Why Your Business Needs Directors and Officers Insurance

Businesses can be liable for certain acts performed by the business or in the name of the business. There are ways, however, to limit some of the liability by purchasing business insurance. The types and amounts of insurance that a business should buy will depend on the legal structure and nature of the business.

If you choose to form a corporation, it's usually in your best interests to purchase directors' and officers' insurance. This article provides an overview of the roles of directors and officers as well as the reasons why your business may need directors and officers insurance.

What Are the Roles of Directors and Officers?

Directors and officers are high-ranking members of a corporation. Generally speaking, directors are identified in a business's articles of incorporation, or can be selected by the incorporator. Once a corporation is in operation, shareholders usually elect directors during annual shareholder meetings. The directors form a "board," and the board of directors is in charge of "directing" the affairs and business path of the corporation. The board of directors is also legally responsible for the actions of the corporation as well as its agents, employees, officers, and any subsidiaries.

While directors make the big decisions, officers oversee the day-to-day operations of the business. Officers are usually appointed by the board of directors and have the legal authority to act on behalf of the corporation in most lawful business activities. Although each corporation has its own positions, a couple of the most common officer positions are Chief Executive Officer (CEO) and Chief Financial Officer (CFO). A person can be an officer and a director at the same time. In fact, in a small corporation, one person may by the business's only director, officer, and shareholder.

Reasons to Have Directors' and Officers' Insurance

Even if the company has agreed to indemnify the director for liability arising from his or her official duties, there are instances in which the company's indemnification will not be sufficient. These include situations in which the company goes bankrupt, is dissolved, or just lacks the funds to pay the claim. Even if the company has insurance for its officers and directors, such a policy may not apply if the company is the party suing the director. In addition, a company may reverse its policy to indemnify after the potential for liability exists. The company's insurance may also not indemnify a director once he or she ceases to serve as a director.

A very important point is that a promise to indemnify may not be a promise to defend. This means that the director or officer may be forced to defend the action, pay attorney fees, and pay the judgment before the company is obligated to reimburse him or her for those payments. Also, most companies will not indemnify an officer or director who has been found to have acted in bad faith or received an improper personal benefit. These reasons might allow the company to deny indemnification.

Getting Legal Help

If you would like to discuss directors and officers insurance, or other types of business liability and insurance, you may want to contact a local for business and commercial attorney for guidance.

For more resources and information related to this topic, you can visit FindLaw's section on Business Liability and Insurance.