Overhead and Profit

Overhead and Profit (O&P) refers to the additional costs included when calculating claim settlements to cover a business’s indirect expenses and provide a profit margin for contractors.

Profit is the financial gain remaining after all costs, including direct project expenses and overhead, have been deducted from the revenue generated by a contractor’s services.

Overhead encompasses fixed monthly expenses and indirect costs necessary for business operations, such as rent, insurance, and office supplies. Insurance providers typically include this calculation to ensure contractors can deliver high-quality work that respects policyholders’ time while still maintaining business viability.

Overhead and profit represent fundamental financial components in the business insurance landscape, particularly when calculating claim settlements and restoration costs after covered losses.

Overhead encompasses all indirect expenses a contractor or restoration company must bear to maintain operations, including office rent, administrative salaries, insurance premiums, utilities, and equipment maintenance.

These costs, while not directly tied to specific projects, are vital for a business to function and must be factored into every job. Cost allocation is crucial for contractors to maintain financial stability while providing accurate project estimates.

Profit, conversely, constitutes the financial gain retained after covering both direct project costs and overhead expenses.

In the context of business insurance, this represents the contractor’s compensation for expertise, risk assumption, and business sustainability.

Insurance carriers recognize that contractors cannot reasonably be expected to perform restoration work without accounting for both their indirect operational costs and a reasonable profit margin.

When property damage occurs from insured perils such as fire, water damage, or natural disasters, insurance adjusters typically calculate restoration costs by including line items for both overhead and profit in their estimates.

These components are particularly significant in complex restoration projects requiring multiple specialized trades, where a general contractor must coordinate various subcontractors.

A common guideline suggests an allocation of 10% for overhead and 10% for profit. These percentages can vary significantly depending on factors such as regional practices, project complexity, and specific insurance policies.

For business owners filing claims, understanding how insurers calculate overhead and profit is essential, as disputes often arise regarding these allocations.

Some insurance policies contain specific provisions addressing overhead and profit calculations, while others remain silent on the matter.

Courts have generally upheld that reasonable overhead and profit must be included in replacement cost settlements to make policyholders whole after a loss, reflecting the actual cost they would incur when hiring contractors for repairs.

The calculation and negotiation of overhead and profit figures can become contentious points during insurance claim settlements.

Businesses should carefully review their financial statements to determine their actual overhead percentage when preparing claims documentation. Incorporating factual evidence into claims documentation strengthens a business owner’s position during negotiations with insurers.

Business owners should maintain thorough documentation of all restoration expenses and understand their policy language regarding these components. Ultimately, appropriate overhead and profit allocations guarantee that businesses can properly restore damaged property while contractors receive fair compensation for their services, maintaining the integrity of the insurance restoration process.

Examples

Commercial Bakery

A commercial bakery in Denver suffered significant water damage when pipes burst during winter, affecting their kitchen equipment, inventory, and portions of the building structure. The bakery owner filed a claim with their commercial property insurance carrier.

The insurance adjuster initially offered $75,000 to cover direct material and labor costs for repairs, which included:

  • $45,000 for replacing damaged equipment
  • $15,000 for structural repairs
  • $10,000 for inventory losses
  • $5,000 for cleanup services

However, the claim overlooked vital overhead and profit considerations:

  1. The bakery owner would need to coordinate multiple contractors (plumber, electrician, general contractor) to restore operations
  2. The restoration would require permits, inspections, and project management
  3. The business would face increased administrative costs during reconstruction

The bakery’s restoration contractor submitted a revised estimate that included:

  • 10% overhead ($7,500) to cover indirect costs like project supervision, permit acquisition, and coordination between trades
  • 10% profit ($7,500) as reasonable compensation for the contractor’s expertise and business risk

After conducting thorough content research on industry standards, the bakery owner gathered credible data to support their position.

This case demonstrates the 10-10 rule commonly applied in the construction industry for calculating appropriate overhead and profit percentages.

After providing documentation showing industry standards for O&P in commercial restoration (typically 20-25% combined), the insurer approved a revised settlement of $90,000, acknowledging that overhead and profit were legitimate components of the claim necessary for proper restoration of the insured property.

Restaurant

A popular restaurant in Austin, Texas suffered significant damage when a fire destroyed their commercial kitchen equipment and caused extensive smoke damage throughout the establishment. The owner filed a business insurance claim to cover the losses.

After assessment, the insurance adjuster calculated the following:

  • Direct repair costs: $75,000 (equipment replacement, structural repairs)
  • Cleanup costs: $15,000
  • Total direct costs: $90,000

The restaurant owner requested that overhead and profit be included in the settlement, as they would need to hire a general contractor to coordinate the extensive repairs. The owner substantiated this request by showing:

  1. The contractor would incur overhead costs including:
    • Project management fees
    • Supervision expenses
    • Scheduling coordination between multiple subcontractors (electricians, plumbers, equipment installers)
    • Permits and inspection fees
    • Temporary office space during reconstruction
  2. The contractor deserved a reasonable profit margin for:
    • Taking on liability for the quality of repairs
    • Providing warranties on the reconstruction work
    • Managing the complex project timeline to minimize business interruption

After the restaurant owner demonstrated the complexity of coordinating multiple specialized trades and the restoration of commercial kitchen systems to health department standards, the insurer added a 20% overhead and profit allowance (10% overhead, 10% profit) to the claim.

The final settlement totaled $108,000 ($90,000 + $18,000 O&P), enabling the restaurant to hire a qualified general contractor who successfully coordinated the restoration within the projected timeline. This case illustrates how understanding the distinction between direct and indirect costs helped the restaurant owner secure appropriate compensation for their claim.

Accurate overhead and profit calculations offer substantial benefits for businesses within the insurance context. Companies that properly account for overhead costs can set appropriate premiums that guarantee sustainability and financial stability over time.

Proper structuring of overhead breakdowns enhances readability and makes complex cost assessments more scannable for all stakeholders.

Challenges arise when managing overhead and profit in insurance contexts. The outdated “10 & 10” rule is problematic, as modern insurance operations typically require greater overhead allowances to cover regulatory compliance, technology infrastructure, and specialized personnel.

Restoration companies may struggle to remain financially viable with overhead costs exceeding 50% of gross sales. Underestimation of overhead costs can lead insurers to set inadequate premiums.

Strict overhead controls imposed by industry regulations or market competition may force insurance providers to compromise on essential services like customer support or claims processing.

Did you know?

Insurance policies specifically designed for business overhead expenses (BOE insurance) exist to protect companies if key personnel become disabled.

This specialized coverage pays for operating expenses like rent, utilities, and employee salaries during the disability period, allowing businesses to maintain operations while the owner or essential employee recovers – a critical safety net that many small business owners overlook until it’s too late.

The misconception that overhead and profit represents a fixed standard with no possible deviation can lead to disputes in construction and insurance claims.

Effectively managing overhead costs is essential for maintaining a company’s profitability regardless of unexpected challenges.

Sources