Insuring Your Financial Planning Practice
By Bayard Bigelow III MBA CPA
E&O professional liability insurance for financial planners and RIAs is sold by insurers operating is the excess and surplus lines market, or the E&S market as it is known in the insurance industry. Its characteristics differ from the more established market in which insurance is marketed, which is known as the admitted market. This article, in addition to addressing what policies are available to the planning professional will also address what the professional needs to know about E&O insurance with particular emphasis on the E&S market.
Because of the characteristics of the E&S market, insurance products sold within in it, unlike other policies such as private passenger automobile, homeowners insurance as well as many commercial coverages, are not commodities. The professional facing the decision of how to evaluate various policies, therefore, needs answers to the following questions:
- What is the E&S market?
- How do the two markets differ?
- How important is the carriers financial strength, as well as other considerations, in the E&S market?
- Given regulatory controls, what other program characteristics are important to the professional?
The E&S Market
Many types of widely available insurance policies are sold in the so called admitted market. In this market, the policy’s language and key provisions, as well as the way in which premium is calculated and the underwriting rules, are approved in advance by the state insurance department in each state. In fact, the coverage provisions are highly standardized precisely because the market includes thousands or even millions of potential customers with similar insurance needs – faced with such a large number of potential insureds the industry actually works cooperatively in developing a common policy and coverage provisions.
While the admitted market is used when there are large numbers of potential insureds with similar risk characteristics, the E&S market is used when the insured group is relatively small or the risk characteristics are not similar. Indeed both characteristics are true of the financial planning profession – the number of potential insureds is relatively small and the risk characteristics are nonuniform.
Just look at the numbers – the American Bar Association has over 600 thousand members and the AICPA some 300 thousand members. The largest of the associations for financial planners has less than 30 thousand members. Further, the profession itself is highly diverse and encompasses life insurance agents, registered representatives of broker I dealers, financial planners, asset managers, investment management consultants, mutual fund managers, registered investment advisors and several professional designations. These characteristics strongly suggest that a high degree of tailoring of coverage is required to meet the diverse insurance needs of the profession. It is possible to provide such a tailored approach only in the E&S market.
How Do the Two Markets Differ
The E&S market has two characteristics of which the professional should be aware:
- With the exception of New Jersey, insureds cannot access the State’s Guaranty fund in the event of a carrier insolvency; and
- While coverage can be tailored, it is equally true that the policy form is unregulated and may contain provisions that would not be acceptable to the State Insurance Department in the admitted market.
These characteristics have some important implications for the professional.
The Carrier’s Financial Strength
Carrier insolvencies are relatively rare events. In such an event the insured or the claimant may look to the state’s insurance guaranty fund to provide limited relief. In the E&S market, however, no such assurance exists except in the State of New Jersey where the insurance department has set up a separate guaranty fund for the E&S market.
Most states require that a surplus lines policy bear a warning which appears on the policy jacket. In some states, the warning must be printed in large print, while in others it must be printed using red ink.