U.S. Small Business Administration
   
Every year small businesses and their employees spend billions of dollars for a promise -- a promise that if certain things go wrong, their insurance company will step in and provide financial relief. It's a significant expense for something they can't really see, but which protects their very existence.

Because insurance is invisible, complex and can differ widely from one business to another, it's hard to know if you have the right coverage in the right amounts for your company. Unfortunately, some people only find out the hard way -- when they're in the middle of a crisis and realize they aren't adequately covered.

Insurance is designed to minimize the impact of certain risks faced by people and businesses every day. Because some risks can prove devastating, most people and businesses transfer the risk through insurance. In return for your premium, the insurance company is able to assume and then spread the risk among a large number of customers, thereby providing protection for each.

Of course you can -- and should -- protect your business by actively managing and minimizing the risks that threaten your particular venture.  For example, you can institute safety measures, install a security system or offer a wellness program for your employees.  But you'll still need insurance for unforeseen events such as fire, hurricanes, lawsuits, serious illness or death.  The insurance you choose can also help you attract and retain qualified employees by offering them an attractive benefits package that may include health insurance, life insurance or a pension plan.

But as a small business owner, you probably don't have a risk manager or a resource dedicated to insurance buying. You have to make your own decisions based on whatever information is available.

The purpose of this section of Small Business Success is to help you cut through the insurance jargon and understand what you need to keep your business adequately covered -- whether your building burns or your employee needs a root canal. It also shows how you can protect your firm with life insurance and outlines pension plan alternatives. Finally, the section offers advice on controlling costs and profiles several small businesses that are managing their insurance costs in innovative ways.

As you'll see throughout this section, you don't have to navigate the insurance path alone; your agent or broker should be your guide.  A good agent or broker can analyze your business, recommend what types of insurance you need and in what amounts, and then "shop the market" to get you the best buy for your money. Your agent can also show you ways to minimize risks, thereby helping to keep your costs down.

While insurance can be complex and sometimes confusing, it provides valuable protection your company really can't afford to be without.

Property and Liability Insurance

Property and liability insurance encompasses the most basic -- and critical -- coverage a small business needs.  Property insurance protects the business from perils such as fire and theft, while liability insurance protects the firm from lawsuits due to injury or damage to a third party. Additional coverages can be purchased for a variety of special needs, such as computer protection, earthquake and flood insurance, workers' compensation, or automobile insurance.

The Business Owner's Policy -- or BOP
Most small business owners who qualify choose a package policy, generally known as a Business Owner's Policy -- or BOP -- for commercial insurance coverage.  A BOP is designed to meet a combination of insurance needs for various kinds of low-hazard operations, such as offices, stores or apartment houses.  Some insurers even offer a BOP for contractors and light manufacturers, but enterprises with specialized insurance needs -- such as farms or trucking outfits -- may not be eligible.

A BOP combines essential insurance coverages in one package that generally costs less than individual policies purchased separately.  It usually includes property, liability and crime coverage, as well as a number of specialty coverages, depending on the needs of the business.

Another advantage of the BOP is that the premium is determined upon issuance of the policy.  Typically, the premium for non-package liability coverage is adjusted at the end of the year based on an audit of the company's sales.

In addition, for one low fee, the entrepreneur can often expand the BOP policy with coverages for items such as computer equipment, valuable papers, accounts receivable and transportation.

Property Insurance
Any business owner who has property -- whether inventory, a building full of equipment or a personal computer -- needs property insurance.  One bolt of lightning could cripple a company without it.

Property insurance basically covers a building and its contents from losses due to most common perils such as fire, theft and wind damage.  Depending on the nature of the business, some companies that qualify choose a BOP and then add coverage for other perils as needed.

Some property insurance policies can be extended to cover most risks, except those specifically excluded.  It's important to know what your policy exclusions are, so you can purchase additional coverage if needed and available.  Typical exclusions include nuclear contamination, wear and tear, water seepage, mechanical breakdowns, pollution, and losses from floods or earthquakes.  Special limitations also apply to outdoor items that are not part of the building, such as detached signs, fences and trees.  Special coverage for these risks is often available under separate policies.

Liability Insurance
The issue of liability has become a pressing one in recent years as businesses have faced larger and more frequent lawsuits because of something they did -- or failed to do.

Liability insurance protects a business when it is sued for injury or property damage to third parties. It generally pays damages related to bodily injury, property damage, personal injury (e.g., libel or slander) or advertising injury.  It also pays for the defense and related legal costs for a covered claim or lawsuit.

Many businesses purchase liability coverage with a BOP or through a separate policy known as commercial general liability (CGL). The policy always carries certain limits on the maximum amount the insurer will pay during the policy period and as a result of individual occurrences.

Umbrella liability insurance adds extra protection for catastrophic accidents or incidents in which a number of people are injured. It also extends liability limits on the commercial auto policy. Limits are generally purchased in $1 million layers from $1 million to as much as $10 million or more.

Large, catastrophic losses, while unlikely, can hit any business.

Umbrella coverage provides owners with the asset protection needed to survive the devastating financial impact that a loss of this type would have.  Your insurance agent can help you determine how much coverage you may need.

Automobile Coverage
Any company with one or more cars will also need a business automobile policy, which works much like a personal auto policy and covers both liability and damage to your vehicle(s).

