I recently read that Illinois Tool Works (ITW) prevailed in a case against the IRS. The IRS challenged that a loan from ITW’s foreign subsidiary to its parent company was a nontaxable return of capital as ITW contended. The IRS dtermined that it was not a loan but a dividend and as a result a taxable event. ITW challenged the IRS and the case was brought to the US Tax Court. In early August the court released their decision and sided with ITW. A short write-up can be found here.
Why I bring this up is that many companies have tax positions they are aware of that could be challenged by the IRS. Companies rely on their accountants to determine whether certain events have tax implications and then proceed accordingly. Unfortunately, this is not foolproof strategy, the IRS can and will challenge these events even if you are using the best and biggest accountants. What few companies are aware of is that there is an insurance policy that can protect them in these instances.
Tax Liability insurance can protect against many types of tax issues, including, but not limited to, spinoffs, M&A, multinationals, tax exempts, related party transactions, and foreign investors. The policy can cover the taxes, interest, defense costs, in some cases fines and penalties, and gross-up. What is different with this type of insurance compared to traditional property and casualty insurance is that we are covering a known event, or tax position, that may not be 100% clear cut but that we are confident is correct.
The underwriting process is specific to that event and coverage is tailored accordingly. Information is collected on the event and might include commentary from a tax attorney and/or an accountant. After preliminary info is collected it is presented to the insurance market and the carriers come back with non-binding pricing and terms. At that point a carrier usually identified that would be a good fit and a more exhaustive underwriting process commences. At this stage an insured typically pays an underwriting fee that is used to pay for the due diligence (think lawyers and accountants that really dig into the info) that allows the insurer to put together the actual terms and pricing. Assuming all is in order, the insured can then bind the policy that can have up to a 7 year policy term.
If you are a company and have uncertain tax issues then a tax liability policy is worth looking into. There is no upfront cost to get a non-binding pricing indication, but be aware that policy pricing is in the 6 figures to start, however, it is a one-time premium and not annual. The policy limits usually start at $5MM and can go up from there.
It was recently announced that Wells Fargo prevailed in an age discrimination lawsuit. The claimant was convicted of a crime in 1963 but apparently was not found in the initial background check, but subsequently found when Wells Fargo implemented a new system at which point they fired the employee. The employee turned around and sued Wells Fargo on the basis of age discrimination. Wells Fargo won on the basis that federal law bars banks from employing people who have been convicted of crimes involving dishonesty. More on the case can be found here.
Even though Wells Fargo won the case, the case went to trial so the legal bills were most likely quite large. Because it was a discrimination claim their employment practices liability insurance policy (Wells Fargo may not have this type of policy but we will assume they did) should have responded and paid the legal fees after the deductible/retention was met.
How could this have played out differently from an insurance perspective? The most common mistake we see with claims is late reporting, particularly when an insured believes their case is rock solid. The insured will decide not to report the claim or report it after legal fees start to mount which could jeopardize coverage. Late reporting can be grounds for a claim denial in the worst case scenario. A delay in reporting a claim also means the insured incurs more legal fees that will not be reimbursed by the insurer. The insurance carrier typically does not count any past legal fees against your deductible until the claim is reported. For example, if you spent $10,000 on legal fees before reporting the claim and your deductible is $10,000 you would have to spend another $10,000 before the deductible is met and the insurance company starts footing the bill. Most insureds are worried that their “rate” will go up for reporting a claim so they caution on the side of not reporting claims, but in actuality if the claim turns out to be nothing you insurance rate should not be adversely impacted.
What most insureds also do not realize is that their policy is set up as a “duty to defend.” This means that the carrier is responsible for defense counsel and ultimately has control on how to proceed with the case. “Duty to defend” is more common for private companies and can be a very sensitive situation when an insured feels they are right and do not want to settle. The problem is that even when the insurance company agrees that an insured’s case is strong it could still determine that would be more economical to settle the case and move on. This of course does not sit always sit well with clients, but the policy terms can be amended so that the insured has more of a say in how to defend a claim. Often times there is a “hammer clause” in the policy as well, which further compels the insured to defer to the insurer. The “hammer clause” is also something that can be amended. The important thing is that you as an insured are aware of these coverage conditions so there are no surprises if you have a claim.
