To paraphrase Abraham Lincoln, you can please some people all ofthe time, and all people some of the time, but you can't please allpeople all of the time. In a client-based profession, these wordswill always ring true. From insurance producers to attorneys, andall professions in between, we will inevitably have clients who aredisappointed with some service we have provided–justifiably or not.As professionals, we must accept that our clients will not alwaysbe pleased, and may not recognize the extent of our efforts toachieve the result.

But where does client dissatisfaction cross the line and becomean E&O claim? When should we report this dissatisfaction to ourE&O carrier? These are hot issues that courts around thecountry consider with increasing frequency. As an insuranceproducer, you must keep them in mind not only when running your ownagency, but also when counseling any professional insureds you haveas clients.

Almost every professional liability insurance policy is a“claims made” policy, which typically provides coverage only forclaims first made against the insured and reported to the carrierin writing during the policy period. Coverage also is provided for“potential claims,” which generally are defined as any act, erroror omission that might reasonably give rise to a claim, providedthe insured first becomes aware of the potential claim and giveswritten notice of it to the insurer during the policy period. Thus,the notice requirements of a “claims made” policy are differentfrom those of an “occurrence-based” policy. Whereas late noticegenerally will preclude occurrence-based coverage only where thecarrier has been prejudiced, a late report under a claims-basedpolicy will void coverage even in the absence of prejudice.

It is relatively easy to recognize claims, which are typicallydefined as a written demand for damages received by the insured. Ifyou are served with suit papers, you forward them to your E&Ocarrier to report the claim. But potential claims are not so easyto recognize, and present a virtual coverage mine field. Notably,claims-made policies typically do not provide coverage forpotential claims based upon any act, error or omission that, at theeffective date of the policy, the insured knew or could havereasonably foreseen would be the basis of a claim or lawsuit. Thispresents a large gray area, perhaps best demonstrated by thefollowing hypothetical scenario.

Frank Frugal owns a home in a coastal area, and has insured itthrough Diligent Agency for several years. It is a modest secondhome he uses only during the summer months. Due to its location andthe fact it is only seasonally occupied, property insurance isdifficult to obtain and Diligent has placed the risk with thestate's FAIR plan. Diligent has explained to Frugal it is a limitedpolicy which covers named perils such as fire and vandalism, butnotably excludes coverage for water damage. However, the policy issignificantly cheaper than more comprehensive insurance availablethrough surplus lines carriers, and Frugal finds thisappealing.

During a particularly harsh winter, Frugal forgets to turn thewater off and the pipes burst and leak throughout the entire house.He notifies Diligent, who reminds Frugal there is no coverage forwater damage. Frugal becomes upset, claims he never knew the policydid not cover water damage, and questions why Diligent would sellhim insurance that does not cover damage from burst pipes. Frugalwrites a letter to Diligent expressing his disappointment, buttakes no further immediate action. Diligent does not reportanything to its E&O carrier at the time, Lucky Pro.

A few months later, Diligent changes E&O carriers andmentions nothing of the Frugal situation on the new application.Within weeks, Frugal files suit against Diligent, claiming Diligentshould have placed better insurance for him. Diligent tenders theclaim to its new E&O carrier, Hard Line Casualty, who retainscounsel to defend the claim. Shortly thereafter, Hard Line becomesaware of the Frugal letter–which predated Hard Line's policyperiod–and files a declaratory judgment action seeking to disclaimcoverage. Hard Line claims Diligent reasonably could have foreseenits actions would result in a potential claim, which predated itspolicy. Diligent then tenders the claim to Lucky Pro, which deniescoverage because the claim was made and reported after Lucky Pro'spolicy expired, and because Diligent never reported the potentialclaim during the policy period.

Based upon these circumstances, Lucky Pro's position isvirtually guaranteed to succeed. But what about the declaratoryjudgment action filed by Hard Line? Diligent would certainly arguethat simple communications from a disgruntled client don't rise tothe level of a potential claim that needs to be reported to itsE&O carrier, and that it didn't believe Frugal intended to suethe agency. Is Diligent's argument sufficient to win E&Ocoverage from Hard Line?

The answer will depend in large part on whether the jurisdictionwhere Frugal's home is located employs a “subjective” or“objective” test in deciding whether Diligent could have realized aclaim was forthcoming. In other words, does the court ascertainDiligent's awareness of a potential claim by determining whetherDiligent subjectively believed a claim was forthcoming(“subjective”), or does the court look at the facts known toDiligent and determine what a hypothetical “objectively reasonable”insured would have appreciated (“objective”)? Under a subjectivestandard, Diligent likely would prevail. But under an objectivestandard–the majority rule–the outcome is far from certain foreither Diligent or Hard Line. Some degree of subjectivityinevitably enters judges' minds even in objective jurisdictions,and case decisions are inconsistent.

In reality, and for practical purposes, it is important torealize that E&O insurance carriers increasingly are willing totry coverage disclaimers and declaratory judgment actions to voidcoverage under circumstances similar to those presented above. Toprotect yourself and your agency, you should–at a minimum–carefullyread the language in your E&O policy regarding potential claimsand reporting, and familiarize yourself with the nature of thejurisdictions (i.e., subjective versus objective) in which youroutinely write policies. Furthermore, make it an internal policyfor your agents and service representatives to document and reportclient dissatisfaction to management, and for management tocarefully review all such instances in advance of your E&Opolicy replacement or renewal. It isn't just switching E&Ocarriers that implicates this issue; insurers will typically sendout forms asking relevant questions prior to renewal of theexisting policy with the same carrier.

If there is any question if a potential claim should bereported, the best practice–especially if you have received writtenletters advising of the dissatisfaction–is to report the matter tothe carrier, perhaps with a written explanation of your version ofevents and why you do not believe any further immediate actionneeds to be taken. If you can proactively ensure coverage willlater be available, you can avoid the headache of fighting yourE&O carrier in addition to your insured.