How to avoid liability to third parties

Usually, the answer is "no," as one might expect, but sometimes, as Morrison also noted, "Faces come out of the rain" with complaints for damages that can pose claims. (The author apologizes to those who now have an earworm of "People Are Strange" playing.)

Cases in point
A few actual case examples illustrate this situation.

In some circumstances courts imply a duty of care on a broker's part to non-customers (usually termed "third-parties," the first two parties being the policyholder and the insurer) as a matter of public policy.

This is not a new development. In 1965 an Illinois court found that an auto accident victim could sue the insurance broker for the negligence of the driver because of the "peculiar significance of automobile liability insurance," In other words, the victim could sue because auto accidents are common, and it's in the public interest that accident victims be compensated through the insurance system, one way or another.

Sometimes the third party is plainly knowable, though not known by name, to the insurance broker (unlike the anonymous potential auto accident victim), but is not a customer. A federal court in New Jersey held that the owner of the truck that had been leased to another person had the right to sue the renter's insurance broker after the truck was damaged in an accident. The insurance carrier that the broker had placed coverage with was insolvent and unable to pay the loss, and the owner alleged that the broker should have been more diligent in placing coverage with a reliable carrier.

Strangers are sometimes allowed to sue as third-party beneficiaries of the relationship between the agent or broker and the customer. In 2013, a federal court in Connecticut held that the developers of a gas-fired power plant were third-party beneficiaries of an insurance brokerage firm's contract with the plant's general contractor. All of the developers and contractors were insured under a Contractor Controlled Insurance Program (CCIP). The general contractor was required by the construction agreement to maintain commercial general liability and excess/umbrella insurance that would provide coverage for defense costs in addition to the policy limits.

An explosion at the construction site caused multiple deaths and many claims. The primary carrier on the CCIP coverage exhausted its policy limit by the payment of some of the claims, leaving other claims to the excess/umbrella carriers, but their policies didn't provide for payment of defense costs in addition to their policy limits. The court found that the developers were third-party beneficiaries of the general contractor's written contract with the brokerage firm, despite a clause in the contract that disclaimed any third-party beneficiaries, though the clause was limited in scope.

In other instances the third-party initiates the insurance arrangement, though the actual contract is between the carrier and someone else. A California case in 2006 involved a U.S.-based company that contracted with a software developer in India to create a custom-made program for it. The contract called for the Indian company to have liability insurance. The U.S. company contacted a local brokerage firm to procure coverage for the software developer, and the broker referred the assignment to a surplus lines broker. A policy was procured for the Indian company, but it excluded any work performed (wait for it) in India.

Although the U.S. company had no communications with the surplus line broker, under the unusual circumstances of the case the court found that company was "not quite an intended beneficiary" of the insurance contract, but it came "close enough" to impose a duty of care on the broker. The insurance policy had been procured specifically so that the Indian contractor would have coverage for its work for the plaintiff company.

Except in cases based purely on public policy, such as the Illinois auto insurance example, the states appear to follow three main rationales in imposing duties of care to third parties on agents and brokers:

• The most restrictive states, such as New York, impose some requirement of legal privity between the third-party and the actual policyholder. "Privity" is something stronger than foreseeability; it requires a mutuality of interest or a connection. A popular legal dictionary uses this simple example: A person who leases a residence has a mutual interest with the owner in the property's maintenance, but has no "privity," contractual or otherwise, with the person who sold the premises to the current owner.
• Other states take a more expansive view of duties owed to third parties. The New Jersey case regarding the truck renter described its analysis as being based on "the relationship of the parties, the nature of the attendant risk, the opportunity and ability to exercise care, and the public interest." This, too, is a stronger connection than simple foreseeability, because the business that owned the truck could have purchased its own insurance to cover the vehicle while it was being driven by the renter, but it had delegated that duty by contract to the renter.
• A third group of states base their decisions on an analysis that might best be described as "it's complicated," looking at a wide array of factors to determine whether it would be fundamentally fair to impose a duty on the insurance agent or broker.

Chances are that most insurance professionals, making day-to-day placements of coverage for customers, lack the luxury of time to carefully analyze the legal standards for duties owed to third parties in each state in which an injury might occur that could be covered under the customer's liability insurance. That being the case, the agent or broker can still take steps to reduce exposure to claims by non-customers.

What's a broker to do?

One lesson learned from the previous examples in Connecticut, New Jersey, and California is that the customer who buys contractually required insurance may be joined at the hip with a potential claimant. The developers in the CCIP program, the owner of the truck, and the business getting its computer program written by a software developer in India all contracted with someone else to insure the property or work in question.

Especially in commercial insurance placements, it's important to know whether the person applying for the policy is also the one for whose benefit it is being placed. Asking a basic question—"Is this insurance that you are required to obtain under a contract?"—and confirming the answer in writing, is a strong defense against a third-party claim when something goes wrong.

Brokers' practices vary in terms of obtaining copies of the contracts that require the requested insurance. That's a standard-of-care issue, as opposed to an existence-of-duty issue. But if the answer to the basic question is "yes" and the applicant/customer provides a copy of the contract, that document should not be allowed to rest in the broker's file as background information. When something goes wrong the broker will be asked, "Did you review it?" and an expert witness on the other side of the case will testify, "The standard of care required the broker to read it and make appropriate recommendations."

Contractual terms requiring insurance often include other requirements, along with the type of policy and the policy limit. Such contracts generally require that the party who has agreed to buy the coverage also must provide a certificate of insurance, evidencing that this obligation has been met. The policyholder, in turn, typically turns to the broker to provide a certificate, and although a certificate doesn't change the terms of the policy of insurance, it becomes a representation made by the broker to the party who has requested the certificate. For this reason, an important risk management step is to be sure that certificates represent the extent of coverage under the actual policy that has been procured, and not the policy that is described in the commercial contract, if the two have material differences.

It isn't possible to anticipate everything, but some things are obvious. A truck that has a renter, also likely has an owner. A software company based in India may employ people in India to write computer code. The facts of cases such as these are rarely as straightforward as they sound when reduced to such bumper sticker summaries.

Then again, good plaintiffs' lawyers are experts at reducing complex fact patterns to bumper sticker truisms.

Louie Castoria recently joined the firm of Kaufman Dolowich & Voluck LLP, as a partner is the firm's San Francisco office. He is the Director of the firm's West Coast Professional Liability Practice Group. The column does not provide legal advice, and the opinions expressed are the author's and not necessarily the firm's or its clients'.