Wells Fargo being a large company and most likely having a large retention would not have “duty to defend” language in their policy which is part of the reason this case may have made it all the way to trial. If there had been “duty to defend” language it may have never made it as far as it did, and probably would have settled a long time ago. Just because an insured believes they are in the right and the case against them is frivolous does not mean the insurance company will defend it all the way to trial. Remember, insurers are for-profit companies and their objective is to make money so they will be looking at it from an economic standpoint and what puts them in the best position to be profitable. This is why it is so important to make sure the terms and conditions are understood and that your broker works to tilt the policy in your favor as much as possible.
You may have recently seen that Spineology lost a patent infringement case against Wright Medical. Spineology sued Wright Medical in 2015 for infringing on their patent and the case went back and forth on appeals, finally ending in July of 2018 with Spineology on the losing end. A high-level synopsis can be found here.
I bring this to your attention because patents are the life-blood of many companies in the life science industry and yet many companies are vulnerable to either having their patent infringed upon or being forced to defend their patent. The cost for either is never cheap. The case went on for three years and one can only imagine how much money was spent in legal fees. What so few companies know is that there is actually an insurance policy that can insure your patents, it can be set up to both defend and enforce your patents.
Why is patent coverage important and what are the benefits? Here are a few reasons:
- If you are and R&D company with no revenue you may not have the financial strength to protect your patent.
- There are plenty of patent trolls that have bought low-quality patents and use these patents as a basis for demanding royalty payments from you and a patent policy can help defend against these trolls.
- If you are trying to raise money you can inform investors that you not only have a patent but it is insured which will give them some added comfort.
There are many other reasons to look at patent insurance, but one reason not to dismiss it is because you have hired great IP attorneys. Having quality IP attorneys is important and recommended, in fact it could help lower the cost of IP insurance, but it can’t help protect you against a third party infringing upon your patent, having to defend your patent, and patent trolls.
What many clients are surprised to learn is how easy it is to determine the economics of the coverage and whether it makes sense to move forward and put it into place. Many times the initial application can be completed in 15-30 minutes which allows us to get pricing indications. The worst case is the pricing does not make sense but at least you can report to your board of directors that you did the due diligence on how to protect your patent. The best case scenario is that you have taken the right steps to protect the patent and the terms and pricing of the insurance reflect that, resulting in an easy decision to put coverage in place.
Skin in the game – that means your insurance broker actually having a vested interest in your success and the level of service you receive year in and year out. Skin in the game does not mean your broker having a greater financial interest in year one compared to subsequent years yet that is how most brokers are paid. Most brokers get paid a set percentage for new business and then see that drop significantly after year one, and at some of the largest brokers that percentage might actually go to zero. If your broker is always looking for the next deal to maintain their income how do you think that aligns with your interests? You might say that the service team is incentivized to keep the account, but that is rarely the case, the service team’s is usually paid a salary and a small component of their bonus might be based on how well they service the customer.
At Alliant we believe that we should have a vested interest in your success and that your success leads to our success. How do we do this? We as individuals get paid the same percentage every year as long as we retain you as client, we don’t get paid more to bring in new clients or take a haircut after year one. In fact, if we lose you as a client we feel that in our wallets because that income is gone.
Why am I telling you this? I tell you this because it demonstrates that we value our existing clients just as much as our new clients. A lot of brokers come in and tell you a story about service and how good their service is but can’t point to a reason as to why that service level will continue – we can. We can point out that we actually get paid or, if the service is not good, not paid based on how we service your account – we put our money where our mouth is, we have skin in the game. How many times has your service fallen off, even just a little bit in each year (cumulatively this could add up and you might not even recognize what good service is anymore), from the initial engagement? Unfortunately, this is just considered part of how insurance works and what one can expect but it shouldn’t be. That is why my firm strives to be different, we are not interested in a slow deterioration of service for our clients but a firm and consistent model of service that is the same in year one as it is in year eight.
I probably will get emails from brokers saying you shouldn’t be sharing this information but if we are being transparent about how much the firms are getting paid shouldn’t we be transparent about know how the individuals servicing your account are being compensated? I am not saying W2’s need to be shared but knowing the structure and how it aligns with a service model I believe are good pieces of information to have because it can be a predictor of the future. Maybe you are different than me, but when I deal with a “service” provider I want those individuals servicing my account to have repercussions if the level of service is not there but sadly in the insurance industry that is seldom the case. With Alliant that is exactly the case, if the service drops we feel it in our wallet.
Is your insurance broker actually specialized in your industry or are they half-specialized? You are probably asking yourself – “Matt, what are you talking about? What does that even mean?” Let me explain.
