Audit Update: Look Closely at Insurance Policies

Authored by Rachyl Gibson, Senior Accountant

When was the last time you reviewed the insurance coverage on your business property? If you have an insurance agent who works closely with your company, you may be accustomed to periodic reviews to keep your insurance up to date. However, if you bought insurance based primarily on price, these reviews might be left up to you.

Some business owners learn the hard way that they didn’t buy enough coverage after suffering losses from floods, fires, thefts, vandalism, lightning, hurricanes, and other natural or human-caused damage.

Here are some points to keep in mind:

Don’t overlook insuring key pieces of business property. It can be a vital factor in keeping your doors open after a disaster.

Determine whether your property should be insured for the current value or the replacement value. For example, consider computers and other technology systems that are carried on your books at a low dollar value based on depreciation. They could cost considerably more to replace today than your insurance policy would pay if they were only insured for their book value.

When insuring real property, consider not only the replacement value, but also property value changes in the area. If values are appreciating, you may need to increase coverage. Conversely, if values are declining, you may want to decrease coverage.

If you rent out parts of a property, determine what you need to insure and what the tenant is responsible for. Don’t forget to figure in the insurance burden when calculating lease rates.

Is Less Coverage an Option?

Of course, insurance rates are based on the idea of managing risk. The insurance company is betting that the premiums you pay will be more than claims you file. It may be more cost-effective to decrease coverage if you think your company can insure itself for portions of potential losses.

Another option: Consider accepting higher deductibles so that premiums are more affordable. Obviously, pursuing such a strategy involves additional risk and must be weighed carefully.

Decreasing coverage and accepting higher deductibles are far different than self-insuring, a process that involves a business setting a rate for its own company and paying premiums into a contingency fund. Self-insuring business property is not generally recommended for small and medium-sized businesses because they usually don’t have the funds to pay potential major losses.

Not only is self-insuring risky, it provides fewer tax deductions. That’s because premiums for fire, casualty and burglary insurance on business property are deductible for tax purposes. But if a business taxpayer has a self-insurance plan, payments into the self-insurance reserve are not tax-deductible, although actual losses incurred by the business could be written off.

Regardless of your decision, find out the value of your property before you buy an insurance policy. Consider not just the book value, but also the cost and urgency to your business of replacing damaged property. For any questions related to this article, please contact Rachyl Gibson at rgibson@vlcpa.com or 800.887.0437.