Agents and Brokers Errors and Omissions
January, 2005
Professional Liability Coverage
Professional liability insurance for insurance agents and brokers is a required coverage for most insurance producers. The exposure to liability claims from alleged negligence in the operation of the agency or brokerage is far too real and potentially catastrophic to permit any other consideration. Recent events have cast the insurance industry in a negative light. And, although errors and omissions coverage would not respond to allegations of unscrupulous or unethical pricing, or selfish practices on the part of agents or brokers, agents' practices will by default come under closer scrutiny and subject even the most minimal mistake to charges of negligence. For this reason, a professional liability policy is a basic part of doing business.
Nevertheless, there is no standard form for the coverage, each insurer in the market develops its own. The market for the coverage seldom has a large number of active participants and variations among the forms are usually centered on key provisions. The discussion that follows takes up those key provisions. At the conclusion of the discussion are E&O prevention suggestions that will enable you to gauge your agency's exposure to E&O claims.
The basic coverage agreement for an Insurance Agents and Brokers Errors and Omissions policy is “to pay on behalf of the insured all sums which the insured shall become legally obligated to pay as damages” in a claim “arising out of any negligent act, error or omission.” The act must have been committed by the insured while in his or her capacity as an insurance agent, insurance broker, or perhaps, general insurance agent. The policies often promise to pay damages, which are defined as “judgments or settlements” that have been negotiated with the insurer. Damages frequently do not include fines, taxes, penalties, or punitive damages unless allowed by law. When punitive damages are allowed, insurers often cap those amounts.
Every activity of the insured is not necessarily considered as being within the insured's capacity as an agent. If not specifically included in the coverage agreement, an insured with the following exposures should consider having the policy endorsed to include the functions of a notary public; counseling, either on a voluntary basis as for the benefit of a civic club or for a fee in lieu of anticipated sale of insurance; real estate management, sales, or appraisal (but not “appraisal” in the sense of advice to a client of the insurance agency relative to the appropriate amount of insurance to be placed on property); claims adjusting (for a fee), mutual fund sales; stock brokering; and servicing insurance business of others.
Many coverage forms simply promise to pay for errors and omissions arising out of rendering or failing to render professional services. Since the precise meaning of “professional services” is not spelled out in most policies, the expression is open to as broad an interpretation as the insured can reasonably maintain. However, those activities in the foregoing list have come by custom to be considered outside the realm of coverage—as evidenced by the availability of endorsements to cause them to be included when the insured and the underwriter agree on the terms. Further, stock brokers, for example, require different licensing from insurance agents, so holding an agent license should not lead the agent to assume activities obviously requiring a different license would as a matter of course be covered.
A risk avoidance technique for agents and brokers is to refuse to recommend the services of others. Customers often seek advice on matters relating to the business of the insured—name the best contractor, best auto body mechanic, best appraiser, best public adjuster, and so on. Later, if the work of the person or firm turns out to be faulty, the act of having recommended them carries with it the potential for a vicarious liability claim. A better procedure is to offer a list of several engaged in the activity in questions with no specific recommendation of any one of them. Recently, company claims adjusters have come under some fire for recommending certain body shops, for example. Often an insurer will have negotiated prices with certain establishments. However, some states have ruled that this is an unfair claims practice and that the customer has the right to select his or her own shop. Therefore, claims adjusters may have only a sign noting that, for example, that a certain body shop is available. Other jurisdictions have held that in recommending a certain establishment the insurer was vicariously liable for the work. This is a position most agents and brokers would not wish to be in.
The “Definition of Insured,” “Persons Insured,” or similarly titled provisions specifies that executive officers, directors, partners, and employees of the named insured also have insured status while carrying on the business of the named insured. Stockholders (if applicable) are also insureds, but only in their capacity as stockholders. Former employees, officers, directors, or partners are insureds for activities while they were active in the insured business. Independent contractors who service the named insured's business, usually on a commission basis, may be added to the policy as additional insureds. It is probable that independent contractors will have errors and omissions coverage in their own right. Either way, the named insured, officers, etc., are covered for the activities of contractors in the conduct of the named insured's business—the consideration here is whether to add coverage for the contractors.
