Individuals with sound credit standing are often asked to provide credit enhancements to banks or other lenders for loans made to another person.
These credit enhancements might be required for entities in which a person has invested, in trades or businesses they operate, or for friends and relatives they wish to assist. They can lead to co-borrowers, personal guarantees, collateralization agreements and/or indemnification agreements with borrowers.
“Although the particular laws differ from state to state, when a debtor defaults on a debt that some other party has guaranteed, the debtor becomes obligated to the guarantor in an amount equal to his or her guarantee,” says Walter M. McGrail, JD, CPA, a senior manager at Cendrowski Selecky PC. “This is often referred to as subrogation and has significant tax implications.”
Smart Business spoke with McGrail about guarantees and what you should consider before serving as a guarantor.
Can making good on a guarantee result in a tax deduction?
If guarantors make good on their guarantees, the tax benefit of doing so generally depends on the reason for providing the guarantees.
A guarantee of a debt incurred in a taxpayer’s trade or business results in an ordinary loss. If the guarantee was provided for an investment that is not the taxpayer’s trade or business, the loss is a short-term capital loss.
If the guarantee was strictly personal, there is no tax deduction available to the guarantor.
In order to get an ordinary or capital loss, the taxpayer must also be able to demonstrate several facts. The obligation to make good on the guarantee must have been enforceable by the lender before the original debtor defaulted on the debt.
Also, the guarantor must have received some benefit as a result of making the guarantee, such as secured financing for the guarantor’s trade or business, or a fee from the original debtor.
If an individual taxpayer meets the criteria for obtaining a deduction, he or she may claim the related deduction in the year that the taxpayer actually made payment of the underlying debt that was guaranteed. If an individual guarantor signs a new note with the lender to make payment, then the guarantor takes a deduction each year equal to the amount that he or she actually paid during the year.
In the case of someone other than an individual cash basis taxpayer, for example, if the guarantor is an accrual basis partnership, corporation or LLC, such a taxpayer would be entitled to take the deduction in the year that such person becomes primarily liable for the debt.
Does a taxpayer have to pay income tax if he or she defaults on a guarantee?
Once the lender informs the guarantor that the lender intends to collect a debt directly from the guarantor, the guarantor must decide whether he or she is able to make good on such debt. If the guarantor defaults on all or a portion of such guaranteed debt, the guarantor may be responsible for income tax on this default.
Generally speaking, if a taxpayer is relieved of an obligation to repay a debt (sometimes called debt discharge), the taxpayer recognizes income to the extent that it pays less than the face amount of the debt. There are several exceptions to paying tax on debt discharge income available to most taxpayers, such as discharge of debt in bankruptcy or insolvency.
However, guarantors of indebtedness are entitled to a unique exception. They do not have to pay tax on discharged debt to the extent the payment of this debt would have entitled the guarantor to an income tax deduction. When the original debtor defaults, subrogation results in a liability due from the original debtor to the guarantor. When the original debtor does not pay this subrogated liability, the guarantor becomes entitled to a tax deduction.
So, as long as the guarantor would have obtained a deduction, he or she will not recognize income. This exclusion applies regardless of whether the deduction would have been an ordinary deduction or a capital loss.
Finally, when a taxpayer serves as a guarantor for the debt owed by a partnership, LLC or S corporation, care must be taken to avoid income tax on forgiven debt. Remember, when subrogation occurs, the entity becomes a debtor to the guarantor.
However, if the guarantor forgives this subrogated debt, the entity may have income from discharge of indebtedness. Such tax consequences flow through to individual owners, including owner guarantors.
What should someone consider before agreeing to serve as a guarantor?
First, consider the creditworthiness of the original debtor. Is the debtor financially viable, or is the risk of viability an acceptable risk? Second, is there a way to ‘buy down’ the guarantee? Could the debtor incur a little higher interest rate and avoid the necessity for a guarantee?
Finally, especially if it involves guarantees of family member loans, consider whether the guarantor should charge a guarantee fee of 100 to 300 basis points to document the benefit required to obtain a tax deduction.
WALTER M. McGRAIL, JD, CPA, is a senior manager at Cendrowski Selecky PC. Reach him at (248) 540-5760 or email@example.com.
Imagine that you are a landlord, and your tenant’s 3-year-old daughter is playing with matches and starts a fire, causing more than $20,000 in damages to your property. Is your tenant liable for the fire damage caused by his or her negligence?
“The answer is no, unless there is an express and unequivocal agreement by the tenant to be liable to the lessor or the lessor’s insurer in tort for negligently caused fire damage to the premises,” says Mark Masters, senior partner with Secrest Wardle.
Without an agreement, the tenant has no duty that would support a negligence claim for such damages, according to the Michigan Court of Appeals. In 1986, the court ruled in New Hampshire Insurance v. Labombard that a tenant was not liable for fire damages.
Smart Business spoke with Masters about landlord/tenant relationships and how a landlord can keep from getting burned.
How does the Michigan Court of Appeals case affect the landlord/tenant relationship?
This case and its progeny have set the boundaries for a tenant’s liability to a landlord when a loss occurs as a result of the tenant’s negligence. In Labombard, after the defendant tenant’s daughter started a fire, rendering the apartment uninhabitable, the plaintiff insurance company sought damages based on the tenant’s negligence.
The court examined the rental agreement, which suggested this liability was not contemplated by the parties and evidenced the mutual expectation that the landlord would obtain fire insurance. The court held that ‘[a] tenant may reasonably expect that his or her rental payments will be used to cover the lessor’s ordinary and necessary expenses, including fire insurance premiums.’
