The purpose of Overhead insurance - also known as Business Overhead Expense (BOE) insurance - is to pay for business overhead when a producing owner isn't working due to illness or injury. Without it, owners may be forced to use personal assets to meet business obligations. In business partnerships, the inherent dependence on other partners creates a need to make plans in advance in order to prevent disputes.
Typical purchasers are small businesses consisting of one to four revenue-producing owners with a small office and a small staff. For example:
Attorneys
Architects
Accountants
Cardiologists
Financial Planners
Dentists
Dermatologists
Mediators/ Arbitrators
Opthalmologists
Orthodontists
Pediatricians
Physicians (of all kinds)
...and more
With the exception of physicians, most owners are unaware of their exposure. According to the Council for Disability Awareness, the perceived risk of disability is only 2%, but according to Milliman, an actuarial consultancy, the actual risk is 30%.
What Overhead Insurance Covers
Overhead insurance covers monthly expenses that are ordinary and necessary for the operation of the business. Examples include employee salaries, equipment lease payments, rent, utilities, insurance, taxes and office supplies. Professional labor substitution is also commonly covered. Personal earnings are not covered, but other insurance that does insure personal earnings (Group LTD or Individual DI) is usually purchased in tandem.
Here's an excerpt from one policy:
COVERED OVERHEAD EXPENSES -- means Your share, based on Your percentage of ownership or contractual agreement, of the usual and customary monthly Business expenses You are responsible for in the operation of the Business. Covered Overhead Expenses must be deductible by the Business for Federal Income Tax purposes and each expense cannot exceed what it was in the 12 consecutive months just prior to Disability. Expenses will be considered when recorded using Your accounting method (cash versus accrual), and those expenses paid other than monthly are considered on a pro rata basis as if paid monthly.
Covered Overhead Expenses include, but are not limited to:
1. Lease or principal and interest payments for space which You occupy and use in the operation of the Business for which You were obligated to make payments prior to Disability.
2. Premiums for Your medical, malpractice, property and liability insurance.
3. Utilities and telephone.
4. Accounting, billing, legal and collection fees.
5. Janitorial, security and maintenance services.
6. Professional and trade dues and subscriptions.
7. Leasing costs or principal and interest payments on loans for furniture and equipment used in the operation of the Business for which You were obligated to make payments prior to Disability.
8. Employee salaries and benefits which are not excluded by number 1 in the list below.
9. Miscellaneous office supplies and postage.
10. Business real estate taxes.
Covered Overhead Expenses also include Your Replacement’s Salary. The compensation paid to Your Replacement must be reasonable in relation to the duties performed.
The following are not considered Covered Overhead Expenses:
1. Salaries, wages, fees, drawing accounts, advances, bonuses, and other compensation, including benefits and pension and profit sharing contributions, for:
a) You,
b) Any other owner of the Business,
c) Any person sharing Business expenses with You,
d) Any person responsible for the generation of income in the Business, not including Your Replacement, and
e) Any person related to You by blood or marriage who was not a full time paid employee, working at least 30 hours per week, in the Business for at least 60 days before Your Disability began.
2. Overhead expenses, including business loan payments, which are covered under another policy for Your Disability.
3. The cost of medical/dental supplies, lab fees, x-ray fees and expenses passed on directly to a client.
4. The cost of goods, inventory, merchandise, products and services.
5. Depreciation, insurance premiums waived during Disability or any expense that does not require a cash payment.
6. Any ongoing expenses after the sale of the Business, excluding lease agreements or mortgage payments that are not terminated with the sale of the Business.
7. Any expense You were not liable for in the normal course of the Business prior to a Disability.
source: Principal policy form 789 for generic states (not CA, OH, VT)
The Difference Between Long Term Disability Insurance and Overhead Insurance
Overhead insurance (BOE) is for business protection, whereas Long Term Disability (LTD) insurance is for personal income protection. Overhead insurance benefits can only be spent on business expenses, whereas LTD benefits can be deployed for any personal use. Overhead insurance benefits are characteristically short in duration - typically two (2) years - instead of to age 67.
It is common for business owners who have BOE coverage to also be covered under a separate group LTD policy or an individual DI policy so that personal earnings are insured.
Eligibility Requirements for Overhead Insurance
The key underwriting consideration with BOE insurance is whether a significant financial loss would actually occur without the producing owner. A small firm of three producing practitioners, for example, would clearly financially suffer if even one of them were disabled, while a larger firm of twenty producers may be well insulated except for the expense of the disabled partner's assistant's salary. The underwriting process takes into account the nature of the business, the occupation, the number of producing principals and the number of employees that are doing the same or similar work to generate business revenue.
If the owner does not significantly contribute to the generation of business income through his or her own production efforts, additional underwriting questions may be asked in order to determine financial dependency.
If the producer is a not an owner but is nevertheless a key person, a different type of insurance is used called Key Person Replacement (KPR), which can serve the same purpose but with more latitude on how funds are used.
Individual medical underwriting is typically involved, although if the group has more than 10 members a package to spread the risk and reduce medical screening may be possible.
Cost of Overhead Insurance
Age 30: $60-$100 per month, per $10,000 of monthly benefit
Age 40: $100-$150 per month, per $10,000 of monthly benefit
Age 50: $200-$250 per month, per $10,000 of monthly benefit
These are ballpark figures, which will vary with occupation, health history, and lifestyle.
Most carriers use a level premium structure, meaning that premiums don't increase until the end of the renewability period, which is usually to age 65. As future upgrades are made, the favorable pricing of the first layer of coverage is locked in based on original issue age, and a new layer of coverage is added within the same policy at a separate rate based on the then-current age. The new premium after the upgrade then becomes the cost of the two layers combined.
Tax Treatment of Overhead Insurance
Overhead disability insurance premiums are generally tax deductible as an ordinary and necessary business expense for sole proprietors and principals of pass-through entities such as LLC's, S-corporations and Partnerships (refer to IRS Pub. 334, in the section Business Expenses\Insurance). As with all tax matters, consult your tax professional regarding your own situation.