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Flight To Quality

By John Kelly

Since organizations that rent or hire aircraft can be liable for significant non-owned aircraft exposures, risk managers must develop methods for managing these risks.

To risk managers who deal with myriad exposures, aircraft liability may seem to be a relatively unimportant issue. This is particularly true if the risk manager's company owns aircraft, since it is fairly easy to identify and manage the risks associated with the maintenance and use of owned aircraft.

But what about a company's exposure to non-owned aircraft? Organizations that rent or hire aircraft on an as-needed basis can be liable for accidents resulting from the operation of these craft. Examples of this "non-owned aircraft liability" include: a company that has an arrangement with several fixed base operators (FBOs) to charter aircraft to transport company personnel and clients; a real estate division of a large company hiring aircraft to photograph land sites it is interested in purchasing; a construction contractor that hires a helicopter to transport building materials to various project sites; and an agricultural cooperative that frequently hires aircraft crop dusters on behalf of its members.

Since the operation of non-owned aircraft can result in significant exposures, risk managers must identify and properly analyze their aircraft programs and develop an appropriate method for managing these risks. Accomplishing this requires a full understanding of the company's program for aircraft use.

As with automobile liability exposures, aircraft liability involves legal duties pertaining to ownership, maintenance and use. With respect to non-owned aircraft, the degree of exposure will depend on the total bodily injury and property damage exposure and the level of responsibility for the operation of the craft.

Identifying non-owned aircraft exposures is not always easy, particularly for global organizations that are engaged in many different types of business. In these organizations, the risk manager's ability to identify the company's exposures depends on his or her knowledge of company operations.

Techniques For Managing Exposures
Once the risk manager has identified the loss exposure, he or she must choose an effective method to manage the risk. Contractual transfers may be an option. However, attempting to transfer aircraft liability risks by relying on the legal theory that the principal is not responsible for the negligence of an independent contractor can prove problematic since the courts may have a different viewpoint. Technically, a company could transfer this risk to the FBO or aircraft operator using a "hold harmless" agreement. However, this agreement is only valid if a court upholds the contract and the transferee (in this case, the FBO) is financially able to pay.

Should a company retain this risk? Due to the low frequency/high severity nature of the exposure, self-insured retentions are not likely to be an effective risk financing method. Retentions make sense if the losses are relatively low in severity and predictable which is not the case with aircraft exposures.

Insurance can be a more reliable method for transferring this type of risk. In most cases, FBOs will agree to include their customer as an additional insured under the FBO's insurance policy. Risk managers may decide to use this approach if they are comfortable with the coverages and liability limits provided and are able and willing to monitor the FBO's insurance program and subsequent policy renewals. This can become cumbersome, however, if the risk manager has to deal with several FBOs, each with a different insurance program.

Consider for example, the case of a manufacturing company employee who is a licensed pilot and frequently uses his aircraft on company business. If his plane is being repaired, he may rent another aircraft. This can cause problems for the company if the employee is carrying inadequate coverage or is insured with an underwriter who is unwilling to add the company as an additional insured. Some FBO insurance policies do not provide additional insured status to renter pilots or provide only low limits.

Another issue risk managers must consider is the property damage exposure to rented aircraft. Additional insured status will provide the risk manager with third-party liability protection but will not relieve the company of liability to the lessor (in this case, the FBO) for aircraft damage. Therefore, risk managers need to review the rental agreement to see if their companies are responsible for damage to the rented aircraft.

Loss Control Issues
If a company is considering hiring an FBO for aircraft charter services, the risk manager should consider arranging for a survey of the FBO's operations. A personal inspection allows the risk manager to meet with key personnel who can provide an overview of operations and all salient risk management issues. During the visit, the risk manager should determine how long the FBO has been operating and current management has been in control; evaluate the FBO's risk management program, which may involve holding discussions with the FBO's risk manager, broker or underwriter; review the FBO's financial condition to determine the soundness of the operation (e.g., an unprofitable FBO is unlikely to hire the most qualified pilots and mechanics); determine the turnover rate for pilots and mechanics; and examine the condition of the aircraft and premises.

As in the case of the manufacturing company employee, the exposures created by employees who operate aircraft on company business should not be overlooked. The risk manager should consider consulting with a qualified flight instructor to help establish minimum pilot training and proficiency requirements for the employee-pilot. In addition, any passenger flights the employee may make should be closely monitored and reviewed for the additional exposures they create.

Even though a company may seem to have an effective system in place for identifying non-owned aircraft exposures, the risk manager may not be able to identify all of them. However, it is not a good idea to rely fully on the aircraft owner's or operator's insurance. As a result, the risk manager may want to consider purchasing an insurance policy. This doesn't mean that risk managers should discontinue using other protection measures; a combination of risk management techniques will help reduce overall exposures and put the company in a better bargaining position with aviation insurers.

