Using Carve-Outs to Customize Your Insurance Program

Carve-outs can help organizations better manage their property and liability exposures by “carving out” specific risks and insuring them separately. The technique might also save money.

As insurance prices continue to increase and coverage becomes more restrictive, business owners and CFOs are looking for alternative ways to manage their risks. Some are turning to carve-outs, a technique more commonly used in group health and workers’ compensation programs, for their property and liability insurance programs.

Carve-outs isolate specific risks from a broader insurance program and insure them separately. In group health, for example, some groups “carve out” coverage for costly procedures, such as organ transplants, from their group medical policy and purchase separate coverage. Only one very expensive transplant surgery can send “average” per-person claim costs through the roof. Carving out coverage for transplants can help control group medical premium costs, helping the employer avoid the risk of an insurer non-renewing a policy because per-person claim costs are too high.

Organizations can use carve-outs in similar ways to better manage their property and liability exposures. Although buying package programs or putting as much of your coverage as possible with one insurer often saves you money, packages can lack flexibility.

Carve-outs Offer Flexibility

Using carve-outs, you exclude a specific coverage, peril (such as terrorism or earthquake) or location from the master policy. Your broker can then tailor coverage to that particular exposure—whether you need broader coverage terms, higher limits or lower deductibles.

For Example:

• Carving out a specific coverage: Insureds may want to carve out certain high-risk or specialized liability exposures from their general liability policy. A manufacturing company might insure most of its products under one products liability policy and carve out any that might be used in medical applications, for example, due to the higher potential losses associated with medical products liability.
• Carving out a specific peril: Earthquake exposures vary greatly from one area to another. You might want to carve out earthquake exposures in high-risk areas, such as California.
• Carving out a specific location: Doing business in various countries poses risks that a single global policy might not address. Companies operating in multiple countries might carve out locations from a global policy to allow for different coverage needs.
• Carving out an exposure that you will self-insure: Organizations that experience frequent but not very costly (high frequency, low severity) claims may decide to self-insure for that exposure.

You can also use carve-outs to cover highly specialized risks that ordinary business policies might not cover adequately. Covering catastrophic exposures separately through carve-outs may help keep loss ratios lower on your master insurance program. However, using carve-outs doesn’t always result in lower premiums; total premiums may even increase. Insurance buyers must determine their tolerance for risk—sometimes you need to pay more to get the coverage you need.

When Should You Use Carve-outs?

Carve-outs have their own risks. The more policies you have, the greater your chance of coverage gaps occurring. Organizations that self-insure a carved-out exposure will likely want to contract with a third-party administrator to handle claims. When outsourcing such a service, it’s essential to protect your company and its reputation by carefully selecting a TPA.