Because the agreement did not contain an express and unequivocal clause holding the tenant liable to the landlord and/or fire insurer in tort for negligently caused fire damage, the tenant had no duty that would support a negligence claim for such damages. So, if the lease agreement does not contain ‘express and unequivocal’ language regarding a tenant’s liability for damages caused as a result of his or her own negligence, the landlord has no cause of action to recover these damages.
What type of negligence does the ruling affect?
The Labombard ruling has been adopted by the U.S. District Court for the Eastern District of Michigan and extended by the Michigan Court of Appeals to include other types of damage to property, aside from fire loss, caused by the tenant’s negligence. In The Milbrand Company v. Lumbermens Mutual Insurance Co., et. al., (1989), a section of the roof of the leased premises collapsed, and the landlord sought damages from tenants alleging they were negligent in allowing snow and ice to accumulate on the roof in violation of the lease provisions. The lease required tenants to obtain insurance on the premises for loss from fire or other casualty in an amount not less than 80 percent of the replacement cost. Also, if defendants failed to adequately insure the premises, the plaintiff could obtain insurance and charge defendants the cost of the insurance as additional rent. The plaintiff sued for negligence, arguing that insurance proceeds did not cover the entire loss and defendants were responsible for the balance.
The court, applying the logic in Labombard, held that the lease agreement placed the duty on the landlord to ensure that the building was adequately insured against casualty loss, and the duty of the tenants was to merely cover the cost of the insurance.
What damages are covered?
The Michigan Court of Appeals has declined to extend Labombard to preclude a tenant’s liability for all damages occasioned by the tenant’s negligence. In Antoon v. Community Emergency Medical Service, (1991), the lease agreement was silent regarding, among other things, who was to obtain fire insurance or how the risk was to be allocated.
Following a fire that occurred as a result of the tenant’s negligence, damage to the real property was covered by a policy secured by the landlord. It did not cover, however, damage to personal property or lost profits. The court held that the landlord was entitled to damages to personal property and lost profits if it could be shown that the damages were due to the tenant’s negligence.
In light of the ruling in Antoon, it appears that a landlord is entitled to recover against a tenant for damages to the landlord’s personal property and lost rental profits caused by the tenant’s negligence, although the Labombard rule would preclude the landlord from recovering for damages to the real property.
How can a landlord avoid Labombard?
The only discussion distinguishing a set of circumstances from the Labombard rule can be found in another Michigan Court of Appeals case, Stefani v. Capital Tire, (1988). In Stefani, a tenant appealed a jury verdict awarding the landlord damages following the destruction of the landlord’s building by fire, which the tenant conceded it negligently caused. The lease agreement contained the following provision: Tenant shall keep the premises fully insured against fire and casualty and plate glass damage. In Stefani, the lease was not silent on fire insurance. The tenant agreed to pay all premiums for insurance against loss by fire and to keep the premises fully insured against fire damage. The tenant could not reasonably believe that a portion of its rental payment was allocated to fire insurance premiums.
The court concluded that the lease was ‘clear and unambiguous’ regarding defendant’s duty to obtain fire insurance, and it was of no consequence that defendant did not expressly assume liability for damages caused by negligence. To avoid court battles and semantic debate, it is crucial that the lease agreement contain the express and unequivocal language discussed in Labombard and, more specifically, the key language as suggested in Stefani: Tenant shall be liable for any and all damages caused by his or her own negligence.
With this language in a lease agreement, a landlord may sleep easier at night.
Mark Masters is a senior partner with Secrest Wardle. Reach him at (248) 539-2844 or firstname.lastname@example.org.
Henry Dabish and his staff have introduced Powerhouse Gym into new markets by creating relationships and brand awareness like any other large company. But there is a twist: At Powerhouse Gym, the market comes to them.
Dabish, president, CEO and second-generation member of the company’s founding family, makes Powerhouse Gym’s headquarters and corporately owned stores in Michigan a must-see destination for anyone who wants to own and operate a gym in any area of the world.
“We used to have an approval process where we qualified the individual or group we were working with,” Dabish says. “Now we do the introductions face to face. Over time, we’ll interact with the person or group via phone calls and e-mails, but we felt those initial introductions, where we really get to know who we’re working with, have been really important. So we handle those in person.”
It doesn’t matter where in the world you want to build a Powerhouse Gym franchise. You need to make the trip to Michigan to learn the company ropes in a hands-on environment and, most importantly, gain a firsthand knowledge of the company culture and values.
“Recently, we had a group that wanted to buy the franchise rights in Bahrain and Qatar,” Dabish says. “We had them come to the U.S. and stay here for about three and a half weeks. They trained in our corporate gyms, and we got to know them very well. We’re now very comfortable with that relationship. They’ve seen how we operate in Michigan and now they’re going to take that model into their market.”
It’s one example of a larger plan to keep the culture consistent throughout the Powerhouse Gym footprint. To build a consistent culture, first you need to clearly define what it is your company stands for. Then you need to find the people, both at the corporate level and in the field, who will embrace and promote that culture to other employees and to customers.
Dabish has had to develop and promote that consistency of culture as Powerhouse Gym which generated $288 million in 2008 revenue has expanded both domestically and around the globe.Look for businesspeople
Whether you’re recruiting people to help grow your business or people are seeking you out for an opportunity to further their careers, you need to find out not only if they’re a good match for your company, but if they’re even a good match to run their own business or business segment.