What most insurance brokers do is tell you they are specialized, but really are only giving you the specialists for one line of coverage, which in the life science sector is Products Liability. I would call this broker half-specialized, they have highly specialized brokers for the Products Liability but those brokers do not touch the other lines of coverage. Instead, they typically hand off the other lines to what I would call the “general industry” or “middle market” broker who does not necessarily understand the nuances and risks that a biotech or medical device company might encounter. The individual broker could work on a five real estate companies, a manufacturer of widgets, a tire distributor and one biotech company. Does that sound like a specialist? Does that make you feel comfortable?
Think about where your greatest risk is if you do not have a commercial product. Your biggest risk is probably not the Products Liability due to informed consents, protocols and defined patient count but on the other lines of coverage where you are getting the non-specialized broker. To me that does not make sense.
I work in the life science industry and I consider myself specialized, not half-specialized, but 100% specialized. I can say this because I do not outsource certain policies to brokers that are working on accounts outside of the Life Science industry. In our group we work with life science and healthcare clients exclusively, across all lines of coverage. We would love to demonstrate to you what the difference is between the two; we can do this by reviewing the policies you currently have in place and giving you our findings. Message or email me to discuss further.
Almost every day I read about a company receiving a milestone or grant payment, but sometimes milestones aren’t met and it is not for lack of science. I often wonder how a company would be affected if the milestone or grant were not received because of a fire or some other natural event rather than the science simply not working? Even worse, how would a company and its shareholders feel if they knew this financial loss could be covered by insurance?
For many life science companies these payments allow them to continue operations or avoid having to raise additional money that will dilute shareholders. The financial loss of a missed milestone due to an event that is insurable but not covered by your insurance policy is inexcusable. For R&D companies where there is no cash flow, a missed milestone could put you out of business or significantly impact operations. Sadly, many clients never have the conversation with their broker regarding this important coverage. As you look through the chart below, how deep of a dive have you and your broker done?
Typically when I speak to new clients they have rarely gone deeper than the second question, “has your broker discussed what limit is appropriate?” Milestones and their applicable payment are usually well-known in advance so this is actually a rather straightforward coverage to determine the correct limit of insurance if the right questions are being asked. However, if you don’t know the coverage is available and your broker is not asking the correct questions it can turn into a costly coverage gap that is either uninsured or under-insured (limit is not adequate for the loss exposure).
If this is as deep as you have gone, what other coverage are you missing in your policy? If you think this is the only aspect of business income insurance commonly overlooked I am sorry to say you are mistaken. In future posts I will discuss other business income issues that are not often not covered properly or not covered at all.
If you have questions on whether your policy is correct, feel free to shoot me a message and I would happy to discuss.
According to the 2018 Allianz Risk Barometer, the #1 threat to companies worldwide is Business Interruption (in the US, cyber is #1 and Business Interruption is #2). What is Business Interruption? Business Interruption occurs when a business suffers a loss to its premise that causes a suspension or slowdown of its operations. This loss of income would only be covered by property insurance if the damage was caused by a “covered” peril (think wind and fire or natural hazards), but not all interruptions to your business are covered by a traditional insurance policy. Have you heard the term NDBI (Non-Physical Damage Business Interruption)? If not, you are not alone. Let me explain.
If your business or one of your key suppliers is forced to suspend operations by a regulator – how would that affect you? What is more likely: A key supplier being shut down by a regulator or the key supplier being shut down by a covered peril? Most likely it is the former. When I ask CFOs and Risk Managers how they are managing the regulatory risk, they basically tell me that they are keeping their fingers crossed and looking at putting in a dual sourcing plan. Is hope a good strategy for an event that could decimate your business? How long does it take and at what cost to put a dual sourcing plan in place? As I said, most companies I speak with do not know there is an insurance policy available that can cover the loss of income due to regulatory action. If you are a med device, biotech or pharma company you understand how a regulatory action to you or your supplier could cripple your business and that these shutdowns happen far more frequently then what a traditional property policy covers. Wouldn’t it be nice to have a coverage that could protect your cash flow if this were to happen? This is what an NDBI policy can provide.
The biggest risk to companies worldwide is Business Interruption, yet the vast majority of companies have never even been introduced to NDBI coverage. If you are only looking to insure your risk in the same way you always have, isn’t it time you ask yourself why? Why aren’t you being introduced to new ways to transfer your risk? Why are you bringing this coverage up to your broker and not the other way around? What other coverages are available that might enable you to better protect your business?