An owner who uses a car for business and personal use should make sure the insurance is written in the name of the person or entity with title to the vehicle. Problems can arise if the firm owns the vehicle, but the insurance is written in the name of the company's owner rather than the company itself.

Firms should also make sure their policies cover all autos used for company business -- including those they don't own -- to protect themselves from liability if an employee is driving a personal car on company business.  If, for example, a staff member is in an accident while driving to a business lunch in the individual's own car, the firm could be sued for damages because the employee was on company time.

Business auto coverage is more complex for companies with fleets of trucks or cars.  Detailed information on the driving records of all personnel who will drive on company business is needed to determine the insurance premium.  Hiring a driver with many moving traffic violations, for example, could raise the premium.

Specialty Coverages
Depending on the nature of the business, a company can opt for one or a number of specialty coverages.

Any firm with computers, for instance, may need to extend its basic property coverage with a small computer policy that will cover all hardware and software and pay to replace any lost critical information.

If a fire or other covered peril shuts down a business, business income insurance -- sometimes called business interruption insurance -- pays the loss of net profit and ongoing expenses during that period. The purpose of this coverage is to provide the owner with the income the company would have earned had there been no loss.

Additional business income coverage can be purchased for the time when the company is up and going again, but still trying to win back customers. This is called extended period of indemnity coverage.

Because floods and earthquakes can cause huge losses in certain areas of the country and the risk cannot be spread over a large enough number of policyholders, they are considered specialty coverages. Businesses in high hazard areas should be sure they are adequately covered.

Both flood insurance and earthquake insurance are available through commercial carriers, but premiums and deductibles can be high. Flood insurance is also available from the federal government through a special program managed by the Federal Emergency Management Agency (FEMA).

Many property insurance policies exclude losses of money and securities, and businesses that do not have a BOP should consider crime insurance. Coverage for crime losses can be purchased as part of a package policy such as a storekeeper's burglary and robbery policy or an office burglary and robbery policy.

Fidelity bonds -- also known as dishonesty insurance -- can protect a company against employee dishonesty.

Surety bonds are another type of business protection often used by contractors.  These bonds provide monetary compensation in the event the contractor fails to perform specific acts or complete work within the agreed-upon timeframe.

Depending on the nature of the business, a company may need special pollution coverage to cover potential liability for cleanup and removal of pollutants; debris removal coverage to pay to remove debris before a building can be reconstructed after a fire; or a policy to pay for reconstruction of accounts receivable.

Boiler and Machinery Coverage
Although boiler and machinery coverage may conjure up images of huge manufacturing operations, many small businesses rely on this to protect against mechanical breakdowns. There is a movement in the marketplace, in fact, to rename this coverage mechanical or equipment breakdown.

This policy, for example, would kick in when:

• A heating system or boiler at a laundromat malfunctions or explodes.
• A cooling system at an ice cream shop breaks down.
• The electrical system at a restaurant or movie theater goes down.
• The owned telephone system at almost any business breaks down.
• The computer system in an office malfunctions. The typical boiler and machinery policy protects against direct damage to covered property caused by an accident. Business income insurance also can be added to the policy for additional protection.

Workers' Compensation

Most companies with employees are required to carry workers' compensation insurance or self-insure for on-the-job injuries or illness. Workers' comp, similar to automobile insurance, differs from other types of insurance in that the employer must buy it to comply with state law.

Workers' compensation was originally designed as a non-adversarial solution to the growing problem of industrial accidents at the turn of the century.  Workers were guaranteed compensation for work-related injuries and, in return, gave up their right to sue employers over those injuries.

Unfortunately, that original intent has been muddled and today's system is in a state of crisis, plagued by growing health care costs, rampant litigation and new types of claims such as mental stress. For many small businesses, workers' compensation is a crushing financial burden that actually forces some to move out of certain states for relief.

Some of the measures a company can institute to control workers' compensation costs include:

• A safety-in-the-workplace program that emphasizes prevention and is communicated effectively throughout the company.
• A managed care program (where available) that directs injured employees to certain doctors and hospitals experienced in work-related injuries.
• A focus on early intervention -- right after the injury and before the employee becomes distressed and wants to remain out of work.
• Flexibility on return-to-work options, including light-duty alternatives.

Business owners should also make sure their company and personnel are classified correctly so they are paying the proper premium. Specifically, they need to verify that the number of workers in each classification is accurate, and that overtime pay is included correctly in the payroll figures used to calculate the premium.

Two East Coast Companies Make Safety Pay Off

When it comes to insurance, many small business owners have found that an ounce of prevention can literally be worth thousands of dollars.

Deck Designs Inc., a deck design and construction firm based in Bloomfield, Connecticut, is a good example. The company, which is insured by Aetna Life & Casualty, enjoyed nearly a decade of claim-free history until two injuries struck in 1989. "I realized employees have to take responsibility for some insurance costs," says owner Brian Douglas, who subsequently began to strictly enforce safety rules.  He now requires all employees on the job to wear safety goggles, back belts and boots, conducts spot checks of construction sites, and penalizes those employees who fail to obey the rules.

"When it comes to workers' compensation, safety is an outrageously important cost issue, not to mention a human one," emphasizes Douglas, whose workers' comp premium represents 5.5 percent of sales -- or $17,000 to $34,000 a year, depending on payroll.  "A good safety record can knock a good bit off your workers' comp premium."

