EPLI & Punitive Damages: Coverage Exists, But Be Careful

The EPLI marketplace has evolved to try to create more certainty around the ability of an EPLI policy to respond in the context of a finding of intentional acts or an award of punitive damages.

INTENTIONAL CONDUCt

Insurance contracts have primarily been designed to cover accidents and not intentional misconduct. Therefore, these contracts often contain intentional acts exclusion, which have been repeatedly interpreted by courts to exclude any damages that arise from intentional acts.

Moreover, several jurisdictions, including New York, California, Florida and Illinois, restrict the ability of insurance companies to indemnify for certain categories of intentional conduct. The theory is that a person or organization committing an intentional act should not be able to deflect the financial punishment of having been found guilty.

While EPLI policies generally do not contain an express exclusion for intentional conduct, they often exclude any damage deemed uninsurable under the law selected to interpret the policy.

This language creates uncertainty for insureds with coverage through a domestic insurer, because the ability of the insurance to respond can vary depending on the potential applicability of multiple jurisdictions to any one claim.

Therefore, all domestic insurers have potential limitations on their ability to pay damages arising from intentional conduct, regardless of whether such restrictions are stated as express exclusions in the contract.

Intentional conduct public policy or regulatory issues are not a concern when utilizing Bermuda insurers–which are not subject to U.S. public policy or regulatory restrictions.

PUNITIVE DAMAGES

Similar to insuring intentional conduct, several states also prohibit, either by regulatory prohibition or by case law, the insuring of punitive damages. EPLI is unique among many insurance products in that it expressly covers punitive damages.

Nonetheless, even this expressed coverage can still be limited by the practical reality that you cannot contract around public policy and the fact that the policies also tend to state that coverage for all forms of loss must still be insurable by law. This also is of far less concern when utilizing Bermuda insurers.

FAVORABLE VENUE WORDING

EPLI carriers, for the most part, explicitly intend to provide punitive damage coverage unless they are prohibited from doing so by applicable state law. One way to ensure a carrier has the greatest flexibility to determine that they are allowed to pay punitive damages is to include "most favorable venue" language in the policy, which can take on a few different forms.

One form of favorable venue wording simply states that the policy will apply the jurisdiction that most favors coverage for punitive, exemplary and multiple damages.

Another form includes a list of jurisdictions that the carrier must look toward in determining insurability. If any of the listed jurisdictions permit punitive damages to be insured, the carrier must treat that jurisdiction as the applicable one for purposes of assessing its ability to pay such damages.

This type of language often states that it will look to the most favorable jurisdiction of any of the following jurisdictions to determine insurability:

• Where the damages were awarded or imposed.
• Where any wrongful act occurred for which such damages were awarded or imposed.
• Where any insured organization is incorporated or has its principal place of business.
• Where the insurer is incorporated or has its principal place of business.

The primary benefit of this method is that it provides a definitive group of jurisdictions that all have a logical "nexus" to the policy.

Arguably, some courts may either find the first method too broad to be enforceable or may interpret the phrase "applicable law" too narrowly.

Such concerns are much less likely to arise with the second method, but if none of the listed potential jurisdictions are actually favorable toward allowing the insurability of punitive damages, then the language does not help.

Either method will provide uncertain protection, particularly if the policy was issued in a jurisdiction prohibiting the insurability of punitive damages.

Nonetheless, they are still helpful tools for encouraging the carrier and more specifically the carrier's claims department and/or monitoring counsel to recognize the intent of the contract to cover punitive damages, unless they are effectively forced to deny coverage by all applicable state laws or regulations.

Additional enhancements that are available in the market but are somewhat more rare are expressed favorable venue wording for intentional acts and an express statement by the carrier that if the insured determines in good faith that punitive damages or damages arising from intentional conduct in a claim are insurable, the carrier will not challenge such determination.

OFFSHORE WRAPS

To provide an additional layer of protection, insureds should either consider purchasing an offshore wrap-around policy in conjunction with any domestic placement or negotiate the entire program placement with a Bermuda carrier. Since these facilities operate offshore, they are not subject to U.S. insurance laws.

The wrap-around policy's limits are usually not additional limits. They are "tied-in" limits, so that a payment under either the wrap or the domestic policy usually erodes the limit of the related non-paying policy. And since these wrap-around policies do not provide additional limits, they tend to be very inexpensive.

Even punitive wrap policies are somewhat of a shifting landscape, however, with terms in the standard forms that raise questions as to how well they would perform if finally called upon.

Features to look for in these policies include:

? An amendment to the coverage triggers so they apply to settlement situations rather than only in the event of a judgment.

? Coverage for damages not payable due to restrictions on indemnity for intentional conduct, not just restrictions on payment of punitive damages.

? Ensuring that the language provides coverage for punitive damage or intentional acts, even if there is a state amendatory on the domestic policy specifically excluding such coverage.

Whether the Novartis case is ultimately the beginning of a trend of increased frequency of severe claims remains to be seen, but the case did certainly raise the profile of the discussion of insurability of punitive damage and intentional acts.

Therefore, as risk managers seek to educate themselves about how their particular EPLI policy may respond to insurability questions, it is important to know that effective coverage is available in the marketplace if properly negotiated.

Tom Hams is managing director and national EPL practice leader of Aon Risk Solutions' financial services group in Chicago. He may be reached at tom.hams@aon.com.