Does an insurance brokerage firm have a duty to recommend a typeof liability coverage that it doesn't know the customer needs?

On Dec. 8, 2015, a federal court in Maryland granted summaryjudgment to a broker in a case alleging that the broker owed such aduty (Schlossberg v. B.F. Saul Insurance Agency ofMaryland).

The existence of a “duty to recommend” higher insurance limitsor broadened coverage is the central issue in many cases againstinsurance brokers, including cases from New York, Indiana andCalifornia that we have discussed in earlier articles in thisspace.

Related: What should you do when a clientcomplains?

The answer often turns on descriptive terms of the level ofdependence the customer has upon the broker advice. If it is a“special relationship,” as many courts term a high degree ofdependence, then a duty to advise can exist, but stating thatconclusion doesn't tell us much. In the eyes — and testimony — ofcustomers who have experienced large uninsured or underinsuredlosses, their relationships with their brokers are almost always“special.”

An alarming loss

The brokerage firm won this case on summary judgment, despitethree facts that could have blocked summary judgment in othercourts:

1. The terms of the customer's umbrella liability policy hadchanged, and the broker did not direct the customer's attention tothe change.

2. The plaintiff came to court armed with an expert's opinion thatthe broker had fallen below the standard of care.

3. The plaintiff claimed that the lack of coverage had forced itout of business.

The broker's customer, DTM, was a private security company thatprovided guards and related services, with government agencies asits principal clientele, including the U.S. Department of Defense.DTM guards allegedly did not properly respond to an automated heatalarm at a Defense Department computer facility at Fort Washington,Maryland, causing $3.6 million in damage to the equipment. DTM'sgeneral liability policy had a $1 million per occurrence limit. Anumbrella policy afforded additional coverage, but did notcompletely follow form to the primary policy. In particular, theumbrella policy excluded liability “arising out of or caused orcontributed to by the ownership, maintenance, operation, use orinstallation of any alarm, alarm device, alarm component or alarmsystem.”

That might have been problematic, DTM being a security guardvendor and all, but in its annual applications for the policies,DTM left blank the section for “Burglar/Fire Alarms,” whichnotified the applicant that “Separate alarm application must becompleted if this coverage is desired.” DTM didn't provide alarmsystems, so no problem.

No problem, that is, except in the umbrella policy renewal inthe year before the computer loss, when the umbrella policy's alarmexclusion was amended to apply to bodily injury or property damage“arising out of or caused or contributed to by the ownership,maintenance, operation, monitoring, use or installation of anyalarm, alarm device, alarm component or alarm system.”

As it happens, the Defense Department expected DTM's guardsto monitor the alarms at the facility, eventhough DTM didn't own, operate or do any of those other verbs tothe alarm system. The new exclusion also appeared in the followingyear's umbrella policy — the year in which the alarm went off andthe computers were damaged. The umbrella carrier denied coveragebased on the exclusion.

(Photo: iStock)

Policyholder's role

The Schlossberg court laid the blame for the computerloss squarely on DTM, which was in a better position than thebroker to determine its own insurance needs.

Because DTM annually failed to request any coverage related toalarm systems, the court found that the broker “had no way ofknowing that any such coverage may be necessary.” The court alsonoted, quoting from an earlier case:

Absent full disclosure by aninsured, which an agent or broker cannot compel, an agent or brokerwould have no way to ascertain an insured's exposure. Nor would theagent or broker necessarily know of a change in the insured'scircumstances or economic status, which could affect thesuitability of existing coverage.

Though not tasked with divining DTM's undisclosed needs, thebrokerage firm took an extra step, beyond the application form'snot-too-subtle clue that alarm services would not be covered. Inforwarding the two renewal policies to DTM, the firm sent a coverletter saying, “With regard to the general/professional liabilitypolicy, among the exclusions are included work with canines andalarm systems. If this is a concern, please let us knowimmediately.” DTM did not respond.

The cover letter shows a broker taking the “extra step” to pointout holes in coverage that might be relevant to a security guardservice's business, even though the broker had no information thatguard dogs or alarm systems were among DTM's services. The letterwasn't legally required, but it set the table for later admissionsby DTM employees who were deposed in the case.

Related: How to avoid liability to thirdparties.

DTM's controller, who completed the insurance applications,testified, “I wouldn't know why [the broker] would say that. Imean, I know we don't have — we didn't know why that would be inthe letter, canines and alarm systems.” DTM's vice president gavesimilar testimony.

The court had a second basis to grant summary judgment: DTM hadnot proved that the broker's alleged negligence caused any damageto DTM, because the Defense Department's case settled for an amountwithin the primary policy's limit. The plaintiff argued that DTM'sdire financial straits were caused by a loss of Defense Departmentwork after the Fort Washington incident, but the court dismissedthat theory, finding insufficient evidence to connect the dotsbetween the broker's conduct and any damage to DTM.

You be the judge

The Schlossberg decision provides a clear guide to theprinciples and evidence that can absolve a broker from liabilitywhen a customer lacks a type of coverage that, with benefit ofhindsight, it should have requested.

Was the court right? Would your answer be the same if theDefense Department/DTM contract provided that DTM was to monitorthe alarm systems at Fort Washington, and a copy had been providedto the broker?

Although the outcomes of summary judgment motions are uncertainuntil the judge issues his or her ruling — and even afterward, ifthere is an appeal — one thing is certain: They aren't free.Summary judgments can be difficult and costly to obtain. TheSchlossberg case was filed in 2013 and wasdismissed via summary judgment two years later. Brokers: Pleaseremember to assess the adequacy of your own liability insurancelimits, even if you're fairly certain that you do everything rightin your dealings with customers.

Louie Castoria is a partner in the San Francisco-based lawfirm of KaufmanDolowich & Voluck LLP. He is the director of the firm'sWest Coast Professional Liability Practice Group.