A matter of potentially more serious concern is the change in exposure when the insured agency or brokerage merges with or buys another. Some policies provide for automatic coverage subject to notification of the insurer within a specified time, usually sixty days or the end of the policy period, whichever is earliest. Those that are silent on this point can be endorsed, with the underwriter's agreement, to pick up the additional insured by way of a Purchased Entity endorsement or a Merged Entity endorsement. But there is no automatic coverage in these forms between the time of merger or acquisition and the act of endorsing the policy.
The endorsements cover the named insured for the activities of the newly purchased entity or cover the named insured and the merged entity designated as additional insured. Both endorsements exclude coverage of claims arising out of negligent acts or omissions of the newly named entity if the insured had prior knowledge. In the case of the Merged Entity endorsement, the exclusion applies also to the merged entity's prior knowledge of negligent acts whether the insured knew about the matter or not.
Insurance Agents and Brokers Errors and Omissions policies are commonly claims-made contracts, i.e., coverage applies only to claims for damages that are brought forward during the period when the policy is in effect. As to incidents occurring prior to the policy's effective date but reported during the policy period, some policies include a “retroactive date” that serves as a block at a point in time. Events occurring prior to the stated retroactive date are not covered regardless of when a claim is made. Other policies do not specify a retroactive date, stipulating instead that there is no coverage for a prior incident when insurance exists under another policy, whether the other insurance is adequate, and without consideration for any deductible applying. It is possible that the underwriter will insist on adding a retroactive date if an insured had operated without coverage during a prior period.
Frequently, all related claims will be deemed to have been made at the time the earliest related claim was presented or when the first circumstance leading to the first related claim was reported.
Some policies contain an Extended Reporting clause and others have an Extended Discovery clause. It is very important to distinguish between them. The Extended Reporting clause provides the insured with a contractual right to call for an Extended Reporting endorsement upon cancellation of the policy (unless cancellation is for non-payment). This endorsement sets up a period of time beyond the date of termination during which claims may be reported. However, only claims that arise from occurrences while the policy was in force are covered. It is to the insured's advantage to tie down in advance as many of the details as possible, for example, as to what limits will apply during the extension period, what will be its duration, and how much will it cost?
The Extended Discovery clause permits the insured to make a written report during the term of the policy calling attention to an occurrence that may give rise to a claim at a later date. Such a claim, if it materializes after the policy expires or is terminated, will then be considered as having been made during the policy period.
High limits for this coverage are recognized as essential in times of ever-escalating court awards. How high depends on the insured's judgment in the trade-off of current dollars for protection against potential catastrophe and, if appropriate, the underlying insurance requirement of the insured's umbrella liability protection. Limits are displayed on the Declarations page in terms of “each claim”—and some policies, but not all, go on to specify that “each claim” includes all claims arising out of one incident. A cap on the insurer's liability for all claims made during the policy period is shown as an “aggregate limit.” Limits frequently begin at $5 million with increased amounts available depending upon the insurer.
Defense costs, which may be the only expense if a claim is settled in the insured's favor, are included in the policy's limits in some forms. Others are silent, stating only that the insurance company will defend the insured against covered claims. Any ambiguity in the relationship of defense costs to policy limits can be expected to be resolved in favor of the insured.
Whether the insured is allowed to have a say in the settlement of claims is a feature of great potential significance; the insured's reputation may hinge on the outcome of a claim and the insured may want very much to defend against it. Some Insurance Agents and Brokers Errors and Omissions policies include a Consent to Settle clause that prevents the insurer from settling a claim without the permission of the insured. However, this privilege is not free as these policies also state that the insurer's obligation is limited to defense costs and settlement amount that would have prevailed had the insured agreed to settle when the insurer wished. In the absence of a Consent to Settle clause or similar provision, decisions about when to settle or when to defend are exclusively the right of the insurer.
