Do RIAs Need Liability Insurance?

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By Greenwich Compliance, an Interactive Brokers company

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This article is part 1 of 2 in an Insurance for Advisors series. Learn about bonding considerations for RIAs in PART 2: BONDING CONSIDERATIONS FOR ADVISORS.

Registered investment advisors (RIAs) often ask if they are required to maintain any professional liability insurance, a so-called Errors & Omissions or “E&O” policy. The short answer? No, it’s not required. Nonetheless, most registered advisors do maintain some sort of liability insurance. This is not only a best practice but also may be required by institutional product vendors and others with whom advisors do business.

Protection under E&O insurance

E&O insurance is intended to protect an investment advisory firm and its officers, directors and employees from claims arising from the investment advisory services the firm offers. This includes (but is not limited to) the following:

  • Claims by clients for investment losses and other damages resulting from claims like negligence
  • Breach of fiduciary duty in providing (or failing to provide) professional services
  • Errors & omissions
  • Breaches of the advisory agreement
  • Failure to supervise brokers

For example, a client may allege that an advisor made a trade unsuitable toward their investment goals. E&O insurance may protect an RIA against this type of claim.

What E&O insurance covers

E&O insurance typically covers settlements, judgments and defense costs associated with these types of claims. Some policies may also include “cost of corrections” coverage that requires the insurer to correct a situation arising out of an alleged wrongful act before an actual claim is made, something that may be especially important in the case of a trading error.

What E&O insurance does not cover

These policies typically do not cover fines, penalties, and punitive damages. (Some states even prohibit insurance policies that cover these costs. See figure 1 for a list.)

Most E&O insurers also will not provide coverage regarding alternative investments like hedge funds, limited partnerships, private equity funds, REITs, exchange-traded notes, derivatives, foreign securities and private placements.

Also typically excluded from E&O policies are claims arising from the advisor’s intentional fraud or dishonesty, willful or intentional failure to act prudently, or guarantees made regarding performance, as well as any claims that go beyond the firm’s advisory services. For example, libel and slander are not usually covered under typical policies.

Other insurance options

There are a variety of other insurance options available to advisors should obtain the type of insurance that most closely matches the investments they manage, their clientele and the types of claims they’re looking to insure against. Advisors can sometimes add these forms of insurance to their existing E&O policies.

  • Directors and officers (D&O) insurance: Covers claims against the advisory firm and its officers and directors for alleged breaches of fiduciary duty, errors in judgment and other wrongful acts in the performance of their duties as officers/directors
  • Employment practices liability insurance: Protects the firm against allegations of discrimination on the basis of age, sex, race or disability; harassment; wrongful discharge or termination and negligent hiring or supervision of others.
  • General commercial business liability insurance: Protects the company against claims related to bodily injury, property damage, libel/slander, defamation, copyright infringement and false or misleading advertising.
  • Network security and privacy liability/cyber security insurance: Covers claims related to a data breach that involves lost or stolen information of employees or customers. Coverage may include expenses related to notifying the affected individuals, credit monitoring costs, third-party financial claims, public relations costs and more.

Despite the lack of an explicit federal requirement for practice insurance, RIAs often feel more comfortable practicing under the safeguard of an insurance policy. What forms of insurance do you have for your practice? Leave a comment below.

Have a question about insuring your advisory business? Greenwich Compliance can help! Submit your inquiry to riaquestions@greenwichcompliance.com and one of our trained staff members can help.

Disclaimer: The information in this article is intended to provide investment advisors with basic, general information on the insurance options available to them. Advisors should consider consulting with legal counsel and/or and insurance broker to determine the type, scope and amount of insurance coverage most appropriate for their investment advisory services and clients. Please keep in mind that insurance is heavily regulated by the states, and advisors should research the applicable provisions in their state(s) and keep informed of changes in state law.

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