"It's rare to find a small business owner doing this much on his own in the area of safety,' says Douglas' agent, Dennis Reynolds of Thomas Fahy Insurance Associates in West Hartford, Connecticut. "But seeing the relationship between premium and losses really reinforced his concern."

Safety is also a central issue at M.L. Schmitt, an electrical contractor in Springfield, Massachusetts.  Schmitt has implemented a safety program supported by written procedures, conducts regular safety meetings and site checks, and distributes safety information to employees.

Like Deck Designs, M.L. Schmitt has had excellent loss experience. "By having a policy that stresses internal safety, we can keep our losses -- and our costs -- low," notes Thomas Schmitt, president of the company.

Both Deck Designs and M.L. Schmitt have been hurt by the recession and looked closely at their insurance programs as a result. "In these economic times, you can look to insurance to cut costs, but you should do so carefully," Reynolds warns. "The plaintiff's lawyers aren't going to worry about your limits of liability; they'll still go after you. You need to be protected."

Schmitt and Douglas are serious and educated about insurance. Douglas regularly tracks his premiums and compares them with sales every month. His records are orderly -- making an audit or a claim run smoothly.

Both cost and the agent's good will are top priorities for these two business owners.  "You need to become educated about insurance because it's a big expense," Schmitt says.  "You have to know the questions to ask and what you're getting for the price."

M.L. Schmitt recently started doing business with Steve Fitts of the Field, Eddy and Bulkley insurance agency of Springfield, Massachusetts.  "You should choose someone with whom you feel comfortable and who is willing to take the extra time to research and talk things over," Schmitt claims. "What you're paying for is peace of mind, and that's important.  I look at it as a cost of doing business."

Douglas feels the same. "Find an agent who is reliable, has your best interests at heart and isn't going to hold you at arm's length," Douglas recommends. "In short, make sure it's someone who cares."

Filing a Property Claim

If your business is hit by a fire, accident or theft, you should take these key steps:

   1. Call your insurance agent or insurance company at once. Try to have your policy number handy.
   2. Take steps to protect your property from further damage.
   3. If you need immediate repairs, save the damaged parts for examination by the claims adjuster.
   4. Get several bids for repair to speed processing of your claim.
   5. If you are filing a business interruption claim, be prepared to show detailed records of business activity and expenses. (Your accountant can be a valuable resource here.)
   6. Keep current copies off the premises so they won't be destroyed by fire.

But even before you have to file a claim, you'll be in better shape if you take these steps now:

   1. Read your policies to see what is and isn't covered.
   2. Ask your agent to explain anything you don't understand.
   3. Make sure you and your employees know what to do if you have a loss and need to file a claim.
   4. Keep an updated inventory of your business property (with appropriate documentation) and copies of important accounting records in a safe place - preferably off the premises.

Controlling Costs

What small business owners tend to want to know most about insurance is how they can control costs.

The best way is by preventing or controlling losses.  By stepping up loss control measures and cutting down on claims, a company can often reduce insurance premiums.  Installing sprinklers or security systems and conducting workplace safety programs are obvious -- and effective -- methods. But there are many less obvious ways a business owner can eliminate or reduce hazards to control losses, which an insurance agent or engineer can help identify.

A firm also can increase deductibles to reduce premiums. A company with an excellent loss record, for instance, might want to increase deductibles and thereby take on greater risk. The company should be sure, however, that it has adequate cash flow to cover the claims it will have to pay under the higher deductible.

Another potential cost-saving measure is a multi-year policy, in which the premium is set for several years, instead of one. This option, which is not widely available, allows the owner of the firm to plan on a set premium for a number of years.Finally, business owners should also look for low-cost or low-interest payment plans for their insurance premiums.

Specific Issues Facing . . .

Most businesses need some type of property, liability and auto insurance.  Many carry excess liability.  And most are required to carry workers' compensation. But that's where the similarities end.  Each type of venture has specific issues it must address to maintain adequate insurance coverage.

• Professionals - They have to consider professional liability coverage and be aware that their liability has a long "tail" -- meaning that it may extend many years into the future. If a bridge collapses, for example, the engineer who designed it 25 years before might be sued. Many professionals such as accountants and attorneys should carry errors and omissions coverage -- also called E&O -- to protect against claims arising from errors or oversights.   For doctors and dentists, professional liability coverage in the form of malpractice insurance is a must.
• Home-Based Businesses - These businesses have insurance needs as well, but on a smaller scale than those of a traditional enterprise. They should carry liability insurance for injuries to clients suffered on the property; business property coverage for inventory or equipment; computer coverage, if appropriate; and business auto coverage. A homeowner's policy alone may not be adequate.  Home-based business owners can sometimes purchase an incidental business option rider on their homeowner's policy to cover their business exposures.
• Restaurants - Restaurant owners should have an insurance agent who understands their business and has written a number of restaurant policies. A package policy specifically designed for restaurants will typically include coverage for the building and contents; general, liquor and product liability; window glass breakage; business interruption; crime insurance; and a boiler policy, which may cover food spoilage. Workers' compensation and business auto would generally be written separately.
• Merchants - From the corner card shop to the high-rise department store, merchants have a wide range of insurance exposures. They should look for a policy that covers their building and contents, signs and glass breakage. In addition, they may want to add a peak season endorsement -- in case the store burns the month before Christmas, for example -- as well as business interruption protection. General liability and product liability are also critical, as is adequate protection against crime, including employee theft and dishonesty.
• Manufacturers - The first concern of manufacturers is that their building and its contents be sufficiently protected. Any assets not in the building (such as inventory stored at another location) or off-premises equipment also need to be protected. Most manufacturers purchase business interruption insurance as well as extra expense coverage, which takes care of the extra expense that would be incurred in getting the business going again after a loss. General and product liability coverage is also essential.
• Construction Firms - Construction is often a high-risk business.  Construction contractors are best able to protect themselves through loss control measures and by transferring risk to another party, such a subcontractor. A contractor will probably want a builders' risk policy or an installation policy to cover property risks during the course of construction; general liability and umbrella liability; automobile and equipment coverage; and crime coverage. Surety bonds may also be required.  Workers' compensation is likely to constitute a significant portion of the contractor's insurance premiums.

