Common Elements and Exclusions

April 13, 2006

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Before deciding on the type of comprehensive general liability insurance for a small business, an owner needs to understand some basic information on what these policies cover.

Endorsements. Specialized forms of liability insurance are more restricted in scope and are, in fact, specifically designed to cover situations excluded in a comprehensive general liability insurance policy. Sometimes, rather than purchase a separate specialized policy, an insured may be able to pay an additional premium for an "endorsement"--an amendment to a comprehensive general liability insurance policy that will cover a standard exclusion.

This may be possible, for example, where the insured party wants protection for liability that arises from damage caused to another person's computer data, but where the standard form of the policy excludes data from the definition of "property" (see below for a discussion of this issue). When liability relates to a unique risk (e.g., professional services by an accountant), a specialized policy will be required (e.g., an errors and omissions, or E&O, policy), in addition to a comprehensive general liability insurance policy.

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An endorsement to an insurance policy can end up saving the day for a small business owner. For example, today, liability for cleanup and related costs for a polluted site can easily run into the millions of dollars, even in a seemingly small case. Further, liability for these costs can be imposed on an innocent party who currently owns or operates the affected property, even though the pollution was caused by another party many years earlier.

Where liability for environmental pollution is a possibility, check the policy in advance for coverage. A standard policy will usually contain an exclusion for this type of coverage. Consider adding an endorsement to the policy that will cover liability for environmental pollution, if liability is a possibility and the endorsement is not cost-prohibitive.

Moreover, as mentioned, this type of liability can be imposed on an innocent party. One simple strategy can be used to eliminate this possibility--namely, an environmental inspection. The contract for the purchase of the property would contain a clause mandating that such an inspection be conducted, and conditioning the obligation to purchase on the results of the inspection being favorable to the buyer.

When an endorsement is to be issued that will cover liability for environmental pollution, an environmental inspection may be required by the insurance company, as a condition of writing the endorsement.

Note that standard inspections mandated in real estate contracts do not include an environmental inspection. Standard inspections include testing for structural integrity, the proper functioning of mechanical systems, pests (e.g., termites), and environmental hazards (including lead-based paint, asbestos, radon gas, and urea formaldehyde insulation).

These environmental hazards, which are usually included in a standard real estate contract, are potential dangers to the property owner himself. In contrast, an environmental inspection is designed to uncover pollution on the property that may harm surrounding properties and their owners. An environmental inspection would include a review of the property's history, soil and water samples, etc.

An environmental inspection generally must be done by an environmental engineering company and can be very expensive as compared to standard inspections. However, this type of inspection may be mandatory if an endorsement on the policy is requested. In any event, where the possibility of pollution is suggested by the history of the property or by the current owner or operator, the cost of the inspection must be weighed against the potential savings it may produce. The potential savings could be significant because, generally, liability will not be imposed on an innocent party who obtained a favorable environmental inspection before he purchased the property. Under these circumstances, the cost of the inspection will usually pale in comparison to the potential savings.

Coverage of Occurrences. The comprehensive general liability policy will cover liability for any "occurrence" during the policy period--that is, the policy will cover liability for personal injuries or property damage that the insured caused to another party while the policy was in effect. A lapse in insurance coverage opens a window of vulnerability.

Expected or Intended Damages. Damages that were subjectively "expected or intended" by the insured will be excluded from coverage. Courts have ruled that to deny a claim, it is not sufficient for the insurance company to prove that a "reasonable person" would have expected the outcome (i.e., what the law terms "objective intent" is not sufficient). Rather, the insurance company must prove what the insured party was actually thinking at the time, which is a more difficult burden to meet.

Intellectual Property, Advertising, etc. Coverage for personal injuries to other persons--as a result of libel; slander; defamation; invasion of privacy; copyright, patent, trade name and trademark infringement; and unfair business practices--traditionally has been included in a comprehensive general liability policy. This type of liability can arise from advertising, publications on web sites, or general business practices.

Recently, however, insurance companies have begun adding exclusions from coverage for copyright, patent, trade name and trademark infringement (intellectual property rights), as well as more narrowly defining "advertising," for purposes of denying coverage for libel, slander and infringement of intellectual property rights.

Accordingly, the small business owner should examine any proposed comprehensive general liability policy for this type of coverage. If coverage is too narrowly drawn or the exclusions too significant, the small business owner should consider requesting an endorsement to the policy that will include this coverage or purchasing a specialized "cyberspace" insurance policy, especially if the company maintains a large presence on the Internet.

Data as Property. Outside of the area of intellectual property, coverage for damages to another person's property only may apply if the property is "tangible," or the damage "physical." Issues arise here as to whether computer data is "tangible," or capable of "physical" harm. Thus, a company that provides computer hardware, software, or programming services should determine whether the standard policy includes this coverage. If it does not include the desired coverage, the party should request an endorsement that includes this coverage or consider purchasing a separate, specialized liability policy.

Property Insurance Distinguished. A single policy may provide for comprehensive general liability coverage (for damages caused to other persons in the form of personal injuries and property loss) and separate coverage for damage to property owned by the insured. However, remember that comprehensive general liability coverage alone does not offer protection for damage to property owned by the insured. Property insurance must be included in the policy for the insured's property to be covered.