Two in three small businesses are exposed to legal action by their employees by failing to take out employment practices liability insurance, according to research unveiled by Hiscox.

Despite the fact that one in three claimed to be concerned about the prospect of being taken to court by a current or former employee, 62% of small firms have not taken out any protection against this risk.

Last year there were 133,000 cases brought to an employment tribunal, with claims relating to unfair dismissal or equal pay accounting for the majority of these.

Hiscox is warning that a poorly worded dismissal email or sexual harassment charge could leave small firms exposed to legal action that could affect them both financially and in loss of reputation.

"Most bosses will have considered what to do if their office burns down, but the fact is they are more likely to be sued by one of their employees," said Gary Head, head of business insurance at Hiscox.

"Although smaller businesses tend to have more of a ‘family atmosphere', employee litigation remains a risk so it's concerning that employment practices insurance is pretty low down their list of priorities."

The most common type of insurance taken out by small firms was public liability, which was used by 91% of respondents. This was followed by office contents (81%), employers' liability (77%) and professional indemnity (74%).

Protection against legal expenses was used by 69% of small businesses while 59% had taken out business interruption/loss of income and 39% had taken out health insurance to ensure staff can return to work as soon as possible after illness.

The research also revealed that directors and officers' cover - which protects company directors personally for claims brought against them - is the least popular type of business cover.

Less than one-third (31%) of those surveyed had taken out insurance against this, despite the fact that any director, officer or manager can be exposed by law to unlimited personal liability.

"Many businesses find insurance complex and confusing, while one in five don't have sufficient time to devote to finding the best insurance for their company," added Head. "Unfortunately for them, pleading ignorance will not help if they're summoned to the law court with no insurance in place."