The first requirement on your list should be to find good businesspeople, but wrapped up in that statement is a great deal of meaning.
A good businessperson has the financial backing to make the endeavor a success and the willingness to embrace and promote your brand and culture. A good businessperson also recognizes the level of commitment that you will need to build and maintain the business in a new market.
“We have to make sure that we provide the right leadership, that the owners at each club have the right character traits and leadership qualities, that they’re going to provide the kind of culture at their health club,” Dabish says. “We try to do the same thing on the corporate level to all of our executive-level employees and create a trickle-down effect that goes from top to bottom.
“A lot of people as they’re getting into a business think that they can come and go as they please. But really owning a business is more responsibility than being an employee somewhere. You are the one who has to be self-motivated and driven, you’re the one who has to care about the success or failure of the business, you’re the one who has to hold your staff accountable and yourself accountable.”
As you’re getting to know a potential field-level manager or franchisee, you need to gauge their aptitude in dealing with customers, leading employees, managing finances and marketing to a new audience. The best way to do that is to turn them loose in a work environment for a few shifts.
Dabish gives all potential franchisees a test drive in a situational environment by having them work shifts in each of the different gym models that Powerhouse runs and franchises. It’s similar to the education Dabish received as a teenage employee working for his dad and uncle, who founded Powerhouse Gym in 1975.
“When I started in the business when I was 15, I did most of the jobs and eventually worked my way up to owning my own business,” Dabish says. “With that in mind, we like to bring new people to our corporate office and spend a few days with them, get them out into some of our different gym models so they can see how each of them run. We let them work a couple of shifts in each of our gyms so we can see them in action and so they can make sure it’s the right fit, something that they’re comfortable with.
“You want them to know exactly what they’re getting into prior to making the decision to get involved. That’s why you need to have every manager learning how to do pretty much every job and have every responsibility within a business.”
When possible, Dabish likes to promote from within. Internal candidates are already trained in your cultural principles and business model, which means capable internal candidates generally have the easiest transition into a management-level role.
It might not work in every situation. In some situations, particularly as you grow your business abroad, you might need to bring outsiders into your ranks. But you should still work to keep the talent pipeline stocked so that you can take advantage of the opportunities you do have to promote from within.
Dabish and his staff try to hire people who are overqualified for their initial position within the company. If the new hires excel in their initial position, Dabish and his team can accelerate their ascension through the ranks.
It comes down to finding a cultural fit first, then technical skills. Finding a cultural fit is often of greater importance than finding a purely skill-based fit. Skills can be taught; values usually cannot.
“Really the character and people skills need to be first,” Dabish says. “You need people who are good at working with and serving individuals, people who feel really good about themselves and are self-motivated. If you project energy, if you find someone who is energetic and motivated, having a good time and enjoying what they do, people can see that. It feeds into your business, and then into your customers.
“That’s why you want to try and hire a more qualified individual and put the time and effort into training them, make sure they are committed to the company for the long term, not just a six-month or one-year run. If you find those people that you’re willing to train and promote, that means you’re hiring the right people, people who are essentially overqualified for the position they began in. It gives you a better talent pool all around.”Reinforce the culture
Once you’ve hired the right people and forged relationships with the right partners who can help you grow your business, you need to continue to promote your culture through regular communication and interaction.
Dabish and his corporate leadership team promote the culture throughout the Powerhouse Gym organization through twice-yearly meetings that bring executives and franchisees together. Upper management reinforces the cultural principles of the organization and franchisees share what has been working at their respective locations as well as areas that need improvement.
In essence, it’s a giant information-sharing session focused on the culture and promoting best practices.
“The first half of the day is really our corporate office addressing everyone in attendance,” Dabish says. “Then we break up after lunch and have individual workshops where we share ideas and share best practices. It’s one of the ways we stay in constant communication with our network. If someone in Tampa has a new product or a new service that has taken off, if there is an exercise class in California that is working well, if there is a new sales promotion that really seems to work, we want to share it with the entire network.
“That is one of the main benefits of keeping everyone involved in a communication network. Everyone is able to stay connected with each other and with the corporate office. If you own multiple stores, management needs to stay in constant contact with the managers of those locations. If it’s a franchise situation like we’re in, you need to stay in touch with those store owners on a regular basis. The key is to maintain constant communication and keep networking with each other.”
If you have the opportunity to bring your managers together, whether in person or via electronic media, you need to make the most of the opportunity. That means having a clearly focused vision for the future and a process for how to achieve that vision. Without a clear focus, no one in the room will be able to focus their efforts in the right direction.
“A focused vision should be one of your main goals,” Dabish says. “You need to have your executive-level people focused on a common task. If you have a formal goal that you are launching with a common purpose and mission and you get your team to buy in to that purpose or goal, that’s what makes things work. People have to buy in to what you’re preaching. You have to practice what you preach in order for it to work.”
The final key aspect of focusing people on a uniform set of goals is to create a sense of familiarity among your company’s decision-makers. Dabish picked up an idea from some employees who used to work for the Ford Motor Co., and it’s helped build positive relationships among managers before they even sit down to talk shop at a company meeting.
“We have a welcome reception at our company meetings,” he says. “During those receptions, people get to know each other and put a name with the face. That way, the following day when we start to talk business, people have already gotten to know each other a little bit and have gotten a chance to speak with each other. We’ve been doing that for the past four years. It’s an opportunity not only for our owners to speak with each other but with vendors. And a lot of times, it’s the first chance our corporate office managers have to meet with people from other locations.
