Agent E&O Insurance: Time to check the fine print

In the September 2001 issue of American AGENT & BROKER, we attempted to forecast the future of insurance agents errors and omissions insurance ("Agent E&O Renewals: Don't Wait Until the 11th Hour"). We foresaw the hardening of the market but never expected it to get as bad as it was in the mid-1980s. Now the market is settling down, and we sense a change taking place once again. To better understand where we are now, let's begin with a brief overview of what has transpired during the past three years.

The hardening of the insurance agents E&O market, which began in 2002 and continued into 2004, accelerated when two insurers with significant books of business exited the market. Those two carriers had non- renewed over $40 million in agents E&O business, and the few remaining markets in that niche also became more selective when underwriting their own books of business. We saw new exclusions used to tighten policy language, reduced limits, withdrawal from certain sizes and classes of business and, of course, significant premium increases. MGAs and wholesalers were viewed as poor risks, just as they were in the mid-1980s, and many were lucky to get coverage at any price, on any terms. Underwriters typically had more business than they could handle and found it easier to non-renew entire classes than to underwrite individual risks.

Standard Main Street brokers often were able to renew with their existing carriers, although at higher prices. While some insurance professionals complained about pricing and tried to get a better deal, they quickly learned that, even with a double-digit increase, they still got good quotes, relatively speaking. A small percentage of agents, oblivious to the hardening market, sought more coverage at lower prices. A few panicked and heavily marketed their renewals, sending applications to multiple brokers and/or markets. For example, one account was submitted to us by seven different producers. The agent did himself a disservice, though; we could hardly take seriously one small account coming in from seven sources.

So where is the market now and where is it headed? We see the agents E&O marketplace leveling off. At this point, we think it unlikely that any more major players will exit the market, and we see no need for additional carriers or capacity. As economists would say, we believe the market is entering a period of equilibrium, similar to that seen in the late 1980s. It probably will be characterized by modest continued price increases, perhaps averaging 5% to 10% at most, assuming no increase in exposure base. But if your business is up by 50% from last year, don't expect a renewal as expiring!

Terms and conditions will probably remain largely unchanged. For the most part, underwriters have already made the changes they wanted and most likely will continue to be selective, with each pursuing the risks it considers most favorable. Such a trend does not bode well for very large operations, nor for MGAs, wholesalers or reinsurance brokers. Other specialty brokers also will continue to face a difficult market.

What should you expect, and what should you do in the next 24 months? Let's start with pricing. We believe the market's current pricing level-while painful for some-is fair and suitable to sustain a long-term viable marketplace. Most increases will be driven by growth in your operation. We recommend that you focus on coverage and pay particular attention to policy forms and new endorsements, as some of them can be problematic.

Even good forms can provide inadequate coverage if the agents handling them are sloppy or inattentive. When completing an application, make sure you list the insured's full legal name or names on the application. If you are incorporated, include "Inc." at the end of your name. If you are "doing business as," then include "d/b/a." Avoid abbreviations or partial names, since the ensuing policy likely will include the insured's name exactly as it appeared on the application.

If you've changed names, incorporated, merged or acquired another agency, keep in mind that most policies cover only the entities named on the policy. It doesn't help to have full prior-acts coverage if the entities to be covered are listed incorrectly. For example, let's assume you started out as John Doe d/b/a ABC Agency in 1996. In 1999 you incorporated and became XYZ Inc. If your policy gives retro coverage to 1996 but only covers XYZ Inc., then John Doe d/b/a ABC Agency is not covered. While you can avoid coverage gaps simply by listing both names, we often see requests to change the insured's name on the policy, rather than add the new name. We also see applications for new lines that show the firm established in 1999 but with a 1996 retro date on the current policy, which clearly indicates something is wrong. For similar reasons, you should pay attention to names and retro dates during mergers and acquisitions as well. If you simply buy a book of business (an asset-only purchase), you probably don't want to cover the other entity on your policy-and certainly not for anything it did before your purchase. Be sure to clearly communicate as much to your underwriter.

Other issues are equally important. Some, such as insurer insolvency, get a lot of attention, but you can control this risk by electing not to place coverage with certain carriers or, at the very least, having your client sign a disclosure statement. Nevertheless, carefully review your E&O policy. Some include "A-" wording, which means the insolvency exclusion does not apply if, at the time of placement, the carrier providing the coverage was rated A- or higher by A.M. Best. Note that the last three large carriers to become insolvent were rated A- until close to their demise, so "A-" wording would have protected you. Other forms have full insolvency exclusions, so agents have no coverage under any circumstances in the event of an insurer insolvency. We've even seen one form with B+ wording, which seems better on the surface. However, if you read carefully, you'll find it only offers defense coverage-not indemnity-and then only for a small fraction of the liability limit.

Other, more important, form restrictions attract less attention than they should. Two examples are absolute pollution and employment practices exclusions. We speculate that such exclusions were meant to apply to pollution caused by the agent, or EPLI claims arising out of the agent's status as an employer. However, some forms have absolute exclusionary language that appears to exclude claims resulting from the agent's placement of, or failure to place, pollution and EPLI policies for their clients. If such an exclusion exists in your current policy, it's obviously a major coverage restriction.

Two more ways some E&O forms reduce coverage are by limiting coverage to client-only suits, thereby apparently negating coverage for all claims except those brought by your insureds, and by excluding prior-acts coverage unless you've had continuous coverage in the past and can prove it. (Do you have copies of your last 20 declarations pages?) Review your form carefully, and if you find problematic wording, ask to have it changed.

What about the long-term stability of the marketplace? We believe it depends primarily on underwriters' willingness to maintain underwriting and pricing discipline. During the last quarter-century, the underlying fundamentals of agents' E&O exposures have changed, but not by a great amount or in a sudden way. For all the worries about terrorism, insurer insolvencies, asbestos, etc., the risks have changed along with professional liability trends and with societal changes in general. E&O underwriters, however, especially those with little understanding of the real exposures and no regard for bottom-line results, caused abrupt changes in the market. We can only hope that underwriters have since learned the obvious lesson and, as a result, will avoid sowing the seeds of the next chaotic market cycle in the years ahead. But as realists, we expect to see pricing begin to erode in a year or two and, at some point, a replay of the 1980s. For the long-term good of the marketplace, though, we hope we are wrong!

Raymond Wahl is a senior vice president in the West Hartford office of Lee & Mason Financial Services, a managing general agency. Linda Blechman is an assistant vice president of Lee & Mason.