Errors and Omissions Insurance: Professional Liability Insurance Explained
When a professional serves as a trusted adviser, mistakes come at a huge cost. Suppose a lawyer accidentally prepares the deed for the wrong piece of property, or an investment broker purchases 10,000 shares of a stock for a client instead of the 1,000 that was ordered — what are you supposed to do moving forward?
In these situations, clients often sue professionals in civil court. Regardless of the court’s decision, the cost of hiring an attorney and going to trial is often one that many professionals cannot afford. To protect themselves from this cost, professionals pay for errors and omissions insurance, which is more commonly known as professional liability insurance. Here’s everything you need to know about this kind of coverage.
What Is Professional Liability Insurance?
Errors and omissions insurance, or professional liability insurance, protects professionals from being held liable for their mistakes. Errors happen when a professional does something wrong, while omissions point to times where professionals fail to take action when they should have done so. Both situations can harm clients who trust professionals. Depending on the business relationship, a client may entrust the professional with the handling of their money or property, or the client may trust that the professional is competent enough to offer reliable advice. Regardless of the situation, both errors and omissions can be detrimental.
When a professional’s mistake causes a client damage, clients have two options. First, the client may choose to sue the professional in civil court. Even in cases of innocence, court costs can be extremely expensive. If the judge rules against the professional, the person or business is held liable to pay whatever penalties the judge decides upon.
In other instances professionals and their clients will work together to settle matters outside of court. Although this method circumvents court costs, settlements are often still expensive. For example, if a professional damages someone’s home or causes them to lose out on a huge investment, the cost of the mistake may be millions.
What Does Professional Liability Insurance Cover?
Errors and omissions insurance covers the cost of the liability created by professional errors. This includes court costs, arbitration costs, out-of-court settlements, and court-ordered damages. This insurance only covers damages caused in the unique circumstance of a professional taking an action that they should not have, or failing to take an action that they should have done so.
In some industries, individual practitioners pay for their own professional liability insurance premiums. In other industries, it is more common for firms to purchase policies that cover all of their employees, partners or members. Policies should be carefully read to determine whether it protects the business, the employees and partners who work for the business, or both. Sometimes, a policy that covers employees will not cover temporary workers, contractors, and/or sub-contractors.
The terms of each insurance policy can vary greatly — and many policies are industry-specific. Some policies do not cover specific types of negligence or certain reasons as to why one might end up in court. Point being, be sure to read through your coverage thoroughly before committing.
What Isn’t Covered by Professional Liability Insurance?
Errors and omissions insurance is not a catch-all type of insurance policy. Professionals should not rely upon this type of insurance as an answer to every form of lawsuit they could become involved with. If a professional commits a crime, the insurance policy will not cover their criminal wrongdoing, for example. Aside from errors, there are plenty of other ways that a professional can cause damages in the course of normal business.
For example, a landscaper may accidentally damage a car that was parked too close to hedges. Even worse, the landscaper could cut the homeowner who is standing too close to the hedges. These are damages to the body and property, so they are covered by a general liability insurance policy.
If another landscaper on the ill-fated crew falls on a rake and loses vision in one eye, his ongoing medical costs and loss of work are a worker’s compensation issue. This liability is covered by a worker’s compensation insurance policy. Just as third-party auto insurance pays for damages caused to other drives by the insured, professional liability insurance pays for damages to people outside of the business by the business. This type of insurance is never used to compensate employees, even if the business is responsible for damages.
Additionally, cyber attacks are an increasingly important area of liability that businesses should keep in mind. When a business collects customer data, it has a responsibility to use that data properly and to protect it. When there are cyber data breaches, unscrupulous hackers can cause untold financial damages using client’s personal information. Failure to protect cyber data is not covered by professional liability insurance. Rather, cyber insurance policies are built specifically for these types of events, and businesses that transmit customer data over the internet would be wise to purchase a policy.
Who Needs Professional Liability Insurance?
In general terms, any professional who offers advice to clients or provides a service to clients would do well to consider a professional liability insurance policy. This can include general contractors, doctors, real estate agents, lawyers, financial advisers, engineers, and nonprofit agencies. Any business owner can purchase this type of insurance policy. Even if professional liability insurance is not the norm in a certain industry, all professionals who advise or service others carry the same risks of liability, even if the specifics of a situation may vary between industry or profession.
In deciding whether or not you need professional liability insurance, ask yourself the following:
- Do people in my industry get sued by clients often?
- Could my mistakes cause my clients great financial harm?
- Do my client’s rely upon my expertise to make substantial financial decisions?
- Could I afford the cost of a civil trial or private arbitration if a client took action against me?
Many professional regulatory agencies require professionals who are licensed or certified — or who wish to obtain a professional designation — to maintain a professional liability insurance policy. These requirements are especially common in the financial industry. Since the various advisers and brokerages in the finance industry handle large sums of money for their clients, a financial regulatory agency called FINRA requires errors and omissions insurance for the professionals it oversees.
As discussed, errors and omissions insurance — a.k.a. professional liability insurance — is a method of protecting professionals and the clients they serve from the untold costs of human error. While this insurance is not a requirement for most, many in the service and advising industries view this form of liability insurance as a professional necessity.