioCloud9 Conference, and multiple CLE seminars presented by the Louisiana State Bar Association.