Group Health Insurance

It's no secret to any small business owner today that health care costs have escalated dramatically in the past decade, placing a group health plan out of the reach of many a compassionate employer.

The United States has the world's most expensive medical system.  As a nation, we spend $2.3 billion every day on health care -- or $26,500 a second. That came to more than $838.5 billion in 1992 (an 11.5 increase over 1991), and accounted for 14 percent of the nation's gross domestic product.  This figure is expected to rise to nearly $1 trillion in 1993.

For an employer, one fact stands out with particular relevance: health care in this country totals an average of $3,968 per employee each year.

Small business owners weighing the costs and benefits of offering a health plan should know the many varied factors contributing to the skyrocketing cost of health care. They include:

• Intensity of services, such as complex, expensive medical treatments never before available for illnesses such as heart ailments, AIDS, kidney disease and cancer.
• Population growth, particularly among older, health-care-dependent groups, and the increased life span of Americans.
• Legislative trends, including state-mandated benefits such as coverage for mental and nervous conditions.
• The use of sophisticated, high-priced equipment. Inappropriate or unnecessary care.
• Cost-shifting to the private sector from scaled-back public programs such as Medicare and Medicaid.
• Defensive medicine practiced by providers concerned about malpractice suits.
• New types of claims from categories such as mental and nervous conditions and new diseases such as AIDS.
• The labor intensity of the health-care industry and the high earnings for professional, administrative and technical workers. (It is estimated that 10 million people work in health care, including 600,000 physicians.)

Controlling Costs

Because of these costs -- and associated premium hikes -- small employers are spending more time and energy than ever looking for the best buy in health insurance. They're also looking harder at options that will keep the lid on premiums.

An increasing number of employers are raising deductibles or coinsurance (out of pocket) levels. Many are choosing not to cover certain procedures, such as physical exams, unless that coverage is mandated by the state. Others are requiring employees to pay part of their insurance premium.

Perhaps the most prevalent and effective means of controlling costs is through a managed care plan, according to health insurance experts.

Managed care became popular in the 1980s as a way to "manage" care initially by reviewing and approving payment for proposed hospital stays and by requiring second opinions on proposed surgical procedures. Today, managed care has evolved into extensive "networks" of doctors and hospitals which provide care at set fees in return for patient flow. It also encom- passes medical management programs such as precertification, individual case management and quality management programs.

Although originally viewed as the primary domain of large companies, managed care plans today also attract smaller firms -- even those consisting of as few as two or three employees.

"Unmanaged health care is a dying breed," claims Brad Morse, field director for Aetna Life & Casualty. "Today more than half of our book of business is in managed care and we're continuing to move steadily in that direction."

And the reason is simple. A managed care plan such as a Preferred Provider Organization (PPO) can save a small business 15 percent over a traditional plan. Insurance companies say they can control costs and still ensure quality by working only with doctors and hospitals which provide appropriate, necessary care.

Another advantage is that no claim forms or precertification phone calls are involved. Such administrative work is taken care of within the network.

Some people voice concern about the limits a managed care plan places on employees' choice of doctors and hospitals, directing them to providers in the network. How restrictive that choice is depends on the nature of the managed care plan.

Health Maintenance Organization
The HMO (Health Maintenance Organization) is the most restrictive in terms of choice, but usually offers the greatest opportunity for cost savings.

An HMO will generally provide the full range of medical services, including preventive care, at little cost to the employee -- perhaps only $5 or $10 for an office visit. Patients must, however, use HMO doctors and hospitals or they will receive no coverage at all.

Preferred Provider Organization
Less restrictive is the PPO (Preferred Provider Organization). A PPO also has a network but employees can choose whether or not to use network doctors or hospitals. If they use the network, they pay very little out of pocket. If they choose to go outside the network for treatment, their incurred costs are higher.

Dual or Triple Option
The dual option plan allows employers to offer their employees a choice of two health plans -- usually either an indemnity plan and an HMO, or a PPO and an HMO -- from the same carrier. A triple option plan offers all three. The cost advantage of such a plan is that the rates are blended for both programs -- usually meaning lower costs overall. In addition, the employer pays just one bill and has a single source of administrative costs.

