Feb 5, 2020
A Complete Guide to Commercial General Liability Insurance Class Codes
If your business has ever purchased a commercial general liability policy, then you’ve probably come across a general liability class code that was assigned to your business. What you might not have known is that the class code that was assigned to your business had a very real impact on how much you ended up paying for your CGL policy.
Commercial general liability class codes are assigned to businesses by insurance companies based on industry to represent some of the most common hazards and risks that are associated with that industry. The research that goes into assigning these codes serves to make it easier for insurers to predict losses companies working in specific industries can expect to incur over a set amount of time, which further helps insurers set an appropriate premium for providing general liability coverage to businesses.
This classification system was created by the International Organization for Standardization (ISO), in order to group businesses into classifications that reflect the common risks associated with each group, a process that is standardized by assigning a 5-digit code that describes the industry of the particular business.
Why are General Liability Class Codes Important?
If you’ve noticed that your CGL rates have recently increased, you should definitely check to see if there have been any recent changes to the class code that has been assigned to your business by your insurer.
Obviously, class codes are important because they ultimately determine how much you will be paying for your commercial general liability insurance. They provide insurers with a dose of objectivity and introduce a higher level of standardization and accuracy to the process of setting insurance premiums for businesses.
Insurers take this process very seriously because their financial success depends on properly classifying clients. On one hand, if they overcharge businesses for insurance they run the risk of losing clients and on the other hand, not charging enough could lead to the insurer losing money when their premium income cannot cover the amount they need to pay out for claims.
That’s why insurers perform very detailed research when creating class codes, taking not only industry risks and hazards into consideration, but a slew of other business characteristics as well, including but not limited to the company’s payroll, gross sales, property size, employee count, and much more.
How Do Insurers Use Class Codes?
To reiterate, the purpose of creating this classification system was so that insurers could group the businesses they insure in order to have the rate for each class clearly reflect the risks and hazards that those businesses have in common.
Essentially, understanding the purpose and importance of general liability class codes makes it easier for you to understand the underwriting process in general.
The primary goal of underwriting is to find a balance between the business’s exposure to risks and the premium insurers are going to charge the business to provide coverage for these risks. This means that the foundation of underwriting is being able to properly classify businesses so that the exposure matches the premium.
Insurance companies can deny coverage to a business because of its class code, and they are also free to add exclusions into the coverage that they do offer, which means that they can choose to deny coverage for specific risks and damages resulting from activities that aren’t covered by the business’s class code.
For example, imagine you own a car dealership and have recently purchased general liability insurance for your business. Later that year, you decide to add auto repair services to your business. If you or one of your workers gets injured repairing cars, there’s a good chance that your insurer might not cover your claims because the loss was the direct result of you and your employees performing tasks outside your policy’s assigned class code.
How Classification Codes Affect Rates, Premiums, and Coverage
As we have already mentioned, the rating system that is used to calculate general liability premiums uses the classification and rating system developed by the ISO. Let’s take a deeper look into the factors that go into determining the premium that your business is going to have to pay for CGL insurance.
The first we’ve already discussed in-depth, which is your business’s classification code, which reflects your business’s industry and the type of operation you are running. It’s also important to note that the nature of your operations could lead to your business being assigned more than one classification, for example, if you both produce and sell your products, your business might have one classification for the commercial/retail aspect of your operations and one for the manufacturing aspect.
Rates are the next element that insurers take into consideration. While classification codes provide a sense of uniformity in the process, rates are a different story because they can vary greatly from insurer to insurer. Some will use data related to loss costs that they have received from the ISO to create their rates, while other insurers have an independent process that they will go through internally to come up with their own rates.
However, one constant businesses can count on is that their rates will always reflect the limits that they have chosen for their coverage, so the higher your limit, the higher your rate. Another important aspect of rates is that there two separate rates are calculated for general liability insurance; one for premises and operations coverage and one for products and completed work coverage.
- Premises and operations coverage: This coverage relates to claims of bodily injury and property damage caused by accidents that have occurred on your business property. A slip and fall claim would be a good example of a claim type that would be covered by premises and operations CGL coverage.
- Products and completed work coverage: This coverage applies to third-party claims related to damages or injuries resulting from defective work or faulty products. Companies who manufacture, distribute, and sell their own products might want to look into specialized product liability insurance to make sure that they are properly covered if a claim arises, considering that according to a recent study, the median payout for a jury award is about $1.5 million for product liability-related claims.
The final element of CGL rating is the exposure base, which also depends greatly on your industry and specific operations. This is the basis to which rates are going to be applied in order to determine the premium you’re going to pay for your general liability policy. Depending on your operation and your industry, your exposure base could be revenue, the size of your business property, the location of your business, the number of employees, man-hours, projected payroll, and more.
Sales tend to be a popular aspect of your business that insurers will take into consideration when determining rates and premiums related to classifications. A common formula that is used is gross sales divided by 1,000, then multiplied by the rate.
So if your premises and operations rate is $2 and your estimated gross sales for the year are $2,000,000, your premium would be $2 x ($2,000,000 / 1,000) = a premium of $4,000.
Finally, it’s important to remember that classification codes do not restrict your CGL coverage in any way and that your insurer will be able to impose restrictions for the policy by changing and adding exclusions, limitations, conditions, and any other aspects of the insuring agreement they deem necessary to alter.
To learn more about buying the right commercial general liability insurance for your business, reach out to one of our expert brokers at any time.