“You can get to know each other in a formal setting, but it can also be a great help to break out for cocktails or hors d’oeuvres in a more casual setting. Many times, that’s the best way to get to know the people you’re going to be working with.”
How to reach: Powerhouse Gym, (248) 476-2888 or www.powerhousegym.com
Born: Elmont, Mich.
Education: Business administration and graphic arts degrees, Central Michigan University
Rivers on fielding tough questions: The human tendency would be to avoid those tough situations. But the reality is, if people are asking those tough questions and are willing to bring them up, you’re actually in a much better place as a business. If they’re not asking tough questions and if they’re not comfortable, then you have more issues as a company than you might care to realize. People need to trust enough that they’re able to ask those difficult questions and know that there aren’t going to be repercussions.
Rivers on different types of communication: From a practical standpoint, you can’t always be face to face with people as much as you’d like or want to. Then, there are some things that you want to write out and put in written form so that people can hang onto it and look back to it. That helps if you’re talking about more detailed strategic initiatives or cultural issues. People learn better if you have written and verbal at the same time, but giving them those different ways to take in that information is key.
Rivers on using initial wins to generate momentum: You take them, and communicate and plaster them anywhere you can. You have to make people aware. I also think that what happens is you get individuals and pockets that are getting success first, and it’s much more compelling for an employee to hear that from a peer than it is for me to share the information. If you have a salesperson who is highly successful with a new method or new way of selling, put that salesperson upfront and let them tell their story. If you do that, it creates this environment where other people sit back and say, ‘If they did that, why can’t I do that?’
Jerry Chapman’s wife laughs every time he attributes his company’s growth to luck. That’s because she saw all the 20-hour workdays that were really behind it, at least when her husband first founded Signal Group LLC.
Back then, the self-admitted control freak had a good excuse.
“When you’re a control freak, you have to work 20 hours a day because nobody can possibly do it as good as you,” says Chapman, CEO of the 50-employee company. “No one’s going to give the customer service you think the customer needs unless it’s you.”
But as SolidSignal.com the company’s online retailer of audio and video equipment and accessories has grown to 2009 sales of about $18 million, Chapman has had to adjust.
“The reality is that I stopped micromanaging and started surrounding myself with people who could make great decisions, who understood the vision,” he says.
Smart Business spoke with Chapman about empowering your employees to provide the kind of customer service you would.
Share best practices. People come with all sorts of different talents that you don’t have. So you sit down, you try to tell them everything you know. Then you have to learn to let go.
Now you start empowering. You start saying, ‘OK, what do you need in order to get better?’ You just become a listener. It’s very easy to say, ‘No, no, no, just try it this way or do it this way,’ instead of listening and trying to figure out the problem. Instead of saying, ‘Well, here’s what we’ve been doing,’ you try to look at what it is that they’re asking and try to solve their problems.
At the end of the day, we spend a lot of time talking to each other. Many times we have many different viewpoints with the exact same piece of data. It’s very surprising sometimes somebody will claim something and they have all this evidence to prove it and they’re right until you add one more piece of data in there: the way somebody else is looking at it. How quickly that other person will look at it and say, ‘Oh man, I can’t believe I missed that.’ Let people know what’s going on and all this informal communication will occur.
Sometimes you try to figure out what went right instead of what went wrong, and then you try to mass produce that. So it’s that whole best-practice concept.
Give employees information. We’re developing wikis now, and we have this database of information that’s easily searchable internally. As you grow, you start developing how you’re going to handle the vast amount of data that you have whether it’s just customer information or sales information, purchasing. It starts making them a little more powerful as they can utilize that data. Because you have this ability now to extract the data you already have, what about putting data in? That’s the difference between what we call wiki and just data.
The idea behind it is if somebody calls up on the phone and they need an answer to the question, we’re hoping that we’ve already answered the question a hundred times. If that customer service rep doesn’t know it, they don’t have to learn it themselves by trial and error. They can just type in a couple things and maybe something will pop up.
The first time you do it, you’re sort of reading it. And then the second time that you’re doing it, you’ve read it before ‘Oh yeah, I remember that.’ Maybe by the third or fourth time, you’ve had somebody else explain it to you or something else that you knew about this jives now.
After you recommend a few hundred antennas, you get really good at recommending antennas. And then after that, you get really good at recommending antennas, let’s say, for Chicago. And then after that, you get really good at recommending antennas for Southfield. And then after that, you get really good at some part of the country you’ve never heard of before because you’ve [done it] four or five times.
It has to do with: How do we make the people that we have even better, faster, more nimble, more flexible, [learning] different ways to approach a solution.
Let employees pass it on. If we’re doing that internally, why shouldn’t we make that available to our customers? That way, they’re not even asking the question. They already know and they feel comfortable about their purchasing decision or maybe not to purchase.
I think there are different ways to answer a question. All those answers can be based on all sorts of variables they could be based on how much money do you have to spend, could be based on location, could be based on the impact of new technology in the future. To take away the ability for somebody to think is if you say, ‘OK, here’s what you have to do.’ The minute you do that, our answers become stale.
So the objective is to be able to provide the information as detailed as possible to the customers so that they can make the better decisions for themselves. We’re making recommendations; we’re not holding guns to people’s heads.
We’ll make a recommendation to a customer and he or she doesn’t want [that] and they want to try something else and it works. We’ll post that so people can see what it is that other people have done in their area. We also do that with best-selling products.
You’ve got to keep going. So the first one was just linking everything together. The second one was adding to it. The third one was letting our customers have access to it. The fourth one is let them add to it. And then there’s no end.