Point-of-Service
A point-of-service plan is a hybrid of an HMO and a PPO. It offers the comprehensive care of an HMO, with the freedom of choice of a PPO. To receive higher benefits, all care must be provided or referred by a primary care physician -- sometimes called a "gatekeeper." If the care does not go through the primary care physician, benefits are reduced.

The point-of-service plan is frequently used as a transitional option to help an employer move from a traditional indemnity plan to an HMO.

Managed Indemnity
The traditional indemnity plan offers standard deductibles and co-payments and freedom of choice in choosing doctors or hospitals. Most insurance carriers have added managed care elements to control costs under an indemnity plan. These include:

• Pre-certification programs that require employees to get prior approval for payment of hospital stays and some types of out-patient procedures.
• Case management programs that closely monitor catastrophic cases and follow a cost-effective, individualized plan for each case.
• Second opinion programs that require a second opinion for certain types of tests or procedures.
• Concurrent review programs that place insurance company nurses in hospitals to review proposed treatment for payment under the benefit plan.
• Prenatal programs aimed at preventing premature birth by early identification of high-risk pregnancies and educating pregnant women.

Many insurance companies also offer toll-free numbers employees can call for information about proposed treatments or with questions about their benefits plan.

Sharing Costs
In addition to utilizing a managed care plan, there are many ways an employer can control health care costs and premiums. Primary among them is sharing costs with employees through shared premium or higher deductibles and coinsurance levels.

For example, instead of picking up the full premium tab, an employer might ask employees to pay $50 a month for an individual or $100 a month for a family toward the premium. Or, the company might pick up the premium for the employee, but require a premium contribution for dependent coverage.

To reduce the overall premium, an employer can raise deductibles and coinsurance levels. The traditional indemnity plan, for example, carried a $100 per person deductible and then paid 80 percent of covered expenses, with the employee picking up 20 percent. Today, such an indemnity plan might have a $500 per person deductible and a 60/40 coinsurance arrangement.

In a PPO as well, the plan could pay 70 percent of in-network costs and just 50 percent of out-of-network services, compared with a 100/80 arrangement that might have been typical a few years ago.

"Most employees realize the implication of health care costs today and aren't surprised to be required to share some of those costs," says Morse. "And when the employee is picking up more of the tab, that employee tends to be a wiser health care consumer."

Coinsurance -- or out-of-pocket -- limits can make a difference as well. Raising the out-of-pocket limit to $5,000 instead of $2,500 can affect premium price.

In determining how to come up with the best package at the best price, small business owners should ask their agents for quotes with different deductibles and coinsurance levels.

"One of the problems can be that you're not always comparing apples and apples," explains Morse. "You have to be sure that the packages you're comparing offer the same coverages, and then look at the difference changing a deductible or another plan benefit option would make."

Funding Alternatives
Self-funding an employee benefits plan has traditionally been the approach of many large companies that could absorb the financial impact of a big claim. But, with stop-loss insurance protection, smaller companies are entering the world of self-insurance with greater confidence.

With a typical self-insurance plan, the employer pays claims up to a certain threshold. Then the insurance company pays or shares the payment of additional claims.

The two primary advantages of self-insurance are that the self-insured portion of the plan is not subject to premium tax, and the plan itself is not subject to costly state-mandated benefits. But the self-insured company should have the financial stability to handle the swings in cash flow resulting from claims made upon it.

Self-insured companies usually hire claims administrators -- often a service provided by insurance companies -- to handle administration of the plan. This includes paying claims, operating networks and providing employee communication materials.

Communicating with Employees
Effective communication with employees is one crucial -- but less tangible -- cost control effort. In a managed care plan, for instance, employees should understand how a network works and how they -- and the company -- will save money when a network doctor is used. They also should be educated about how to use health care wisely -- how a phone call might prevent a costly and unnecessary emergency room visit, for example.

Employees who understand how their approach to health care can affect the bottom line are more likely to become more careful health care consumers.

Such a communication effort does not have to be expensive, and insurance carriers will usually assist with brochures, newsletters and videotapes.

PPO Comes to the Rescue for Florida Company

When it comes to insurance, the term "skyrocketing health care costs" dramatically hit home with Southwest Florida Addiction Services in 1989.

Being in the mental health/addiction service field, its employees were considered at high risk for health and stress claims. With two cancer patients in the group of 65 employees, large ongoing claims were probable. And with recovering addicts as staff members, AIDS claims were possible.

The premium for the company's standard indemnity plan would increase by 50 percent unless something was done.

"We really had no choice but to make a change," explains Karen Embrowski, administrative assistant at the Ft. Myers, Florida facility. "We're publicly funded and were already way out of line with what we're allowed to spend on health insurance."

Based on advice from its broker, Southern Brokerage Systems, the company selected a Preferred Provider Organization (PPO) plan from Aetna Life Insurance Co. in August 1990.

With the PPO, employees pay just $10 for an office visit with a network doctor. If they go outside the network, Aetna pays 70 percent of the cost and the employee pays 30 percent, after a $300 deductible. Under the company's old indemnity plan, the employee paid a $100 deductible and 20 percent of the bills.

"The employees love it because they're saving money," Embrowski says. "Instead of paying $100, they're paying just $10 here and there."

The company did have a Health Maintenance Organization some years back, and employees were disappointed with the limitations on choice. The PPO, she adds, represents "a good middle ground with a nice variety of doctors."

