Tail coverage insurance is a provision within an insurance policy that allows the insured to make claims after a policy has expired for acts that occurred while the policy was still valid.
Most insurance policies cover claims made as long as the policy is in place. But if the policy is terminated - which is typically the case when a business is being acquired - claims for incidents that occurred during the policy period but not yet reported may not be covered. If you are unsure of your insurance coverage, check with your insurance broker to confirm whether such claims would be covered under your existing policies.
This issue of tail coverage insurance is often overlooked, and it can become a source of conflict between a buyer and a seller if it is not spelled out when the major terms of the transaction are agreed upon. We would expect to see it addressed in the letter of intent, which is the document that is signed by both the seller and the buyer and discusses the major terms of the transaction. Buyers don't want to be responsible for pre-closing liabilities and sellers rarely consider this cost when they are contemplating a sale, so it is imperative to address this potential issue on the front end of a transaction - before both parties have invested a lot of resources in due diligence.
If you are buying or selling a professional services company or a company that does not have tail coverage for liability purposes, please consider discussing it with your insurance provider and other advisors at the beginning of a deal. In our experience, the cost for this insurance can be significant. It can be paid by the seller or the buyer, or the cost can be split, but the terms should be agreed upon within the letter of intent. If it is not explicitly stated within the letter of intent, sellers will usually assume it is an additional cost to the buyer.
David E. Shaffer is a director with Kreischer Miller and a specialist for the Center for Private Company Excellence. Contact him at Email.
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