Another consideration for the insured is whether the policy's deductible applies to defense costs. In some forms, the deductible does apply to defense costs while others offer the insured an option in this regard. A large deductible could be more acceptable, obviously, if it applies to settlement amount but not to defense cost—depending on the trade-off in added premium.
Deductibles—Supplementary Payments
The amount of the deductible clause varies according to the needs of the insured and the rating procedure of the insurer. It is not uncommon today to see deductibles of $10,000 or $25,000. The deductible amount in all cases applies to each claim made under the policy. If the deductible is paid by the insurance company in a claim settlement or satisfaction of a judgment, the insured will be required to reimburse the company. The insured may be required to reimburse the insurer also for certain or all defense costs below the deductible, depending on the provisions of the particular contract. Some forms say only that reimbursement will be required with respect to “amounts (paid) in settlement or satisfaction of claims or judgment.” Legal expenses entailed in the successful denial of a claim—no settlement or satisfaction required—seem to escape application of this deductible provision. Other forms are silent on reimbursement, relying on the deductible clause itself to prevail; that is, to apply as stipulated to defense costs whether defense succeeds or not.
The deductible amount may also be subject to an aggregate limit, depending on the policy and the terms arranged with the underwriter. In this case, once the aggregate limit on deductibles has been reached, additional claims throughout the remaining policy term are settled without application of the deductible.
Insurance Agents and Brokers Errors and Omissions policies contain the general Supplementary provision of most liability policies although they may be differently displayed or expressed. These include payment of premiums on bonds to release attachments for amounts not in excess of the limit of liability and payment of premiums for Appeal bonds. Also, all costs taxed against the insured, incurred expenses and accrued interest on the portion of a judgment that does not exceed the limit of liability are paid. Loss of earnings is not covered in some policies. Other contracts do not address earnings of the insured but exclude coverage of employees' salaries.
The provisions of different policies relating to defense costs and other “supplementary payments” require careful attention with respect to the application of the deductible clause. Defense costs are kept separate from the other so-called supplementary payments in one policy's provisions and, in consequence, the latter escape application of a deductible that applies to defense costs alone. On the other hand, another policy includes all of the traditional supplementary payments under the single heading of “claim expense” and if the deductible is applicable to “claim expense” it applies to each item that the term encompasses.
Exclusions in these policies are generally very similar. Although the format may differ, coverage usually does not apply to any dishonest, fraudulent, criminal or malicious act, nor to bodily injury or destruction of tangible property, including loss of its use. Additionally, most policies also include, either as part of printed policy conditions or by endorsement, an exclusion of nuclear energy loss. The Broad Form Nuclear Energy Liability exclusion is used.
Forms differ in their treatment of the exclusion relating to dishonest, fraudulent, etc., acts or omissions. Some make an exception of acts or omissions of employees (except executive officers) so that coverage for the named insured is secured against the actions of non-officer employees. Others permit a buy-back arrangement to amend the exclusion to add the aforementioned exception. Commercial Crime insurance with Employee Fidelity coverage included offers another means for covering the exposure.
The following exclusions may be found in the various forms for Insurance Agents and Brokers Errors and Omissions insurance. It is unusual for a single contract to contain all of them:
· Libel, invasion of privacy, slander, or discrimination. Many insureds are covered for this exposure by a form of Personal Injury Liability protection.
· Contractual arrangements. A policy with this exclusion will not cover the insured in contractual obligations to hold another harmless for errors or omissions of the insured. If such assumptions of liability cannot be avoided, a species of Contractual Liability insurance will need to be sought.
· Money. Premiums, return premiums, commissions, claims payments, tax monies—all are excluded under this heading. A combination of Accountants Errors and Omissions coverage with Employee Fidelity protection would seem to be required.
· Punitive damages. Punitive or exemplary damages are sometimes awarded by the courts in addition to compensatory awards. See “Insurability of Punitive Damages”, Casualty & Surety, Public Liability section. Policies with this exclusion defend and cover only compensatory awards. Regulatory authorities of some jurisdictions do not permit insurance to apply whether or not the exclusion is a part of the policy.
