As the financial industry grows (and its list of services expands), registered investment advisers (RIAs) have an increasing responsibility to oversee their clients’ financial well-being. But even with the most robust compliance program in place, there’s no way to totally eliminate all risks associated with financial planning.
And although the Securities and Exchange Commission (SEC) makes no distinction between purposeful and accidental compliance errors, some insurance plans available to RIAs take intention into account and offer coverage for compliance mistakes.
In this guide, explore common questions about Errors and Omissions (E&O) insurance, including what it covers, what it could cost and more.
The Registered Investment Adviser’s Guide to Errors and Omissions Insurance
1. What is Errors and Omissions Insurance for RIAs?
Errors and Omissions (E&O) insurance (sometimes called professional liability insurance) is a type of professional liability insurance designed to protect financial professionals and their firms from claims of negligence or failure to perform professional duties.
For example, if an adviser within your firm made a mistake in a financial analysis that negatively affected a client, and said client sued your firm, E&O insurance could potentially help cover costs associated with the legal defense and any settlements or judgments that may arise from the lawsuit.
Some of the expenses that might be covered by E&O insurance include:
- Costs associated with regulatory investigations
- All or a portion of a settlement against the RIA
- Errors in financial analysis, documentation and investment recommendations
Keep in mind, however, that each policy varies as far as coverage and limitations – you’ll need to carefully review your specific policy to know for certain what’s covered.
2. Are RIAs Required to Have E&O Insurance?
As of December 2023, there is no federal requirement for RIAs to purchase or maintain E&O insurance (although it is strongly recommended by many industry experts).
However, some states have requirements for their advisers to have E&O, which began in 2018 with the state of Oregon. Other states, including Oklahoma, have followed suit in recent years. Kansas requires firms to disclose whether the firm has professional liability insurance, but does not require E&O.
The custodian Schwab also enacted a rule for any advisers using their wirehouse services in 2021, which requires financial advisers to show proof of E&O insurance of at least $1 million.
3. How Much are E&O Annual Premiums Costs?
Annual premiums are usually based on the level of complexity, risk level, location, number of staff and coverage limits involved – in general, more comprehensive coverage means a higher premium.
One report estimates that the median annual premium for a $1 million coverage plan is about $2,600. Another industry journal suggests budgeting around $500-$1,000 per employee each year.
If your firm offers alternative investments, has a history of regulatory disclosure issues or has relatively inexperienced principals, you may see higher premium costs as a result.
4. What’s the Deductible?
The deductible for your E&O insurance is the amount of money you will need to pay out of pocket before the policy kicks in. In general, a lower deductible often means a higher premium cost.
5. What’s Excluded From E&O Insurance Coverage?
Common exclusions are:
- Criminal or intentional misconduct
- Property damage
- Incidents that occurred or began before the policy was in place
- And more
There may be separate limits for an alleged act, all acts combined (aggregate) or for the overall master policy. Additionally, claims related to cybercrime, discrimination and/or employee injuries are usually covered under different types of insurance.
It’s best to consult directly with your E&O policy provider to discern what claims will be covered or excluded.
6. What’s the Difference Between Master Policies and Individual Policies?
Individual policies are offered to just one individual or one company, and are a popular choice for RIAs.
However, your firm may be able to save on E&O coverage by joining a master policy, which combines multiple firms under a single policy and usually offers a total master policy annual coverage limit. The risk with master policies is that if the limit is reached, other pooled firms may not have access to protection.
We recommend that advisers perform a high level of diligence to fully understand whether a single or master policy is a better option for their coverage needs.
7. Is E&O Insurance Worth It?
E&O insurance is a great way to add protection to your firm, instill confidence in clients and give you peace of mind as you build your business.
While it does involve a cost in the form of premiums, the potential financial and reputational benefits can far outweigh the expense, making E&O insurance a valuable investment for many financial professionals. And, of course, it’s crucial to shop around to find the right E&O protection for your firm’s specific needs and budget.
With all of the above factors in mind, you can confidently choose an errors and omissions insurance plan for your firm to assist in providing protection against risks.
Insurance is just one aspect of RIA registration and ongoing success. At COMPLY, we understand the complexities RIAs face because we’ve been there. In fact many of our consultants have served as former CCOs themselves. Have questions for our team? Speak with an expert today!