We’ve got people who steal content from us all the time. And that’s perfectly fine. At least a customer knows what it is that they’re getting. It helps reduce our return rates. It doesn’t matter that they didn’t find it from us but maybe they’ll still purchase it from us because we have the best service or the best price or maybe we have it in stock and nobody else does. But at least they got the information before they purchased.
How to reach: Signal Group LLC, (877) 312-4547 or www.solidsignal.com
Does your financial institution deliver the customer service you expect? Does the loan officer know your name? And what about the teller you see twice a week?
Better yet, does your bank provide convenience services so you don’t need to take valuable time away from your business to battle traffic and wait in line to make simple deposits?
“Service is soup to nuts, from how you are treated to the ancillary services the bank offers,” says Darlene Nowak-Baker, executive vice president and lending manager with First Place Bank.
Test your bank’s accessibility with this service litmus test: Look up your bank and check out the phone number. Is the listing a direct line to your local bank, or an 800 number that most likely links to a customer call center and not the location down the street from you?
“Many banks today have a centralized number you call, and it’s difficult to talk to the person you deal with on a day-to-day basis unless you happen to have his or her business card,” Nowak-Baker says.
Smart Business spoke with Nowak-Baker about the characteristics that service-oriented banks share qualities that you’ll want to make sure your bank has.
What are the bare-bones basics of service that business owners should check before working with a bank? ?
You can break down service into two areas. First is the people part. Whether business owners manage small, medium or large companies, they want to walk into a bank and have people know them. They want loan officers and other key personnel to know their accounts and to be knowledgeable about their businesses. Second are ancillary services, such as convenient banking hours, Internet banking and even courier service.
But above all, the staple in service is how the individuals in your branch treat you. Personnel should return phone calls promptly, be knowledgeable about products, and if they don’t know the answers, they should be helpful in directing you to the appropriate person to address your needs.
Now that so many of our financial transactions are electronic, what value does personal contact provide? ?
Growing businesses really need to have a partner who understands their business. You want to be able to build relationships with people in an organization so that they will identify your evolving financial needs as your business grows.
If the only point of contact for a business owner is the loan officer, often service in banking can get lost. You should have an opportunity to interact with a more senior person in the organization in addition to your loan officer and your local branch staff.
What other expectations should business owners set for the financial institutions they deal with? ?
Extended branch hours are key. I would not bank at a branch with limited hours of operation the once-traditional banker’s hours of 9 a.m. to 4: 30 p.m. don’t suit most managers’ schedules. The first question I would ask any bank is, ‘Do you offer extended banking hours?’ Even if you don’t take advantage of these hours all the time, there will be times when you do, and having the opportunity to swing by the bank at 6 p.m. or in the early morning before heading to the office is important.
What ancillary services should a business owner look for? ?
Check to see if your bank provides some kind of courier service. As a business owner, if you can have a courier service pick up your deposits for a nominal fee, you can save several weekly trips to the bank. Your time is better spent working in the business not en route to the bank to make basic transactions.
Do the rules of service change for Internet banking? ?
From a tech support standpoint, most banks delegate a key contact person to address questions, concerns or troubleshooting issues. But keep in mind that service standards apply to all aspects of a bank. Whether you’re banking online, in person or over the phone, response time is critical.
Ultimately, you want to enter a banking relationship with a financial institution that sets high service expectations for its staff. That way, you know they will get to know you and your business, and they can make appropriate account recommendations.
As for your expectations, set those high, as well. You deserve to work with a financial institution that can tailor its products and services to meet your business needs.
Darlene Nowak-Baker is an executive vice president and lending manager with First Place Bank. Reach her at (248) 358-6403 or DNowak-Baker@fpfc.net.
Most employers work hard to make sure that they follow the law when it comes to their human resources policies. But if an employee alleges that a policy was breached, the result could be an employment practices claim against the employer, resulting not only in financial loss but in loss of reputation.
Claims can cover a broad spectrum of actions, including sexual harassment, retaliation, wrongful termination and discrimination because of race, religion, age or gender, and provide for relief to the employee.
“Damages can include compensatory damages, such as replacing the money the employee should have received, and punitive damages,” says Tom Hams, managing director and EPLI national practice leader at Aon Risk Services Central, Inc. “These cases can also take up a lot of time and can be very emotional for those involved.”
Smart Business spoke with Hams about how employment practices liability insurance (EPLI) can help protect your company against employment practices claims.
What key things should business owners understand about EPLI?
Business owners should be cognizant of their duties under the policy. They should understand the definition of a claim, know when they’re supposed to notice a claim and who these notices should be sent to, and know what their rights are in regard to selecting legal counsel. There can be problems if a business owner agreed to use a panel of counsel within the insurance policy but then hires a different firm during litigation and incurs costs without alerting the insurance carrier. Owners should also understand what isn’t covered. There has been a fair amount of litigation around wage and hour claims, such as overtime pay or failure to pay for meal times or breaks. These are not traditionally covered under an employee practices policy. This is a difficult risk to underwrite, an expensive claim to defend and is often deemed uninsurable under public policy.
What should be included in a good EPLI policy?
There should be a broad definition of loss, including punitive damage coverage with favorable venue wording. This language requires the carrier to look at any jurisdiction that has a nexus to the claim, policy, insurer and insured to see if the law in any applicable jurisdiction is favorable to providing insurance for this type of claim. Policies are drafted broadly in this way to make it difficult for insurance carriers to find a way to raise an insurability concern.
