What Is Run-Off Insurance and Who Needs It?

When a professional practice or business concludes its operations, questions often arise about lingering responsibilities for past work. Run-off insurance offers a solution to this concern, providing a financial safety net for liabilities that may emerge years after a business has ceased to trade. This specialized coverage addresses the reality that claims for professional errors or omissions can surface long after services were rendered. It ensures protection against potential legal and financial repercussions stemming from past professional activities.

Run-off insurance is particularly relevant for entities that operate on a “claims-made” policy basis, where coverage is contingent on a policy being active when a claim is reported, regardless of when the incident occurred. Without run-off coverage, professionals could find themselves personally exposed to claims even after their primary insurance policies have expired.

Defining Run-Off Insurance

Run-off insurance is a specialized form of professional liability or errors and omissions (E&O) coverage designed to protect individuals and businesses from claims arising after they have ceased operations, retired, or sold their practice. This insurance specifically addresses acts, errors, or omissions that occurred before the cessation of business but for which a claim is made after that point in time. It acts as a continuation of coverage for historical liabilities when the primary, active policy is no longer in effect.

Run-off insurance bridges a gap in coverage that arises with “claims-made” policies. These policies only respond to claims made and reported during the active policy period. Without run-off coverage, a former professional would lack coverage for claims surfacing years after a business closed, even if the error occurred when their active policy was in force.

It is distinct from an ongoing professional liability policy, which covers current and future work. Run-off insurance specifically looks backward, providing protection for past services. This ensures financial protection for legal defense costs and potential compensation if a client alleges professional negligence or error.

Run-off insurance is also referred to as “tail coverage” or an “Extended Reporting Period” (ERP). This protection extends to principals, partners, directors, and employees for work performed during the active period of the business.

The Need for Run-Off Coverage

The necessity for run-off coverage stems from the inherent nature of professional services, where the consequences of advice or work performed may not become apparent for an extended period. Professionals like doctors, lawyers, accountants, architects, engineers, and consultants often face a “long tail” of potential liability. A client might discover an error or suffer a loss due to past advice many years after the service was provided, making a claim against the professional even if they are no longer actively practicing.

Several specific scenarios commonly trigger the need for this specialized insurance. When a professional retires, sells their practice, or dissolves a partnership, the original entity often ceases to exist or changes hands. Despite this change, the individuals involved can still be held personally liable for their actions as professionals, partners, directors, or employees. Without run-off insurance, any claim brought forward would require the former professional to fund legal defense and potential settlements out of their own assets.

In business acquisitions or mergers, the acquiring company frequently requires the selling entity to purchase run-off insurance. This protects the new owners from liabilities stemming from the acquired company’s past operations, ensuring that pre-acquisition claims are covered by the selling entity’s policy. Similarly, if a business undergoes a change in structure where the original legal entity ceases, run-off coverage becomes pertinent to protect against allegations of impropriety, negligence, or breaches of duty from the past.

Beyond individual financial protection, regulatory bodies for many professions mandate run-off coverage as a condition for ceasing practice. This requirement ensures that clients continue to have recourse for legitimate claims, even if their former professional is no longer available to provide ongoing service or maintain an active policy.

Key Policy Components

The Extended Reporting Period (ERP), also known as “tail coverage,” is a core component of run-off insurance. An ERP extends the time during which claims can be reported under a claims-made policy, even after its original term has expired. This means the policy continues to cover claims for incidents that occurred while the original policy was in force, even though it is no longer active for new work.

The ERP is purchased for a specific duration, which can range from one year to several years, or even indefinitely, depending on the insurer and the professional’s needs. Unlike annually renewable policies, run-off coverage with an ERP is often purchased as a one-time, lump-sum payment, providing a fixed period of protection. This single payment secures the extended reporting window, removing the need for annual renewals for past liabilities.

While the ERP is the distinguishing feature, run-off policies also incorporate standard insurance components like limits of liability and deductibles. The limit of liability represents the maximum amount the insurer will pay for covered claims during the extended reporting period. This limit is generally based on the limits of the professional’s last active policy. Similarly, a deductible, or self-insured retention, is the amount the insured must pay out-of-pocket before the insurance coverage begins for a covered claim.

The incumbent insurer, who provided the professional’s last active policy, commonly provides the run-off coverage. The terms and conditions of the run-off policy, including its scope and exclusions, generally mirror those of the expired claims-made policy. Coverage applies only to acts that took place before the run-off coverage commenced.

Factors Influencing Cost and Duration

The cost of run-off insurance, often paid as a one-time premium, is influenced by several factors. The professional’s or business’s claim history is a determinant; a history of frequent or severe claims can lead to higher premiums. The inherent risk associated with the specific industry or profession also plays a role, with fields carrying higher potential for long-tail liabilities facing greater costs. The limits and coverage of the prior professional liability policy directly impact the run-off premium, as the run-off policy provides similar coverage levels.

Initially, the premium for the first year of run-off coverage can be similar to the last year’s premium of the active policy, reflecting the ongoing potential for claims. However, as time progresses and the likelihood of new claims emerging from past work decreases, the cost of coverage for subsequent years often reduces. Insurers may offer multi-year policies with declining costs built into the lump-sum payment.

The duration of run-off coverage is often aligned with the statute of limitations for professional negligence claims in the relevant jurisdiction. While specific statutes vary, common periods for run-off coverage range from five to ten years, with some professionals opting for longer or even indefinite options where available. This period aims to cover the timeframe during which a former client could legally bring a claim against the professional.

When determining the appropriate length, professionals consider contractual obligations, regulatory requirements, and the nature of their past work. For instance, some regulatory bodies might require a minimum of six or seven years of run-off coverage. The decision on duration balances comprehensive protection against premium costs.