What is Professional Liability Insurance?

Professional Liability Insurance is a type of liability insurance specifically for those providing professional services or advice (e.g., general contractors, engineers, plumbers, etc.) that provides financial protection for your business if you are sued by a dissatisfied client for work errors, undelivered work, misrepresentation, or negligence. Professional Liability Insurance is important for contractors who perform any kind of design or construction management work. Additionally, if any of your subcontractors perform design work, you’ll also want to have Professional Liability Insurance. Even if your subcontractor indemnifies you from liability, the indemnification (also known as a hold harmless clause or provision) may not be enforceable.

Example:

• You are a general contractor who has subcontracted a job to frame a commercial building. The subcontractor fails to deliver the work and so the client sues them due to the loss in profit from not having a building with which to operate. Due to local laws, the hold harmless agreement that indemnified your company against your subcontractor’s work does not protect you from a lawsuit. Professional Liability Insurance would cover you in this situation.

What does Professional Liability Insurance cover?

While your commercial general liability insurance protects your business if your work causes property damage or bodily injury, it does not provide protection for any economic losses your clients may experience due to mistakes in your work. Your clients could still sue you for their economic or financial losses, which is where professional liability insurance steps in.

Professional Liability Insurance provides protection against lawsuits arising from:

Work errors or mistakes

• Example: Your contracting firm designs and builds a skylight for a commercial building. The finished skylight doesn’t let in an adequate amount of light due to a design flaw, so you have to delay the opening of the building to redesign and rebuild it.

Failure to do what was promised

• Example: You sign a contract guaranteeing a client their building will have an exterior with a very specific type of marble, but are unable to obtain the material due to its scarcity.

Undelivered or uncompleted work

• Example: You are hired to construct a bridge, but fail to complete the job.

Actual or alleged negligence

• Example: Your contracting firm is hired to renovate an office by a certain date. Due to poor planning, your workers fail to meet several deadlines and fail to deliver the project on time.

Misrepresentation

• Example: You grossly exaggerate your ability to adequately complete a job to repave a highway and fail to meet your client’s requirements.

Violation of good faith and fair dealing

• Example: Your contracting firm is hired to renovate a shopping mall. You hire a sub-par subcontractor to work on the building because the subcontractor is your cousin, but you tell the property owner that you have hired a subcontractor that is known to be one of the most reputable firms in the city.

Inaccurate advice

• Example: You tell your client that they need to purchase a special kind of insulation for their construction project which will dampen noise from the city. It turns out that the insulation is entirely ineffective.

With Professional Liability Insurance, you’ll be covered for any judgments against your business for these types of lawsuits, as well as the costs for legal defense against these claims. This insurance covers you, your business, your employees, and independent contractors while they are working for your business.

Example:

• Your business is hired to design and build a loading dock for trucks to unload at a warehouse. After the project is complete, the client discovers the height of the loading dock is too low for trucks to load efficiently. Due to a design flaw, the loading dock that was built does not meet the specifications in the contract. Your business would be responsible for the cost to rebuild the loading dock to the contract specification. Since no bodily injury or property damage occurred, this would not be covered by general liability insurance. However, Professional Liability Insurance would cover your business.

What is a Claims-Made Basis?

Professional Liability Insurance is usually written on a claims-made basis.

This means that the active policy when the claim is filed covers the claim, and the events that led to the claim must have happened after the retroactive date of the policy. Therefore, it is important that your policy be carried for a long-term period, as clients may discover errors or omissions in your work long after the work has been completed. Maintaining an active policy insures that there is no possibility of a denied claim in the future.

Example:

• You have had a Professional Liability Insurance policy for the years 2015-2018 and recently signed a new policy in 2019. Your contracting company made a poor recommendation on insulation for your client’s new restaurant in 2018 that delays the opening of the restaurant and cost them 10% of the year’s revenue. Your client files a claim against your Professional Liability Insurance policy in 2019. It will be your active policy—the one you signed in 2019—that provides you coverage for the collapse, not the policy that was in place when the negligence occurred.

Shrinking Limits of Insurance

Because legal and attorneys’ fees can be a large proportion of Professional Liability claims, Professional Liability Insurance has “shrinking” limits of insurance. This means that defense costs come out of policy limits, and as you spend on defense costs, the limits on your policy are reduced, dollar for dollar. For most other types of liability insurance, such as commercial general liability, the costs of defending the lawsuit will be covered outside of policy limits.

What does Professional Liability Insurance not cover?

Professional Liability Insurance covers your business if a dissatisfied client sues you for professional errors or negligence. It does not protect you from the following scenarios:

• Liabilities covered under the commercial general liability policy
• Property damage
• Bodily injury
• Personal and advertising injury
• Intentional acts
  • Example: You intentionally design a plumbing system for a residential housing project that is not up to code, in order to save on costs. If your client sues for economic losses, your Professional Liability Insurance will not cover the damages if the court finds that you intentionally designed a substandard system for your own profit.
• Illegal acts
  • Example: Your company has been contracted to demolish a building which contains asbestos. There are extensive government regulations involving the disposal of this material. You proceed to violate these regulations and dump everything into a nearby lake. The city discovers the asbestos in the lake and fines your client $50,000. If your client sues for economic losses, you will not be covered by your insurance because you have broken the law.

What are the limits for Professional Liability Insurance?

There are two limits that come with Professional Liability Insurance: occurrence and aggregate. The occurrence limit is the maximum amount the insurer will pay for any one claim made during the life of the policy. The aggregate limit is the maximum amount the insurer will pay in claims for the lifetime of the policy (usually one year). Limits are presented as occurrence/aggregate. For example, a $2M/5M policy will pay up to $2 million for any one claim made during that period and up to $5 million for all claims during the policy’s lifetime.

Policy limits play a large role in the overall cost of Professional Liability Insurance. You may choose a limit based on your risk exposure, or you might opt for coverage with higher limits because of contractual obligations to your client.

How much does Professional Liability Insurance cost?

The cost of Professional Liability Insurance depends on a number of factors, including the type of business you run, your industry, coverage limits, location, and number of employees. While the range of pricing can vary widely, most small business owners can expect to pay annual premiums between $400 and $1,000.

How much Professional Liability Insurance do I need?

For most small businesses, a $1 million per occurrence and $1 million aggregate limit in Professional Liability Insurance is appropriate, but this is highly dependent upon your industry and the risks your business faces.

Final Word

In the course of your business ventures, you should not underestimate your risk of making errors, mistakes, and negligent actions that cause your clients financial losses. Though you may have an impeccable track record, there might come a time when you will make a mistake in your work that causes your clients to file a lawsuit. Professional Liability Insurance serves to complement the commercial general liability policy to protect your contracting firm from lawsuits filed by dissatisfied clients.