Business owners should obtain as much control over selection of counsel and settlement authority within the retention/deductible as possible. There should also be broad notice capabilities so the insured doesn’t get caught with late notice arguments. Large companies have a much greater frequency of claims. But smaller companies run into notice difficulties when they do not understand the breadth of the definition of the claim. Smaller business owners should seek to obtain an appropriate period of time to get a claim in to the carrier before any policy provisions are violated and should acquaint themselves with the definition of claim under their policy. There should be a broad definition of wrongful acts so that a wide array of activities is addressed by the policy, including a broad definition of workplace torts and, ideally, third-party coverage.
What are the concerns with EPLI policies?
These claims are very intentional in nature as far as the alleged activity. EPLI policies are designed to cover activities such as sexual harassment, retaliation, race or gender discrimination, or hostile work environment. But some states have issues against allowing insurability of intentional acts. Clients in states with these insurability concerns, however, can use ‘wrap’ policies, often obtained from Bermuda insurance carriers, to provide coverage for punitive damages and intentional acts.
Some also fear that purchasing coverage may make it more likely that employees will bring claims or that the claims will be larger. There is no evidence, however, that this is the case, and in some instances, the presence of an insurance carrier can take the emotion out of the case for plaintiffs and make them realize they are not as much going to seek revenge against their employer as they are going to have to go to battle with an insurance carrier.
What is the typical cost for EPLI?
It varies widely based on what type of deductible the business is willing to take. And because employee headcount is a big determining factor of cost, it is hard to make any generic statement regarding pricing.
However, premiums have not increased, even in this economy — they’ve stayed flat or decreased slightly. So, business owners might think that the price for EPLI would be too high, but that’s not the case. While larger employers have purchased EPLI for a fairly long time now, it is important for companies with fewer than 5,000 employees to consider purchasing the coverage while pricing remains inexpensive, because smaller companies run a greater risk of exposing their balance sheets to a catastrophic loss from an EPLI claim than large employers and are more likely to get value from the risk management services provided by carriers through the coverage.
What steps should business owners take if they are hit with an employment practices lawsuit?
Business owners should reach out to their broker if coverage is in place to consult on his or her duties, as far as the policy and claim process. They should also quickly determine the ability to either use a panel of counsel assigned by the insurance company or select their own counsel. It’s critical to get this legal advice immediately, because there’s a brief window of time after receiving a claim where the tiniest mistakes can make a huge difference. For example, a business owner may fail to hit time periods with regard to litigation or take some internal action in relation to the claimant that dramatically increases exposure on the overall claim.
Tom Hams is managing director and EPLI national practice leader at Aon Risk Services Central Inc. Reach him at (312) 381-4561 or email@example.com.
Born: Evansville, Ind.
Education: B.S. in mechanical engineering, Purdue University; MBA, University of St. Francis, Fort Wayne, Ind.
First jobs: I mowed lawns, and I also was the night manager at a gas station on the interstate when I was in high school. But what really mattered to me was that my father got me into the Teamsters union. I’m making $8 an hour in my first year out of high school working on a Teamsters dock. But the lesson is, we all knew better ways to do things. Let’s change the way we unload boxcars, the way we load a truck going out on a run. A couple of managers would listen to us for anything. I learned a lot about listening and how that can empower people to make changes. As a leader, you always want to listen to the people who know best how to run something.
What traits or skills are essential for a business leader?
Having consistency, and having a straightforward, simple approach to communication. Having a willingness to spend time with the people in your business and listen to them, recognizing that many of your best ideas are going to come from the folks in your business. My role isn’t to tell them what to do. It’s to enable them.
What universal truths have you learned about leadership?
Change is a constant, but you have to think about the pace of change that makes the most sense. Sometimes you need to expect change quickly and respond to change quickly, but you need to be able to judge what makes sense and stay on the ragged edge of your comfort zone.
Finding the money to pay for medical expenses can be difficult, but investing in a health savings account can help ease the burden.
HSAs are triple tax preferred money goes into the account tax free, is spent tax free and grows tax free and funds can be used for any qualified medical expense.
“The great thing is that these accounts are owned and controlled by the account holder,” says Marti Lolli, product manager with Priority Health. “They operate like a personal checking account and include similar features, such as debit cards.”
Smart Business spoke with Lolli about how to take full advantage of an HSA.
How do HSAs work?
You must be covered by a high-deductible health plan (HDHP) in order to be eligible for an HSA. HSAs are available through banks or credit unions and come with typical bank account features.
These accounts are not associated with a particular employer or health plan and are owned and operated by the account holder, so even if you’re drawing unemployment, you can use an HSA to pay for your health insurance premium and other medical expenses. HSA money also rolls over, so it can be used for medical expenses today or in the future. In addition, HSA dollars can be used to pay for your spouse’s and dependents’ expenses, even if they are not covered under your medical insurance.
And because decisions on how to spend the money are made by the account holder, not an insurance company or other third party, you need to keep all receipts in case of an audit by the IRS. You need proof that you are spending HSA money on qualified medical expenses, such as deductibles and copayments, dental and orthodontia services, and vision services, including glasses and corrective surgery.
What are the risks associated with HSAs?
One is not putting enough money into the account. Accounts are capped per year by the government, and because you cannot exceed that maximum contribution, you can’t catch up later if you failed to put in money when you could. The most you can contribute for 2010 is $3,050 for single HDHP coverage and $6,150 for family coverage.
