Subprime E&O Risk Varies By State

Illinois, Michigan and Massachusetts are among 11 states with very high risks of professional liability lawsuits arising out of the subprime mortgage crisis, according to a new report.

The report, titled "What's the State of Your State? E&O Risk Uneven Across The Country," published by Guy Carpenter, a reinsurance broker and subsidiary of New York-based professional services company Marsh & McLennan, provides a state-by-state overview of the threat of errors and omissions litigation on U.S. real estate professionals.

According to Guy Carpenter's report, high foreclosure rates alone won't put a state in the high-risk category for E&O lawsuits. For example, Arizona and Nevada have two of the highest foreclosure rates in the country--2 percent and 4.2 percent, respectively--but "low" and "medium" risks to E&O lawsuits.

The lawsuit risk is based on the "Guy Carpenter Subprime E&O Litigation Index," a measure developed by the firm to take a combination of factors into account that influence the E&O litigation climate for each state. The factors used to calculate the index are:

o The percentage of mortgages in foreclosure.

o The percentage of subprime mortgages that are delinquent.

o The number of litigation attorneys per mortgage industry professional.

o The frequency of truth-in-lending lawsuits (per million households) through the third-quarter of 2006.

o The frequency of banking-related lawsuits (per million households) through the third-quarter of 2006.

o The extent to which a state is plaintiff-friendly--is it deemed a "Judicial Hellhole" by the American Tort Reform Association (ATRA)?

Guy Carpenter has found that the riskiest states in terms of potential litigation are those that have average rankings in most of these categories and an extremely high result in a single category. Just having one high score--just a high foreclosure rate or just a high subprime delinquency rate, for example--won't push the overall index into the "high-risk category."

For example, an exhibit in the report shows that Maine has a high subprime delinquency rate--14.6 percent, compared to 14.5 percent for the United States overall. With almost no history of banking litigation, however, Maine is "low risk" in terms of E&O lawsuit potential.

On the other hand, Massachusetts, which is roughly average or just slightly above average for most factors captured by the index, is at "very high risk" for E&O lawsuits because the combination of slightly high factors produces an extremely high risk outcome.

Based on the index, the other states with very high E&O lawsuit risk are: Connecticut, Rhode Island, Pennsylvania, West Virginia, Tennessee, Georgia, Alabama and Louisiana.

"It is important to underscore that E&O litigation related to the subprime mortgage crisis could impact any state, even those not classified by our index as particularly risky," said Kevin Griffiths, head of Guy Carpenter's Global Casualty Specialty Practices, in a statement.

"As the subprime mortgage crisis continues to unfold and the litigation landscape continues to evolve, the states claiming the highest risk levels in our index are likely to change as well," Mr. Griffiths added.

In an earlier report on the potential E&O impact of the subprime mortgage crisis, "Credit Market Aftershock Threatens Professional Liability Profits," which was published in November, Guy Carpenter noted that E&O insurance loss could climb as high as $16 billion just for mortgage brokers. Deriving the figure, the report noted that there are 53,000 licensed mortgage brokers, and in accordance with regulation, they have to carry limits of $300,000 in E&O insurance.