And what about cost savings? Embrowski says she was pleasantly "shocked" to see her renewal premium -- with an increase of just three percent.  "Overall, we're very pleased with the plan," she concludes. "Because of the nature of our business, we know the value of decent coverage and we want to be able to offer a quality product to our staff. We're happy we can still do that."

Selecting a Health Plan
Once you've decided on the type of plan you want to offer to your employees and have selected from a plate of plan design options, you'll want to look at certain exclusions and restrictions that will also affect premium price.

When you're presented with more than one quote on a certain type of health care plan, look at whether the plan:

• Excludes coverage for certain "dread diseases" such as AIDS or cancer. This is especially important if you have an employee or two who would be without coverage under the plan.
• Covers conditions that existed before the policy took effect -- known as pre-existing conditions. Most plans don't cover them.
• Has a lifetime or calendar maximum. Such a maximum will mean a lower premium, but could spell disaster for certain employees. A lifetime cap typically is $1 million, but one as low as $500,000 could be reached in a catastrophic case, and the employee would be left paying all the bills beyond that limit.
• Has a contract termination clause that spells out how the policy can be ended. If the policy is not renewed, you'll need ample time to find another carrier.
• Has certain eligibility requirements. If a plan has medical underwriting, you may want to be sure it won't pinpoint an employee with a chronic illness who would be denied coverage. Also find out when new hires become eligible for the plan.
• Includes prescription drug coverage. Many companies now offer prescription card plans under which employees can obtain prescription drugs at lower prices at participating pharmacies. Mail order for bulk prescription drugs is another way of controlling costs.
• Includes extension of benefits. This provision extends medical coverage for disabled employees following insurance termination.

Choosing a Plan

If you were to ask your employees to choose between a pay raise and a retirement plan, the answer might surprise you. In one study, a retirement plan was preferred by nearly 70 percent of employees surveyed by the Life Insurance Marketing & Research Association.

Today's baby boomers can look forward to approximately 20 years of retirement, with Social Security providing only a small part of the financial resources they'll need. It's not surprising then that a pension plan is such a coveted benefit and such an important tool in attracting and retaining valuable workers.

While most small business owners want to provide a pension plan, many are fearful of being locked into a costly commitment. But today a wide array of options exists from a simple IRA to a full-blown 401(k). The plan you select depends on your company's size, contribution arrangements and administrative costs.

Following are brief descriptions of "qualified" pension plans in which employer contributions are tax-deductible and investment earnings accumulate tax-deferred.

Defined Benefit or Defined Contribution?
The first consideration in selecting a pension plan is to determine whether you want a defined benefit plan or a defined contribution plan. The first defines the benefit the employee will receive at retirement, while the second defines the contributions to be made during the employee's working years.

A defined benefit plan promises a specific monthly pension at retirement -- typically a flat dollar amount, a percentage of salary, or a percentage of salary multiplied by years of service. The annual contribution is actuarially determined to make sure the employee receives that defined benefit owed.

With defined benefit plans, employees know exactly what they will get at retirement. And except for government and most church plans, their benefits will usually be insured by the Pension Benefit Guaranty Corporation (PBGC) -- much the same way bank deposits are insured by the FDIC. (Employers pay annual insurance premiums for this coverage.)

If a company has many older workers, however, it may be paying in a substantial amount to fund the benefit in just a few years. Also, if investment assumptions prove incorrect, the company may have to make large contributions to "catch up." (Penalties apply to under-funding).

A defined contribution plan specifies the amount of contribution to be made periodically by the employer, the employee or both.

The payouts at retirement are determined by the performance of the investments over time, and the investment risk lies with each participant. No predetermined pension is promised, and there is no PBGC protection.

Defined contribution plans have gained in popularity in recent years because of their relative simplicity and flexibility. Contributions are determined by formula -- not actuarial assumptions -- and each plan has specific limits on contributions.  The plans offer a number of tax advantages, and the employer or employees can select investment options.

Typical Defined Contribution Plans

• A money purchase plan is one in which the company's contributions are mandatory and based solely on a percentage of an individual's salary. Annual contributions can be as high as 25 percent of salary up to $30,000. A company's failure to make a money purchase contribution can result in a tax penalty of 10 percent of the amount that should have been contributed.  Companies which choose a money purchase plan are generally established businesses with stable, predictable earnings, such as the government and unions. They prefer to make steady, recurring contributions and want a plan that is easy to understand.
• A target plan combines features of defined benefit and defined contribution plans. It aims for a certain benefit but does not promise to reach that benefit amount by the time an individual retires. The actual investment return will determine if the benefit is exceeded or falls short. Target plans favor older or highly paid employees.
• A 401(k) plan is one of the most popular pension plans available today, and can be offered by firms with as few as 10 employees. Employees can contribute a certain percentage of their earnings with pre-tax money -- thereby reducing their taxable income -- and are not taxed on this money until it is withdrawn. Employers can also match worker contributions. Loans and hardship withdrawals are possible, and staff members can take their funds with them if they leave the company.  Usually businesses that adopt a 401(k) plan -- which can be administratively involved -- want a highly visible but low-cost benefit, employee involvement, and a profit-sharing capability.
• A SEP -- or Simplified Employee Pension -- is basically a company-sponsored IRA available to businesses of any size, including sole proprietorships. The plan is relatively simple to administer and contributions are voluntary. If a contribution is made, however, it must be the same percentage for each eligible employee. The SEP is ideal for companies with one or two employees because there are no plan administration fees or IRS filings, and employees are immediately vested 100 percent.
• A SAR-SEP -- or salary reduction SEP -- offers the salary reduction feature of the 401(k) with the simplicity of the SEP-IRA. With a SAR-SEP, employees can contribute to their accounts with pre-tax money, thereby lowering their current tax liability.  The SAR-SEP is available to companies with 25 employees or less, as long as at least 50 percent of eligible employees participate. Contribution guidelines are the same as for the 401(k), and some administrative work is required to make sure these guidelines are met each year.