Contribute enough to cover your projected yearly medical expenses. If you don’t spend the money but also don’t put in enough, you won’t have enough when you retire. Most financial advisers say that, because of the triple-preferred tax status, an HSA is the first place money should go after you contribute enough to receive your employer’s full 401(k) match since HSA dollars can pay for Medicare premiums tax free.
Another risk is failing to receive preventive care, even though many HDHPs cover this at 100 percent. All medical expenses are covered under high-deductible plans, but the plan can’t pay for anything until that deductible has been satisfied. You could increase your risk of disease down the road by avoiding screenings now.
What are key things employers need to understand about HSAs?
Employers are nervous that employees will stop receiving care because services are paid for out of pocket with high-deductible plans. But when employees are paying, they’re more likely to get appropriate care. Studies also show that people with chronic conditions who hold HSAs take better care of themselves.
Employers also worry that these plans won’t change the trend of health care spending, but the reverse actually happens, as premiums continue to be about 30 percent for HDHPs. The premium increase is also smaller each year than it typically is with other plans, so many employers contribute part of the savings into employee HSAs.
Many employers hesitate to offer HSAs because they cannot get that money back. If an employer puts money in an employee’s HSA on Jan. 1 and the employee terminates on Jan. 2, the employer cannot recoup the funds.
One solution is to spread contributions over the year, but what if that employee has a big ER visit on Jan. 2? A recent change in the Federal Registry allows employers to prorate contributions over the year but advance money to help employees with a medical emergency. Employers should create a policy that specifies this option is available and outlines how employees can access that contribution sooner and then apply it uniformly across all employees.
Employers can allow employees to put pre-tax contributions into the HSA bank account through a payroll deduction process. The employer must sponsor a Section 125 plan (also known as a Cafeteria Plan) and reference the option for employees to contribute money tax free. Employees then simply make a contribution election, which can be changed at any time.
What do employees need to understand about HSAs?
Employees need to compare health insurance plan designs if they have more than one option. For example, if an HDHP is offered as a benefit design along with another design, calculate which option is best for your family. Determine your premium costs under all options, then look at your expected health care needs and factor in the out-of-pocket costs associated to those services (deductibles and copayments), and how much your employer is contributing. And if the HDHP with an HSA makes the most sense for you, discipline yourself to contribute to the HSA every pay period.
While you have to be careful how you use your account because of audits, at the end of the day, it’s your money, and you can spend it how you want for medical expenses.
Marti Lolli is a product manager with Priority Health. Reach her at (616) 464-8233 or firstname.lastname@example.org.
It was mid-2008 when the U.S. automotive industry started crumbling around Yazaki North America Inc., the North American arm of global automotive component supplier Yazaki Corp. By mid-2009, both General Motors and Chrysler had filed for bankruptcy protection, and plant shutdowns, layoffs and bankruptcy proceedings were rampant among automotive suppliers, as well.
It was more than a downturn. It was an emergency.
“I’ve been in the business a long time, and I’d never seen a crisis so severe that even our customers were unsure of their future,” says Perry, who retired last month as Yazaki North America’s president and CEO. “They couldn’t even give us guidance as to what the next quarter or year would hold.”
Revenue at Yazaki North America dropped from $3.1 billion in 2007 to $2.2 billion in 2008. The loss of income necessitated cutbacks throughout Yazaki’s continental footprint. Approximately 25 percent of salaried employees were let go through layoffs, attrition and buyouts. Many other employees were affected in some capacity through plant closures and restructuring. That was on top of a corporate restructuring that was already under way when the economic crisis hit.
“Even with our revenues down, we still had to find the cash to restructure the entire company,” Perry says. “We were already in a mode where we were completely overhauling the business system so that we could have one integrated business system. We were in the middle of all of this, which was a major undertaking, when this high level of uncertainty hit the marketplace.”
It was instability piled on top of instability. The company wasn’t sustaining just economic damage. It was sustaining damage to employee morale, which if left unchecked, can damage or destroy a company’s culture.
Perry and his leadership team had to react quickly, both to salvage Yazaki’s finances and reinforce its culture.
The problem with downsizing is that what is good for your company’s coffers is most likely bad for your employees. Saving money means cutbacks, closures and layoffs. Employees generally don’t react well to any of the three.
Perry recognized that, so before he even talked to his leadership team about formulating a communication strategy, he sat down with them and formed a detailed plan for the company’s direction and explained the reasoning behind the decisions that would affect the entire company.
“Before you even talk about communication, you have to make sure you have clearly thought out the direction you’re going to go, the issues everyone will be facing and that you have all stakeholders on the same page,” Perry says. “It’s important that once you start the communication process, that everybody is aligned.”
The plan has to start at the top and work its way down. Managers at all levels of the organization need to have a say in the plan, so that each executive and manager can take a sense of ownership in the company’s future direction.
From there, corporate management can begin communicating with managers down the line and on to employees and associates on the lower rungs of the company.
“During any kind of crisis period, there are all kinds of rumors, so you can’t afford to have different and mixed messages coming from the different levels of management,” Perry says. “It’s very important that you clearly get the leadership team focused on where you’re going, how you’re going to get there, what this will mean in terms of any of the stakeholders in the company. After that, you need to make sure that you’re available, that you’re approachable, so that you can support any of the communications that go out.”
Perry started communicating the need for change via e-mail and voice mail. He left a personal message on the voice mail at every employee desk. His leadership team sent out memos outlining the need to reduce Yazaki’s structure for the sake of staying competitive. Follow-up written communication helped keep employees abreast of the plan as it progressed.
