Why Commercial General Liability insurance quotes can vary dramatically

January 25, 2022

When foreign companies first set up in the U.S., one of the first items on their checklist is insurance. If being proactive, they can start the process of finding insurance before they’ve signed any commercial contracts, or they can find themselves contractually obligated to carry insurance upon signing their first sales/service agreement with a U.S. client.

Lacking a pre-existing relationship with an insurance broker, foreign companies often start where most consumers do – by searching online or asking for a recommendation from their contacts. This generally culminates in one, or more, insurance coverage quotes comprising policy limits, terms & conditions and exclusions/riders. In our experience, these quotes aren’t easily digestible -  firstly, they are lengthy – a quick survey of the quotes we’ve seen over the last few months range from 12 pages to 77.

Secondly, they include terminology exclusive to the insurance industry that most business owners aren’t likely to have seen before (e.g. “surplus line carrier”, “advertising loss” and “rating basis”), and don’t necessarily have the patience to figure out.

Thirdly, quotes can vary widely and it’s not always clearly apparent why. For example, we recently had a case where the insurance quotes ranged from $9,000 per year to $25,000. The reason they varied so wildly wasn’t the quality of the coverage, or because one carrier was engaging in price gouging – instead it was because of different estimate/input data.

To understand how this can happen, a review of the factors that determine an insurance quote is helpful. Firstly there’s the ISO (Insurance Services Office) industry classification. Obviously the chances of the policy holder being sued for property damage/personal injury in some industries is higher than in other industries, so these codes help the insurer to determine the general category of risk they’re dealing with. For example, a small law firm with virtually no footfall is less likely to be sued for personal injury than the owner of a grocery store with a few thousand of customers each day.

Secondly there’s the exposure – this is the number (sometimes a dollar figure, sometimes simply a number) that acts as a proxy for the company’s size. For a manufacturer, the exposure might be measured in sales volume. For a doctor’s office, it might be measured in number of patients. For a warehouse, it might be measured in square footage. The exposure is divided by 1000 for purposes of premium calculations (as set out below)

Finally there’s the rate which is basically the multiplier – the lower the rate, the lower the risk, the higher the rate, the higher the risk. Confusingly, it’s expressed as a rate that’s tied to the exposure -e.g. a rate of $7.00 would be per $1000 of gross sales.

As this plays out, a company with $2,000,000 in project sales in a low risk industry might find itself with a rate of $2.00, which would mean a premium of $4000 ($2mm divided by 1000 and multiplied by 2).

So the reason for the wildly differing quote was due to a different rate – the rate for one was $7.00 for the other it was $14.00. The reason was that the two carriers were using different classification codes – one used a less risky classification, while the other a higher risk one. The company had a product that straddled both categories. The purpose for classifying industries is to ensure that “the rate for each classification reflects the hazards common” to companies in within the classification. So what’s the risk here? Provided the company was forthright regarding it’s products/services and the classification is clearly not a mistake, they’ve found themselves a good deal, and the insurer a less profitable one. On the other hand, if the company clearly hid their actual business from the insurer, the carrier could claim misrepresentation and seek to rescind the contract. It should be noted that there are certain classification codes that trigger the inclusion/exclusion of other language and so can have a knock-on effect on coverage meaning it’s always a good idea to be clear about the classification used to ensure there are no unforeseen consequences.