Staying in Compliance
Regardless of the type of pension plan chosen, staying in compliance with the often numerous federal laws governing them is essential. Most plans require a number of federal filings and anti-discrimination tests that can be burdensome to the small business, but must not be ignored.

Most firms turn to a third-party administrator to handle such filings and keep up-to-date on new pension laws. While larger companies may handle this function in-house, smaller businesses generally don't have the resources.

Insurance agents can usually recommend a good third-party administrator.

What to Look for in a Pension Plan

When selecting a pension plan that meets the needs and resources of your company, while also helping to attract the right employees, here are some questions to ask your agent.

• Is it a qualified plan? That means your contributions are tax-deductible and your employees' investment grows tax-deferred until paid out to them. These tax breaks can make a big difference to both employers and employees.
• Does the plan offer a number of investment options? They typically should include a stock fund, bond fund, money market fund and a balanced fund.
• Can the employee transfer money from one fund to another? Such flexibility is important, particularly when market conditions change.
• Does the plan provide daily valuations?
• Is there an 800 number employees can call to get valuations and transfer funds?
• Is local service provided? You don't want a company that sells you the plan and then is not available to answer questions or address issues that arise.
• Does the plan come with enrollment support? This is particularly important with a more complex plan, such as a 401(k).
• Finally, is the insurance company solid, with a good reputation and good ratings?

Pension Plan Helps New York Company Take Care of Its Employees
Community Computer Services didn't really need a 401(k) plan for its employees.  The company already provided generous medical coverage, complete with a dental plan, and had even purchased a condo in South Carolina for employee use.  Turnover was minimal and morale was good.  So why bother to offer a retirement plan at all?

"In a knowledge-based business, the most important asset you have is your employees," claims George Cuthbert, company vice president.  "We felt it was our moral and professional obligation to do this for the people who are critical to our success."

Cuthbert and his three brothers run the Auburn, New York-based company that computerizes physicians' offices.  With 49 full-time employees and $3.5 million in annual sales, they decided on a 401(k) plan because of its many tax advantages.  The Cuthberts also decided to match 25 percent of employee contributions up to six percent.

After receiving three different bids on the plan, they chose Aetna because its price was significantly lower and it offered a 24-hour toll-free service for employees to obtain balance information or move their funds.

"We wanted something that didn't require a lot of our time and resources," Cuthbert explains.  "Once it's set up, we don't have to be involved."

Aetna handles enrollments and investments, and provides quarterly reports.  Aetna also has an electronic link to a third-party administrator which takes care of government testing and filing requirements.

The plan was a big hit with employees.  "People have gotten a positive feeling about our philosophy in life and business," Cuthbert says.  "They have a sense of pride and professionalism that they're key employees, and that we want to take care of them today and tomorrow."

His advice to other small business owners considering a retirement plan for their employees?  "Look into it and you'll find it doesn't really cost the company very much when you consider the benefits."

How Can I Still Keep My Employees Happy?
Not too many years ago, most employees were understandably content with their "free" group health plan with unlimited, unrestricted access to the doctor or hospital of their choice. Restricting that access or asking them to contribute some money can be a bitter pill to swallow.

If you're phasing in a more restrictive managed care plan or requiring employees to contribute to their insurance premium, there are some steps you can take to ease the pain. Consider:

• Network access and scope. In implementing a network program, make sure the network is large enough and that the locations are accessible to your employees. Asking an employee to drive 40 miles to the nearest network doctor will not encourage buy-in to the plan.
• Member services. Many insurance carriers now have toll-free member service centers for their network plans so employees can call with questions or to obtain advice. If employees need to find a network doctor in the area, for example, they can call member services for names and phone numbers.
• Quality. Look for a plan that has strict credentialing requirements for the doctors and hospitals in its network and continues to monitor their quality. Then communicate the value of that quality to your employees.
• Offering alternatives. Some employers will pay for a basic plan – maybe a 50/50 co-payment -- and then allow employees to "buy up" to a higher 80/20 plan.
• Section 125. Under this IRS provision, your employees can pay their share of insurance premiums or co-payments with pre-tax dollars. This results in lower taxable income and greater take-home pay.
• Collateral coverages. Employers can offer other benefits such as group life, dental or disability coverage to round out the benefits package.
• Communication. Employers who are open and honest about the cost of health care and its impact on their business generally find employees are more sympathetic to the need for increased cost-sharing or additional restrictions.

Life Insurance Protection

Most small business owners wouldn't think of operating without protection against a fire or auto accident. But when it comes to protecting their most valuable asset -- themselves -- many fall short. In fact, only about 25 percent of small companies own individual life policies for business purposes, according to the Life Insurance Marketing and Research Association (LIMRA).

