Chapter 3 | Classification Procedures

Educational Objectives
Upon completion of this section, you should be able to:

 

  1. Identify the code number series and exposure base for the five basic business operations groups.
  2. Define and explain the terms — Including; NOC; NPD; Distributor; Dealer.
  3. Be able to distinguish between single business operations and multiple enterprises and how the assignment of classifications differs.
  4. Identify classification inclusions and exclusions.

INTRODUCTION

The audit required by the General Liability policy involves not only developing the proper payroll, sales or cost exposures, but also involves the assignment of proper rating classification and risk pricing.

Accurate classification assignment is an indispensable part of auditing. If a policyholder's operations are not properly classified, the principle of each business bearing its share of losses is nullified. Improper classification alters the credibility of the statistics developed and thus distorts rates, surcharges and underwriting judgments.

BASIC CLASSIFICATION ASSIGNMENT RULES

The General Liability section of the Commercial Lines Manual discusses classification assignment in two ways. First, Rules 25 and 26 describe the general concepts of classification assignment applicable to all risks as well as the general inclusions and exclusions to the classifications in the manual. Rules 27 - 32 (except Rule 30) apply to the classification of specific types of businesses: Manufacturing and Processing Risks, Contracting or Servicing Risks, Mercantile Risks, Building or Premises Risks and Miscellaneous Risks.

Classification Codes
The rules for classification assignment and exposure base depend on the type of business operation. Separate rules are provided for the various business operation groups. Each type of risk is identified by a distinctive first digit in the code number. The following table shows the exposure base for each of the business groups:

Business Group Class Code Exposure Base
Mercantile 10000-19999 Gross Sales
Miscellaneous 40000-49000 Various
Manufacturing or Processing 50000-59999 Gross Sales
Building or Premises
-Dwelling Risks
-Office Risks
-Lessor's Risks
60000-69999 Various
Each Unit
Area
Area
Contracting or Servicing
-By Insured
-By Subcontractors
90000-99999
Payroll
Total Cost


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Basic Classification Concept
The object of the classification procedure is to assign the one basic classification which best describes the business of the insured. Each of the classifications in the manual include all the various types of operations found in the business. It should be remembered that it is the business which is classified, not individual employments, occupations or operations within a business. However, more than one classification assignment may be necessary for risks with multiple business operations. Therefore, it is necessary to determine whether the risk will be considered a single business operation enterprise or a multiple enterprise.

  • Single Business Operation
  • If a risk consists of a single business operation or a number of separate operations which normally prevail in the business, that single classification which most accurately describes the entire operation should be applied. No division is permitted with respect to any other operation even though such operation may be specifically described by another classification in the manual, or even if the operation is conducted at a separate location.
    Example:
    The manufacturing of video games would be properly classified as "Electronic Games Mfg., Code 52505." This operation contemplates the expected operation of: a metal shop or wood shop for cabinets, a machine shop for fasteners and brackets, electronic assembly, printing of labels for the product and advertisement and janitorial staff.

    While all of the above operations are described by separate manual classifications, they are all operations normally found in connection with this business.
  • Multiple Enterprises

  • More than one classification may be assigned when a risk is involved with multiple business operations.

    In applying this principle, the auditor should not confuse "operations frequently conducted in connection with a business" with "operations which normally prevail in the business."
    Example:
    The operations of a lumberyard which also manufactures doors and windows (millwork) is not an operation normally performed by a business described as a lumberyard. If the manufacturing operations are conducted as a separate and distinct business, both the lumberyard and the millwork classifications would be used.
  • Not-For -Profit Classifications