Non-Owned Aircraft Insurance Policies
The typical non-owned aircraft liability insurance policy has wording that is similar to the liability section of an auto policy that provides "hired" and "non-owned" coverages; in fact, the insuring agreements and some of the exclusions in these policies were derived from the wording in auto policies. The non-owned aircraft liability policy provides bodily injury, property damage and medical expense coverages. The insuring agreement specifies that the liability must arise out of the "use of non-owned aircraft by or on behalf of the Named Insured."

In the policy, "non-owned aircraft" is a defined term and probably the most important provision since it specifies the exposure to be insured. The definition contains the following: 1) it precludes aircraft owned in whole or in part by the named insured; 2) the aircraft to be covered cannot contain more than a certain number of passenger seats; and 3) it precludes aircraft subject to a long term lease or service agreement.

The passenger seat provision represents a critical section of the policy since it determines the type of aircraft to be covered. The seating limitation can vary between insurers, depending on the type and level of the risk. Currently, the maximum number of seats provided by aviation underwriters is 60. However, if a company charters a plane with more than 60 passenger seats, the risk manager may have to rely on the aircraft operator's insurance. In this context, "insured" is a defined term and includes the following: 1) the named insured and 2) a director, officer or employee of a named insured corporation while such person is acting in this capacity.

The non-owned aircraft form does not cover directors, officers or employees if the insured aircraft is owned by, or is under a long-term lease to, such individuals or to a member of his or her household. Medical expense coverage is sometimes offered, and the limits are usually negotiable.

Policy Exclusions
There are several typical exclusions in aircraft liability policies. For example, the care, custody or control exclusion does not apply to personal effects of passengers but is normally subject to a limit of $250 for each passenger. Keep in mind that this exclusion would apply to property damage to aircraft in the insured's care, custody or control. Since an airplane is an expensive piece of property, a corporation that rents an aircraft could be exposed to a large loss. Although it is unlikely that a renter would be responsible for damage to the aircraft while flying as a passenger, the insured may be responsible for its employee pilot who operates a rented aircraft on company business. The company may be able to transfer this risk to the lessor (FBO) through a hold harmless agreement. If not, the company might consider purchasing additional coverage to insure this exposure, which aviation underwriters often refer to as "non-owned physical damage."

Liability arising out of the insured's products is excluded. The purpose of this exclusion is to reinforce the fact that this insurance would not cover aircraft product liability-type exposures. Additionally, since aircraft are loud machines, noise caused by the movement or operation of aircraft is excluded. Most policy forms also exclude aircraft that are used by the insured for hire or reward, and some may exclude specific types of craft such as helicopters.

Aircraft policies often contain a warranty that requires the pilot in command to meet certain qualifications. However, in the case of non-owned aircraft, the pilot's qualifications may be beyond the knowledge and control of the insured. Therefore, risk managers should check the non-owned aircraft policy to ensure that their companies are not burdened by this condition.

With respect to the "other insurance" clause, the non-owned aircraft form is usually excess above any valid and collectible insurance. In order to eliminate "double dipping," some forms state that if the other insurance was written by the same insurer, then the total limit will not exceed the greater or greatest limit applicable under any one policy. Policy territory is also an important issue. In most policies, the standard territory covered is the United States, Canada, Mexico and the Bahamas. If the risk manager's company requires insurance for a wider territory, this coverage can usually be negotiated.

Underwriting Issues
If the risk manager has decided to buy insurance, he or she should present all exposures to the underwriter. Risk managers should also be able to show that their firms have developed a system for identifying non-owned aircraft exposures. Supplying evidence of this system is important because underwriters get nervous if "no known exposure" is reported on the application. This can create a question as to whether a given risk is insurable.

Companies that lease aircraft should have in place a policy or directive that addresses the use of aircraft on company business. The directive should state that aircraft use must be approved by a specific member of senior management. The risk management department should be informed about the details of this directive so that the exposure can be properly identified and conveyed to the insurer.

If the company charters aircraft, the risk manager should be able to present to the insurer the following information: a description of the business; the number of employees; a list of company locations; types of aircraft used; an estimate of the number of hours flown annually; aircraft liability limits carried by the charter operator and the name of its insurer; whether the company is insured under the operator's policy; the area of aircraft operation; and the average passenger load (and whether the passengers are employees or guests). If the company has employee pilots who operate aircraft on company business, the risk manager must be able to present information on the pilot's qualifications and flying experience, including the flight hours he or she has logged

A final note on the practicality of managing non-owned aircraft exposure: Identifying the loss exposure is probably the most difficult part of the risk manager's job. Although an aviation underwriter requires a great deal of information before offering a quote, risk managers should not be daunted if they have trouble getting every detail about the exposures, considering the highly technical nature of aviation issues. Often, the risk manager can discuss the issues with the underwriter so they can jointly develop a program for effectively and efficiently managing non-owned aircraft exposures.

Reprinted from Risk Management magazine, September 1995 issue.

John Kelly is assistant director of reinsurance and assistant vice president of
Associated Aviation Underwriters, Short Hills, New Jersey.
(Updated 10/1/03)