By Sean Sarsfield & Julia Mast
June 2020

For anyone who has ever experienced a loss due to a natural or human-made disaster (and now a pandemic), picking up the pieces and getting your business back on track can be a difficult task. The recovery time is longer than anyone would hope for, and working through the insurance claim process, even when you have the appropriate coverage, can be frustrating. Having a basic understanding of your insurance policy, its terminology and the methodology used to calculate your loss can help streamline the process and leave you better equipped to deal with issues as they arise.

Simply put, the purpose of business interruption coverage is to recover lost business net income that occurred as a result of an adverse event. Unfortunately, once you begin to read your policy, you’ll find that there is nothing “simple” about it. The terminology used in most policies will likely be unfamiliar to most professionals and the language used is often vague in terms of how the policy should be applied. To help you understand the basics, we’ve included a list of the most commonly used terms and what they typically refer to within the framework of an insurance policy.

• Covered Cause of Loss – In general, insurance will not cover you for a loss of income under every circumstance; the coverage is based on the specific event or “cause” of the loss of income. This is a very particular nuance to insurance coverage and can be the difference between your claim being accepted and rejected. You will need to identify the origin of your loss and how it fits into your coverage at the time the loss occurred.
  
  
• Exclusions – As one would expect, these are the cause(s) of losses, property, etc., that are specifically excluded from a policy. Be careful when applying the exclusion coverage to your specific type of loss, as exclusions tend to be generalized.
  
  An example would be a business with offices located on the 10th floor of an office building that has temporarily flooded. As a result of the flooding, the landlord temporarily locked up the building for repairs/remediation and the business is unable to access its offices on the 10th floor. Since their business operated from the 10th floor of an office building, the owners of the business never worried about an exclusion in their insurance policy for losses stemming from water-related issues. Given the circumstances of this example, the business would have its claim for lost business income denied because water was the ultimate cause of the loss.
  
  
• Extra Expenses – These are the expenses you incur, outside of your normal operating expenses, to continue operations after sustaining a loss. Or, more simply, you may have incurred expenses that you would not have incurred if there had been no incident resulting in a loss. Often, extra expenses are needed to mitigate damages. These could be expenses related to restoring power, cleanup after a disaster, temporarily outsourcing business activities, rental of additional space to relocate personnel/equipment, etc. Extra expenses can sometimes be an entirely separate area of coverage (outside of business interruption language) in an insurance policy, so be careful when attempting to identify the specifics of your coverage.
  
  
• Limitations – The definition of limitations can vary by policy, but they are often caps on the amount of loss that can be recovered for a claim. The limitations can be a set dollar amount or a limit on the period of time a loss is covered for, or it can be capped in some other way. A simple example would be a monetary limitation on lost income of $100K or a time limit of six months of lost income.
  
  
• Mitigation of Damages – With any policy, it is important to remember that you have a duty to mitigate your damages, meaning you must take reasonable action to reduce the loss and avoid additional damages. This is a very important consideration, as insurers usually win legal challenges concerning lost income and extra expenses that could have been avoided had the insured taken reasonable action to mitigate. Extra expenses, described above, are often incurred to mitigate damages.
  
  
• Waiting Period – This is a defined period of time during which the insurance carrier is not responsible for any loss that occurs. This provision is sometimes provided in lieu of a deductible and has a typical duration of 24 to 72 hours after the loss event occurs. In some instances, the waiting period is treated like the insurance deductible. In others, there is a waiting period and a deductible.
  
  
• Period of Restoration – This is generally regarded as the length of time necessary to return the business to the condition it was in before the injury occurred. This is worded in different ways. For example:
  
  
  • A set number of days, e.g., 90 or 180 days;
    
    
  • Earlier of the date of restoration to same or equivalent operating conditions, or a set number of days;
    
    
  • A “reasonable period of time” one would have anticipated that the business would need to return to normal operations. Typically, insurance companies will not cover extra expenses or loss of income for any unexpected delays that lead to a longer recovery time. As an example, assume a building was damaged as a result of a covered cause of loss and the period of restoration was 180 days. Construction needed to make the necessary repairs was expected to take six months. There would be no additional coverage if the construction was delayed due to weather, an employee strike, etc., meaning there would be no additional coverage for the loss of income or extra expenses because construction took longer than 180 days.
    
    
• Triggering Event – This is an event that “triggers” coverage to kick in. The coverage will apply based on the initial event that eventually led to a loss being sustained. The policy may choose to specifically include or exclude certain types of triggering events. “Acts of God” and orders by a “civil authority” are examples of potential triggers that are not always clearly defined within an insurance policy and can differ based on the type of coverage; e.g., direct physical loss from a hurricane compared to a reduction of foot traffic.
  
  

Another item to be aware of when reviewing your policy is the methodology used to determine the amount of lost income to be recovered. Some policies use their own definition of “profit” or “income” to determine the amount to be paid on a claim. These definitions do not often fit with the business owner’s expectations or the traditional accounting definitions of these terms. While some policies provide a very mechanical process for determining the amount to be recovered, others can be vague and avoid committing to a specific calculation methodology.

One last tidbit of information to help you regardless of the nature of your claim and the type of business you own: We recommend that you be extremely diligent in maintaining your financial records after an incident occurs. Continue to track traditional business operations in addition to any additional expenses incurred and preserve any supporting documentation that may be relevant to your claim. Consider opening a separate general ledger account to track loss-related expenses. Consider adding more detail to time reports for additional time or bonuses paid in a period of restoration. Assume this information will be heavily scrutinized and any omission of information may result in a claim being denied.

Always check your insurance policy for coverage of professional fees, sometimes referred to as “forensic expense,” which typically covers reasonable and necessary expenses incurred to put together the business interruption loss, or proof of loss. This may offset or cover fees paid for a forensic accountant to walk beside you during the loss, pull together the calculation and work with the adjuster to come to an agreeable resolution to your claim.

Finally, be sure to notify your carrier that you have a claim as soon as reasonably possible after experiencing a loss event. Depending on your specific coverage, an excessive delay in notifying your carrier that you have a loss can result in a rejection of your claim. There is significant ambiguity with these policies regarding coverage. We recommend our clients seek advice from attorneys familiar with first-party claims who will be able to provide guidance on potential coverage in their state/jurisdiction.

About the Authors:

Sean M. Sarsfield, CPA/CFF, CFE, CVA, is a member of BKD’s Forensics & Valuation Services division and provides a broad range of litigation support and investigative services with a focus on litigation matters which require forensic accounting, economic damage quantification or valuation related services. He also provides fraud detection and investigation services when allegations of embezzlement, financial reporting fraud and other forms of white collar crime are involved. In litigation matters, he has determined economic damages resulting from breach of contract disputes, business interruption and matters involving lost wages/benefits.

Julia Mast, CPA/ABV, CFE, CFF, is a member of BKD’s Forensics & Valuation Services division and specializes in forensic accounting, fraud investigation, business valuation for litigation and complex litigation support services. She has over 20 years of public accounting experience, which includes a background in audit and tax services. Julia has testified as an expert witness in cases involving fraud, business damages, business valuation, shareholder disputes and breach of fiduciary duty.

This article is for general information purposes only and is not to be considered as legal advice. This information was written by qualified, experienced BKD professionals, but applying this information to your particular situation requires careful consideration of your specific facts and circumstances. Consult your BKD advisor or legal counsel before acting on any matter covered in this update.

Article reprinted with permission from BKD CPAs & Advisors, bkd.com. All rights reserved.