  • Single classifications which accurately describe an insured's operation may require further classification scrutiny. Approximately 60 classifications in the CLM contain the phraseology of either Not-For-Profit or Other than Not-For-Profit. Not-For-Profit means that the classification applies only to those risks which qualify for the tax exempt status as a not-for-profit organization in accordance with Section 501(c)(3) of the Internal Revenue Code. Proper documentation for the application of the Not-For-Profit classifications must be obtained. A risk that qualifies for not-for-profit status under any procedure. This ruling can be found on page CS-1 of the CLM.
  • NOC (Not Otherwise Classified)
Applies only if no other classification(s) more specifically describe the insured's business.
  • Including
  • Used to include in the classification operations which are normally classified separately even if the operation is conducted at a separate location.
  • NPD (No Payroll Division)
  • No division of payroll is permitted except in the following circumstances:
    1. The classifications so restricted constitute a separate and distinct enterprise having no connection with the operations covered by any of the classifications specified in the restrictions.
    2. An unqualified NPD restriction shall not be used for the division of payroll with any other classification unless it has no connection with the operations covered by any other classification in the policy.
    3. Rules (a) and (b) above, in the case of classifications applicable to construction or erection operations, apply only to the operations composing each separate job or location.
  • Distributor
  • A distributor is a merchant or middleman who sells products mainly for resale or business use and who sells chiefly to dealers or stores, other merchants, industrial, institutional and commercial users.
  • Dealers or Store
  • A dealer or store is a merchant or mercantile establishment which sells products directly to the ultimate consumer and who is not a distributor.
  • More Specific Classification
  • When classifying a business operation, a "*" will occasionally appear in the class code column instead of a classification code. The symbol "*" as defined in the CLM on page CS-GR-2 indicates that the coding and rating should be determined from a more specific classification.
  • Premises/Operations vs. Products/Completed Operations Classifications
  • Each of the classification descriptions shown in the manual apply to both the Premises/Operations and the Products/Completed Operations coverages. The assigned class code must be used for both of these coverages. Interchange of classification codes between classification descriptions is not permitted.
    Example:
    A risk that manufactures both load bearing and non-load bearing structural metal members would be classified as follows:
    Classification P/OP Products
    Metal Works-shop-structural-load bearing 56915 56915
    Metal Works-shop-structural-not-load bearing 56916 56916
    Premises/operations code 56915 cannot be used with the products code 56916. Only one unique code is applicable for each classification description.
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CLASSIFICATIONS - SCOPE OF APPLICATION

The classifications in the manual were designed to include operations common to the specific type of business described. While some of the insureds operations may appear to require multiple classification assignments, the scope of application of each classification will be determined by the classification inclusions and exclusions as defined in the rules.

The auditor should be aware that the classification wording and notes take precedence over any of the general rules or the coverage rules covered in rules 27 through 32 (except Rule 30). Refer to Rule 26.A.

Classification Inclusions
The following operations or hazards are to be considered as contemplated within the classifications, and should not be separately classified unless those operations are conducted as a separate and distinct business or enterprise.
  1. Advertising signs (existence hazard).
  2. Athletic games by insured's employees or sponsored by the insured.
  3. Exception: Separately classify and rate athletic games away from the insured's premises if a majority of the participants representing the insured are not regularly employed in the insured's business and there is:
    1. management or supervision by the insured, or
    2. revenue to the insured from the games.
  4. Booths, exhibits and other displays of the insured's merchandise at:
    1. temporary trade or industrial shows not operated or sponsored by the insured, or
    2. other premises not owned, rented or controlled by the insured.
  5. Elevators and escalators.
  6. Electronic games located on the insured's premises.
  7. Greenhouses (existence hazard) - not operated for commercial purposes.
  8. Maintenance, repair or alteration of the insured's building or equipment.
  9. Medical facilities - including plant hospitals and dispensaries - operated by the insured for employees.
  10. Parking areas operated in connection with the insured's business. Exception: Separately classify and rate parking areas for classifications not rated on a "gross sales" basis and where a separate parking charge is made.
  11. Pick-up and delivery.
  12. Printing or lithographing by the insured on its own product.
  13. Restaurants and commissaries.
    Exception: Separately classify and rate restaurants or commissary operations in connection with construction, erection, lumbering or mining operations.
  14. Sale of used or second-hand goods.
  15. Social gatherings - not for profit - operated or sponsored by the insured.
  16. Swimming pools or other athletic facilities not commercially operated.
  17. Vending machines located on the insured's premises.
  18. Workshops and workyards.
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Classification Exclusions
The following operations or hazards are not to be considered within the scope of other classifications and must be separately classified, unless otherwise directed by the classification wording and/or footnote.
  1. Amusement centers.
  2. Amusement devices (other than electronic games located on the insured's premises) or amusement parks.
  3. Draft and saddle animals.
  4. Machinery or equipment rented to others.
  5. New construction or demolition operations, including changing the size of or moving buildings or other structures performed by or under contract with the insured.
  6. Sawmill operations, including operations incidental to the sawmill.
  7. Stevedoring operations, including talliers or checking clerks. Note: Do not separately classify and rate if such operations are conducted by the insured on premises occupied exclusively by the insured.
  8. Swimming pools or other athletic facilities commercially operated.
  9. Vehicles or carts from which goods are sold.

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