The reason for this is threefold: the natural disinclination to think about death; the incorrect assumption that a business can be passed on without any tax implications; and the complexity of the business. But life insurance -- whether to cover a key person in the company or fund the continuation of the enterprise -- should be part of the insurance portfolio of firms of all sizes.

To illustrate the many business uses of life insurance, following is a typical evolution of a company with its corresponding needs.  Be sure, however, to consult a professional insurance planner to determine which alternatives best fit your particular situation.

Stage 1. Getting Started - A sole proprietor should buy insurance to cover any business loans and enough personal insurance to replace his income from the company. In fact, banks will often require life insurance as collateral for business loans.

If cash flow is scarce, the start-up owner might opt for term life insurance to meet those needs. Term insurance pays a benefit if the policyholder dies, but provides no cash buildup.

Stage 2. Expanding the Business - As the firm begins to grow, the owner might bring in one or two key people who are critical to its steady flow of profits. If one of those key people died, the company might see a big drop in sales. To protect against that loss, the business could buy key person life insurance or a first-to-die policy.

A term key person policy pays to help replace the loss of the particular staff member. A permanent key person life insurance policy not only provides that protection, but also accumulates cash value to fund a retirement plan for the valued employee.

With a first-to-die policy, the business owner could insure the lives of a number of key personnel, and the policy would pay when the first dies. The purpose is the same as key person insurance, but this one policy covering multiple lives is cheaper than buying separate policies for each individual employee.

Stage 3. Taking on a Partner - If the company owner brings in a partner, the two should consider a buy/sell agreement to provide for the purchase of the business if one of the partners dies.

For example, the two might agree to a cross-purchase arrangement in which each partner owns the other's life insurance policy. If one partner dies, the other can buy the interest in the company belonging to the deceased partner from his family. That way, the family isn't saddled with half of an enterprise it may not want, and the surviving partner isn't saddled with the family as a new business partner.

A buy/sell agreement to ensure business continuation is essential for three reasons: as collateral for business loans; to help fix the value of the business for tax purposes; and to protect the families of both partners and the employees of the company.

Stage 4. Capitalizing on the Profits - As the firm continues to expand, the owners may want to allocate more money to themselves. One way of doing this is by setting up a deferred compensation program on a non-tax qualified basis to be funded with individual permanent life insurance.

This program allows the business owner to set aside money -- tax-deferred because it is a life insurance program -- for retirement. If the owner dies before retirement, the policy pays a death benefit to the surviving spouse, called salary continuation.

Because individual tax situations can vary, entrepreneurs should consult their tax advisors before starting such a program.

Stage 5. Cashing In - At the end of the insurance cycle, the business owner should consider estate tax planning to protect his estate from tax ramifications. One way to do this is with a survivorship – or second-to-die -- policy.

A survivorship policy insures two lives and pays a death benefit after the death of both parties. When a couple's estate exceeds $1.2 million, the policy can be used to pay estate taxes that are due upon the death of the second spouse. This contract is normally owned by an irrevocable life insurance trust.

How to Buy Insurance

Shopping for insurance isn't comparable to buying a new piece of equipment or a car. First of all, you can't see it and second, you hope you'll never use it.

But because insurance is critical for a small business, you want to be sure you're buying the right insurance for your company.

If you're a franchisee, you may be able to buy insurance through your franchise organization at a reduced cost. Or the franchiser may sponsor a program specifically tailored for your business. Trade associations, too, often offer insurance at a group discount.

The most prevalent method of buying insurance, however, is through an independent agent or broker, or through an exclusive agent. Independent agents represent a variety of insurance companies, while exclusive agents work for just one.

Your insurance agent will analyze your business and its exposures, research coverage options, offer cost control advice and assist in the claims process.  In short, the agent is a key player in the insurance picture.

But how do you make sure you've chosen the right agent?
Other entrepreneurs are a good resource, as are trade groups, your local chamber of commerce and other professional organizations. Look, in particular, for an agent who knows your industry. Some agents, for instance, handle primarily restaurants and know the exposures restaurants face and the coverages available. Ask an agent for references, and then call them.

While agents will sometimes handle only commercial insurance or only life and health, try to keep all of your business with one agent or agency whenever possible.

You should select an agent or broker who works with strong, established insurance companies that have good claims records. Insurance companies are rated by independent ratings agencies, and you should look for companies rated A- or better.

Also examine the agent's credentials.  Designations such as Chartered Property Casualty Underwriter (CPCU), Chartered Financial Consultant (ChFC), Chartered Life Underwriter (CLU), Certified Insurance Counselor (CIC), Registered Health Underwriter (RHU) or Registered Employee Benefits Consultant (REBC) mean the agent has completed an intensive course of study in the field.  Agents who belong to trade groups and associations are more likely to keep their skills honed and their industry information up to date.

Once you've selected an agent or broker, be willing to invest the necessary time to work with that agent to come up with the proper coverage.

After you've received the policy, ask your agent to explain it to you in detail so you fully understand the parameters.

And don't let the relationship end there.  Keep your agent informed about any claims you file, or any developments in your business that may require a change in coverage.


* Excerpted or reprinted with permission from Small Business Success, Volume 6, produced by Pacific Bell Directory in partnership with the U.S. Small Business Administration.