Liability insurance is aimed at protecting your business against claims made by people if they or their property is damaged due to your business. Say someone (claimant) is injured or his or her property is damaged. The person or business that is responsible for causing the damage or injury can be sued and held legally liable for the injury or property damage.

The Cambridge Dictionary definition for liability is "when you are legally responsible for something".

Therefore, where the legal liability or legal responsibility is established, damages will be awarded to the claimant as compensation for their injury or the damage to their property. In the case of an injury the National Health Service is entitled to claim for the costs of hospital treatment as well as ambulance costs. Legal costs, including the claimants' will also have to be paid by the person or business that has been established as legally liable.

All these costs can mount up to significant amounts. It is these costs that liability insurance is aimed at covering and protecting against.

The cost of insurance, also known as the premium, will depend on a number of factors. These factors all focus around risk, such that a high risk factor will cause the premium to increase.

For example it is well known that young inexperienced male drivers are at higher risk (or more likely) to have a car accident than more experienced drivers. The result is that insurance premiums for these drivers are usually very high. The more powerful the car the higher the risk of an accident and hence the higher still the premium.

The insurers experience in a certain business sector will also influence the cost of the premium. Some insurance firms specialise in certain business areas. As they know and understand the business sector and its risk they are usually more suited to providing better insurance than more mainstream insurance providers.

For businesses that have small to medium size risks, insurer providers use an average rate (or book rate) to determine the premiums. The book rate is based on the claims they have paid out for similar businesses. The insurance provider will then use this rate and apply a factor that reflects the amount of activity undertaken by the business. The activity can be based on the turnover in the case of public and product liability insurance or payroll in the case of employers' liability insurance.

Other factors such as historical claims records, the insurance provider when setting the premium can also take experience and risk management procedures into account.

For businesses exposed to large risks the insurance premiums are usually determined on a case-by-case basis where the insurance providers will scrutinise the business in detail.