“We wanted to be sure that everyone always had more advance information if we were going to do anything in terms of concrete actions that were going to affect the work force,” Perry says.
It’s critical to keep people involved in the plan from the first steps. It’s one of the best ways to engage managers and employees and enable them to have their voices heard as the company is changing.
The bottom line is, even when you have to communicate bad news, it will make a lot more sense to your people if they feel like you have gone out of your way to explain the reasoning.
“If you get people involved in the development, they know what questions were asked during the development phase, how you arrived at the conclusion you arrived at, why you’re going where you’re going. Then, when you start the communication process, you have consistent communication throughout the organization.”
In order to stay visible and accessible, Perry uses the tried-and-true method of management by walking around. The term might be an overused business cliché, but Perry says it’s still relevant.
“It can be casual,” he says. “I eat lunch in the cafeteria every day. People can join me, or sometimes I just join a table of associates. It’s sort of an open forum. They can ask me any question they want, whenever they want. They can ask me in the cafeteria, in the hallway, in casual meetings, wherever they are. And through all of it, they’re always hearing the same message. And you can’t be afraid to answer tough questions.”
When hard times hit, your willingness or lack of willingness to candidly answer tough questions can go a long way toward either reinforcing or tearing down your culture. Your willingness to answer challenging questions — and your employees’ willingness to believe your answers — is rooted in how you conducted yourself before the crisis.
“Honesty and integrity are characteristics that are extremely important,” Perry says. “If you have built credibility within the work force, there is really no reason to be concerned about being available for answering the tough questions.”
Perry says you can’t have different policies for different situations. In your employees’ minds, either you are open and straightforward at all times or you’re not. And if you’re not, your integrity will suffer.
“You have to give the good news and the bad news,” he says. “You have to talk about where the company is going in the long term and the impact it will have on everyone. Sometimes, you’re not going to achieve what you would have liked to achieve. It all goes back to honest and open communication.
“Don’t give anyone the feeling that you’re holding back and hiding something because you’re afraid of the consequences. That’s not a position you want to put yourself or your company in. Employees sense that, react to that, and it takes away from doing the things that need to be done so that your company can survive and recover from the crisis.”
Build up your people
To keep your messages active and circulating in a challenging time, you need advocates throughout your organization.
They’re in there somewhere. You just have to know how to find them, groom them and empower them to keep your company together.
If you can create communicators throughout your company, it’s another way to generate trust between management and employees, even when an air of uncertainty is swirling around the organization.
“Identifying them is pretty easy,” Perry says. “If you walk around your company, you’ll find them. They’re the ones who speak up, who participate. They’re the people who others cluster around. What you have to find out is, are they working on behalf of the company or against it? You need to get to know them better before you can assess that.”
A leader doesn’t have to hold an upper-management title. When you’re trying to promote a new way of thinking in your company, the leaders are the ones you highlight as people who can create buy-in from the people in their division or department.
“One of the things I’ve learned over time is that you will find leaders at every level of the organization,” Perry says. “Leaders aren’t just those who happen to have a management title. They are the ones who really help keep a company together in bad times. Having those people in place and informed can really help to offset those few naysayers who just think the sky is falling all the time. If you have people at all levels who are saying positive things, it can help to head off an undercurrent of people who are saying negative things.”
Recognition — when it is genuine and warranted — is another key factor in building a positive mindset among employees during challenging times. Every win your company achieves is something you should promote and encourage others to promote. It doesn’t matter if it is an individual accomplishment, a team goal that was met or exceeded, or something in which the entire company can share.
When employees are hearing about nothing but cutbacks and downsizing, it is good to remind them that the company is still making positive strides. But you need to be careful in how you recognize individuals and teams.
“You need to really investigate the data in terms of the person and their accomplishment,” Perry says. “What you don’t want to do is give someone credit in front of the organization, and then realize that the work was actually done by other people. So you need to make sure you do that for all high-level recognition.
“But overall, recognition is positive. It’s a way to reinforce that you’re headed in the right direction. We always make sure that we’re talking about the good things along with the bad things. We talk about some of the positive changes that have been made, some of the advancements we’ve made by going through a particular issue or crisis, even if the outcome isn’t quite what we desired. You just have to be sure that the recognition you give people is well earned and well deserved.”
Perry’s people-first approach to crisis management has helped Yazaki North America weather the storm, though the company isn’t in the clear yet. Despite signs of improvement in the U.S. economy in the last quarter of 2009, the face of the U.S. auto industry has been permanently altered. Chrysler is now connected to Italian automaker Fiat, and the post-bankruptcy GM is far more streamlined than its previous incarnation, having purged some of its well-known brands, such as Pontiac, Hummer and Saturn.
Perry says any normal amount of contingency planning couldn’t have totally prepared Yazaki or its employees for the disaster that befell their industry in the past 18 months. But it doesn’t mean that planning and preparation didn’t help Perry lead his company through the minefield.
“We’re still in a mode where the future is uncertain,” Perry says. “It’s not very clear how long the recovery will take and in what form, which means we still have to adapt. That’s why you always need to be planning. Any company that isn’t planning has a real problem. You can’t just react to whatever happens.
“In a major crisis, the bigger issue is, how do you react? How do you react in a crisis that wasn’t anticipated? Do you stay true to your values or react in a way that makes people think you’re panicking? As a leader, you need to make sure that your people know that even in a crisis mode, with very uncertain times ahead, the company is staying true to its values and is doing everything possible to care for its employees.”
How to reach: Yazaki North America Inc., (734) 983-1000 or www.yazaki-na.com