Published July 27, 2011

Small Business Insurance Choices and Budgeting

Insurance is the elephant in the room that most small business owners are fully aware of, but often do not want to talk about. It's a necessary evil that protects businesses from catastrophic financial losses, but costs can eat up a large portion of a small business budget.

While personal insurance like home, car, life, etc, are relatively straight-forward, business insurance includes a multitude of different categories. So how do you know what you need and how to budget for insurance costs?

TYPES OF MUST-HAVE SMALL BUSINESS INSURANCE

When it comes to insurance types, insurers have come up with hundreds of products that are suitable for small business. But what are the essentials?

Property
All your business property should be insured. That includes business assets such as equipment, furniture, machinery, and inventory, but also any real estate owned by your small business. If you have purchased a small office building and pay a mortgage, likely your lender has required this type of insurance already.

This insurance will help pay for and replace property lost due to fire, water damage, or theft.

Liability
Liability insurance is also known as "Indemnity" insurance. There are many categories of liability, but General Liability is a must. This coverage will 'indemnify' you of any liability stemming from lawsuits due to personal harm due to negligence. Your insurance company will usually pay up to $1 million per suit, and up to a total of $2 million aggregate.

Business Interruption
Also known as Loss of Income, this insurance will help replace your sales revenue during a time when your business cannot be operational due to a catastrophic event.

Worker's Compensation
If you hire any employees, this coverage is required by law. Your state will dictate how premiums are paid.

OTHER TYPES OF INSURANCE TO CONSIDER

While the above essentials are usually enough to take a bite out of any small business budget, there are other types of insurance to consider.

Errors and Omissions
Any type of service business should consider E & O. This helps transfer liability to the insurance company in case a client files a suit due to professional negligence. Any professional CPA, attorney, or financial advisor would be wise to have this coverage.

Flood/Earthquake/Hurricane
These are additional types of property insurance that are not included with a general property policy. Insurance companies will offer these types of coverage for additional premiums, of course. But if your area is prone to flooding, earthquakes, or high wind weather, these could be deemed essential.

Directors & Officers
This is liability coverage that helps protect the company officers from lawsuits. Different from E & O insurance, this is more of a general 'management' insurance liability.

Key Individual
What if the company founder and president suddenly dies? A company can buy a life insurance policy on a key individual in whom the business depends upon for continued success. In the unlikely case of death, the insurance company would pay a pre-determined claim amount to help the business continue.

HOW MUCH TO BUDGET FOR INSURANCE?

When it comes time to purchase your insurance policies, it is always best to consult with a licensed and professional insurance broker. They can help you determine the coverage needed, and find the right policies at the prices you need.

As a general budgetary figure, the rule of thumb is to allow 20% to 30% of total yearly revenue to be set aside for essential insurance coverages listed above. If your small business has been in operation, then the budget is easy to figure based on yearly revenue records. If you are just starting a new small business, then the insurance budget will need to be calculated based on a pro-forma, or estimated annual revenues.

If you are considering other types of insurance, you'll need to add to that amount. Generally it is wise to consider 5% to 15% of the overall budget.

It may seem like insurance is just a constant expense without receiving anything in return. However, it is wise to pay for peace of mind, knowing that insurance is there when you need it most, usually even when a catastrophic event impairs your small business. Take the above recommendations to heart when you are deciding on your insurance needs.