This article is divided into three broad categories of drone-related risks: legal risk, reputational or brand risk, and risk to people and property. Each risk must be viewed differently depending on whether the drone is being operated by an insurance company or another entity.

Related: Terror risk from small domestic drones has U.S officials worried

(Photo: iStock)

Legal risk

Most discussions of legal risk have focused on compliance with FAA regulations. While these regulations are certainly important, drone operators must also be aware of local, state and federal laws that may directly or indirectly impact the use of drones. These may include laws limiting where drones may be flown as well as laws addressing privacy, trespass and reckless endangerment.

Legal compliance is generally cited by insurance company leaders as their number one concern with integrating drones into their business practice. Unlawful use exposes companies and employees to civil and criminal liability, including fines and adverse court awards or high settlements. The rapidly changing legal environment and the patchwork of state and federal laws can overwhelm all but the most sophisticated in-house legal departments. Nevertheless, insurance companies are moving forward with drone use if for no other reason than to avoid being left behind by their competitors.

One of the most common ways for insurance companies to address legal risk is to outsource their drone operations in whole or in part. This approach may distance the company from legal compliance issues while offering the advantage of reduced start-up costs for training pilots and purchasing aircraft.

Relying on contractors

Companies should use caution, however, when relying on contractors to provide drone services. The use of a contractor does not relieve the insurer of the requirement to take reasonable measures to ensure that its agent is operating within the law. In the event of an accident, any potential claimant will surely seek relief from both the insurance company and the contracted pilot. If the contractor was operating unlawfully, its insurance carrier is unlikely to defend the claim. If the contracting insurance company was willfully blind to this violation, it may find itself in the position of the only "deep-pocket" defendant trying to explain its actions.

Before relying on another organization to fly on behalf of the insurance company, the insurance company must develop and implement a vetting and oversight program. This involves more than checking to see whether a pilot is licensed. The FAA does not require license holders to demonstrate any practical flying skill.

Related: Don't shoot that drone!

Prior to contracting with a pilot, insurance companies should insist on some verification of experience, knowledge of applicable laws and regulations, and a plan for complying with those requirements. The insurance company will likely want to draft a services contract that incorporates these elements and, perhaps, adds additional elements such as procedures to ensure that the pilot is being a "good-neighbor" by coordinating with adjacent property owners or providing advanced notice of flights.

Working knowledge of laws

Whether using in-house pilots or contracted pilots, every insurance company should have a working knowledge of local, state and federal law. The majority of states now have laws limiting where and how drones can fly. These requirements overlap with the FAA regulations governing airspace and operation. While most insurance companies are aware of these requirements, many companies fail to account for laws that are not specific to drones.

Every drone program must have policies and procedures to ensure that the flights do not commit trespass, do not violate personal privacy rights and do not endanger the public. This can best be done through the development of a comprehensive drone operations manual that is used internally and can serve as the basis for overseeing outside contractors.

As more individuals and corporations use drones for fun and profit, there will be more drone-related claims. The first question after an incident is going to be whether there is an applicable policy. As a general rule, commercial drone operations are covered only by specially written policies, not by general liability policies.

Even when there is an applicable policy, if an insured is using the drone in violation of law, the claim will likely not be covered. Personal use is less clear. Some homeowners' policies or personal umbrella policies may cover hobby use, while others will exclude such use as constituting aircraft operations. Again, the insurance company must fully understand the applicable law to determine whether there is coverage.

(Photo: iStock)

Reputational or brand risk

This is frequently overlooked, but is critically important to established insurance companies. People often have a visceral negative reaction to drones. A poorly implemented drone program can anger customers and the public, thereby tarnishing a well-earned reputation and impacting revenue. At the extreme, angry homeowners have been known to shoot down drones.

The best way to mitigate this risk is to create a transparent and respectful program, and require contractors to do the same. This usually includes several steps. First, pilots should provide advance notification of flights to the property owner and to neighboring properties. This avoids any problems with people being surprised by an unexpected drone. Second, operators should either avoid flying over private property without permission or, at least advise property owners of their intent to do so. Third, every drone program should incorporate a data retention and privacy policy that is available to the public and strictly enforced.

The same steps that insurance companies take to minimize reputational and brand risk can help to reduce the risks that may lead to claims. For example, unintentional or uninvited flight increases the chances of liability claims and may void insurance coverage by constituting an unlawful act under the applicable policy. Also, accidents are much more likely when a drone is operated in close proximity to a structure or people, or flown in an unfamiliar environment. Insurance companies might consider whether to require a degree of customer education as a condition for writing drone policies or in exchange for a policy discount.

Risk of damage or injury

Drones have the potential to cause grievous bodily injury or, in the worst possible scenario, cause a mass casualty event such as an airline crash. The best way to mitigate this risk when drones are used or contracted by insurance professionals is through the development and implementation of safety-driven policies and procedures. The policies will ensure that safety measures are employed on a consistent and uniform basis and can serve as an important defense tool in the event that litigation arises from an adverse event.

The policies should include requirements for operator training, recurrent pilot proficiency examinations, vetting and auditing, equipment inspection and maintenance, and detailed record keeping. If an outside vendor is used for drone services, the vendor should be required to demonstrate a similar program.

When an insured either causes damage or is damaged by a drone, the claim should be evaluated in light of applicable policy language and whether the drone was being operated in a reasonable manner in light of all existing laws and regulations. This is a daunting task given how quickly the law and technology are changing. Needless to say, it is difficult in the current environment to assess the risk involved with underwriting a policy, settling a claim or defending an insured. The best approach to mitigating this risk is to stay abreast of legal developments and to seek expert advice early and often.

Related: If you invade someone's privacy with a drone, your insurance might not cover it

James Mackler, ([email protected]) is a member of the law firm Frost Brown Todd LLC and founder of their Unmanned Aircraft Systems practice. He advises the insurance industry and other businesses on the laws impacting the use and management of these systems. He holds a commercial helicopter pilot certificate and is a former military aviator who served eight years of active duty in the U.S. Army.

Learn more about insurers that are using drones at the America's Claims Event in Charlotte, N.C., June 20-22.