Tackling Client Bankruptcy

How to Help Clients Work Through the Challenges of Going Under

Bankruptcy. It’s a word agents and brokers will need to get used to hearing from their business clients. It’s not just occurring on Wall Street; it’s happening every day on Main Streets across the country and in industries as broad as our economy, from auto dealers to retailers. Helping clients work through this critical stage requires agents and brokers quickly get up to speed on how bankruptcy works so they can properly structure a client’s insurance program.

Need for Insurance

Whether your client is contemplating a Chapter 11 or Chapter 7 bankruptcy filing, conserving the assets of the debtor is vital and considered one of the principal duties of the debtor in possession or trustee. Uninsured losses obviously reduce the assets of the debtor, and thus fail to conserve the assets that are to be available to creditors.

In addition, while a business operates under Chapter 11 reorganization or is being liquidated under Chapter 7, compulsory insurance requirements continue to apply. In other words, the filing of bankruptcy does not relieve the business of any state or federal insurance or financial responsibility requirements. For example, in most situations, workers’ compensation and automobile liability insurance must be kept in effect.

Further, contracts with lenders, suppliers, customers or others often necessitate property and liability insurance, including umbrella insurance. In sum, even a business in bankruptcy should have insurance — not only to properly discharge the duties of the debtor (or trustee) in conserving assets, but also because insurance is often required by law or a requirement found within a contract.

Maintaining Insurance

Based on your improved understanding of bankruptcy, you can now advise your client that they should maintain most if not all of their insurance. While this recommendation may take some explanation, convincing your client is really only the first step.

Once your client’s current insurers learn that your client has filed for bankruptcy protection, they will likely send your client a notice of cancellation (or refusal to renew). Most insurers consider an insured’s financial strength as an important underwriting factor for a variety of reasons, including the insured’s ability to fund loss control objectives, such as proper maintenance of its premises or its equipment, timely payment of premium or premium audits, and payment of deductibles.

Bankruptcy laws do not prevent an insurer from canceling or refusing to renew. Rather state laws or specific policy cancellation or non-renewal terms control whether the insurer may terminate coverage. Even in states with restrictive cancellation laws, a bankruptcy filing may be considered a material change in hazard, which many states recognize as a legitimate reason for mid-term policy termination with the proper advance notice.

The Dilemma

As soon as you recommend to your client to continue insurance after the bankruptcy filing, your client’s insurance is terminated by its insurers. Can your client even buy insurance while in bankruptcy? In other words, if your client’s obligation to pay can be reduced or eliminated by bankruptcy, does that mean your client may be relieved of its obligation to pay premium for its insurance? If this is true, why would any insurer offer insurance to your client?

Allowance of Administrative Expenses

Here is where knowing a bit about bankruptcy can help answer this common question. Recall that the “automatic stay” was for debts incurred prior to the bankruptcy filing (see “Bankruptcy Terms to Know, N12).

Collection of debts incurred after the bankruptcy filing (called post-petition debts) is not prevented by bankruptcy. In fact, post-petition debts are addressed in the Bankruptcy Code, specifically §503 entitled “Allowance of Administrative Expenses.”

After proper notice and a hearing, administrative expenses are allowed to be paid, including “actual, necessary costs and expenses of preserving the estate…” While subject to approval, the cost of insurance premiums is generally not subject to the automatic stay and is usually approved as allowable administrative expenses. Thus, the “debtor in possession” in Chapter 11 bankruptcy filing should be able to obtain permission to disburse funds to purchase the insurance as needed to continue to operate during reorganization.

Available Insurance

Of course, the fact that your client can obtain approval to pay its premiums may not be the least bit persuasive to the insurers you represent. As noted earlier, their underwriting approach may prohibit them from providing insurance to an insured in bankruptcy, despite your explanations. This leaves you searching the market on behalf of your client. You need to find an insurer that not only understands the bankruptcy process but is willing to provide adequate and reasonably priced insurance coverage for your client who has or will be filing for bankruptcy protection.

The good news is that there are insurers, A.M. Best “A” rated insurers, that offer special insurance programs for businesses in bankruptcy. Finding and accessing such insurers, including the program managers with expertise in bankruptcy and insurance issues, is crucial. Drawing on the expertise of those who routinely handle businesses in bankruptcy is invaluable to both you and your longtime client.

Considering that business bankruptcy filings for the first quarter of 2009 increased 64.3 percent compared to the first quarter 2008, your long-time client might not be the only business that needs your assistance in areas of bankruptcy and insurance.

Topics Carriers