How does product liability insurance work?

Product liability insurance transfers the risk of defects, including expenses related to product lawsuits and other claims related to faulty products.

If your company manufactures or sells a product that has a defect and that defect causes injury or property damage, your business could be held liable.

The product may be virtually any type of good sold to consumers or businesses, from basic products like food and clothing to complex products like machines and medicines. The injured third party may be virtually anyone who comes into contact with your product, including the buyer, users, or even a bystander.

A preferred product liability policy should cover a wide array of costs stemming from product-related claims, including the following: the cost of getting rid of your defective products, the cost of replacing defective products, business disruption and business costs, and fees potentially owed to retailers or wholesalers.

It should also cover the cost of public relations efforts aimed at rehabilitating the reputational damage caused by product-related claims.

Product liability insurance is in some ways similar to general liability insurance, but it is a unique form of insurance that is specifically designed for businesses that manufacture and sell products.

Product liability insurance responds specifically to claims that are related to the use of products that your company sells, manufactures, or distributes. On the other hand, a general liability policy will cover claims that are related to the complete operations of your business.

For example, if a customer or partner comes to your business locations and injures themselves on the premise, this is something that a general liability policy would cover.

Another aspect of product liability insurance that is important to note is that you are not covered in claims related to a product of yours that simply doesn’t work. Product liability covers claims in which the defect or faulty design of your product caused bodily injury or property damage to a third party.

What makes these types of claims complex is the fact that a defect can occur at every stage of your product’s development, from design to manufacturing and distribution.

Even if the customer uses a product incorrectly, your business could be liable for any damage caused by the product. The potentially high cost of lawsuits makes product liability insurance a vital component of a small business insurance policy.

Product liability insurance covers your business from claims that a product you sold, created, manufactured or distributed doesn’t work properly and caused bodily injury or property damage to someone else’s belongings.

Without product liability insurance, your business may have to pay out of pocket for medical expenses, property repairs, legal fees and other expenses for accidents related to product defects.

Product liability insurance covers legal fees, medical costs and compensatory damages brought forth in third-party lawsuits. It covers problems caused by your product, such as:

The types of defects covered by product liability insurance include:

Product liability insurance covers lawsuits for physical harm caused by a product. It’s not designed to cover problems caused by software, apps, IT and technical products.

For example, product liability insurance doesn’t cover coding mistakes and software errors that cause financial harm to your customers. You need errors and omissions insurance for technology-related problems.

Product liability also does not cover:

If you sell a product, you’re a good candidate for product liability insurance—especially with the prevalence of lawsuits these days. These types of businesses often buy product liability insurance:

A product liability insurance policy is also suitable for a construction and contracting business because it offers financial protection if a client decides to sue over damage caused by the finished work. For example, if a contractor installs a custom cabinet but the doors are defective, product liability insurance could cover the cost of fixing the defect.

“The product liability coverage limit will vary depending on industry, location, annual revenue amount and claims history,” says Michelle Shaver, senior vice president of Chubb Small Commercial Insurance. “If products are more hazardous in nature or sold in a highly litigious geographic territory, it may be advisable to carry higher coverage limits.”

Bryan Smith, vice president of product management at The Hartford, says the amount of product liability insurance coverage should be commensurate with the expected liability exposures that a business will face.

“The type and amount of product, the volume of sales and the number of parties involved in the production and stream of commerce will all impact the insurance needs of a business,” Smith says.

The average cost of product liability insurance is $1,192 a year for small businesses, according to AdvisorSmith.

When it comes to product liability premiums, your industry makes a difference. For example:

Other cost factors that affect the cost of product liability insurance include:

A key factor affecting the cost of product liability insurance is the type of product being created, manufactured or sold by your business. Products differ in the chance that they’ll cause property damage or injury to someone. Insurance rates for product liability insurance reflect this wide range of risks.

Companies selling safer products, such as office supplies and stationery, have lower premiums.Higher-risk products include furniture, electronics and bicycles. But the highest-risk products are food and beverages and products used by children. These products will have among the highest rates for product liability insurance.

Small businesses selling on Amazon can purchase product liability coverage through a digital network called Amazon Insurance Accelerator.

Amazon requires its third-party sellers to buy product liability insurance after attaining $10,000 in sales in one month. The Amazon Insurance Accelerator will help U.S.-based small businesses get product liability insurance quotes from companies such as Chubb, Harborway, Hiscox, Liberty Mutual, Markel and Travelers.

You can purchase product liability coverage as part of a general liability insurance policy. This basic level of product liability insurance may cover companies with low product risk.

The second option is to purchase a standalone product liability insurance policy. A standalone policy would be appropriate for a company with a high risk of product liability.

“Product liability insurance is frequently offered through a general liability insurance policy. It can also be offered as a standalone policy,” says Smith at The Hartford.

“Product liability insurance helps protect a business from claims caused by an actual or alleged defective product. The product might be manufactured by the business or sold by the business and cause bodily injury or property damage to a third party,” he says.

Here’s what to know when buying product liability insurance.

Choose the right coverage limit. “When purchasing product liability insurance, it is important to select the appropriate coverage limit as well as the suitable coverage territory—the geographic area an insurance policy will cover,” Shaver at Chubb says. “In the event of a covered claim, having the right coverage limit will determine how much the insurance company will cover and how much the small business owner will have to pay out of pocket.”

Know your coverage territory. “The policy’s coverage territory can impact whether a claim will be covered or not,” Shaver says. “If the product can be used in any location after it is made, then the small business should consider worldwide coverage.”