· Claims arising out of pollutants or cleanup of pollutants.
· Placing a customer in a company that goes into receivership, bankruptcy, or liquidation.
· Commingling of funds. Many state insurance statutes prohibit commingling of funds; that is, where an agency maintains a single account into which all agency monies as well as those premiums collected from insureds or due an insurer are kept. Other state statutes are silent on the matter. If this exclusion appears in a policy then the agent should seek clarification as to applicability.
·”Relationship exclusions.” These exclusions apply to eliminate coverage when one insured under the policy sues another. This can occur when an employee places his or her own insurance through the agency. Any error or omission regarding placement or handling of the insurance may not be covered. Some policies contain exceptions, as when service is rendered by one employee to another employee as a client.
·”Owned or controlling entity” exclusions. These exclusions eliminate coverage when the agency provides insurance services for an entity that an insured owns. Some insurers permit exceptions, as when the entity is at “arms length” from the agency. For example, the wife of an insured partner might be a partner with her husband in a catering business, although she has complete responsibility for the catering business. The only connection with the agency is that the wife's husband happens to be a partner; he has no role whatsoever—financial or otherwise—in his wife's business. An example of a “controlling entity” is an insurance agency owned by a bank or mortgage company. A claim that the agency mishandled the bank's or mortgage company's insurance might well be excluded.
Other provisions common to most of these policies are those ordinarily found in other liability policies. These include clauses pertaining to subrogation, false claims, notice of claim, actions against the company, other insurance, cancellation, etc. Assignment of a policy is generally not permitted. Changes may be made only by company endorsement of the policy.
The Other Insurance clause requires attention in terms of coverage, if any, for incidents occurring after the retroactive date and before the policy's effective date. One policy that pro rates with other valid and collectible insurance applying to occurrences during the policy term, holds itself as excess to other insurance applying to incidents between retroactive date and policy inception—and the limit available as excess is only the difference (if any) between the limits on the other policy and the limits (if higher) of this one. Another policy holds itself as excess to all other insurance unless the other insurance declares itself as specifically excess to this one.
The Subrogation clauses differ in their treatment of subrogation against employees. Since employees have the status of insureds under these policies, effecting subrogation against an employee might be difficult for the insurance company in any case. Nevertheless, the forms exempt employees from subrogation possibility. One policy makes an exception—the insurer does not excuse employees from subrogation possibilities when the employee has committed a dishonest or criminal act.
Rates are based upon the number of staff to be insured—partners, directors, officers, licensed solicitors and other employees. Additionally, rates vary according to the limits of liability and the amount and application of deductible, deductible aggregate, etc.
Errors and Omissions Prevention Suggestions
The majority of errors and omissions claims can be avoided by following prudent procedures in agency practice. The following is a five-part checklist that will enable agents and brokers to identify areas of potential errors and omissions exposure. Careful risk management and attention to detail can prevent the majority of acts that result in errors and omissions allegations against an insurance agency. Making agency personnel aware of proper procedures in a number of areas is essential to the successful operation of an agency. The following is a compendium of suggestions for avoiding errors and omissions, broken down into various facets of agency operations.
The suggestions cover: Risk Survey, Placement and New Business; Communications with Insureds, Renewal, Coverage Reviews, and Cancellation; Claims Handling; Binders, Applications and Changes: Endorsements; Agency Management and Continuing Education; and Members of Families of Agency Personnel.
Risk Survey, Placement, and New Business
· Inspect all premises to be insured prior to completing an application whenever possible.
· Have a regular method for recording your clients' insurance requirements.
· Use a checklist in reviewing required coverages and limits with an insured.
· Recommend outside appraisals or inspections when appropriate or when values are unclear.
· Refrain from advising clients in fields outside insurance, such as accounting or law.
· Check that all forms, coverages, limits and endorsements on a policy coincide with those on the request or application.
· Do not misrepresent the risk or withhold any underwriting information on new risk submissions.
· Applications should be completed thoroughly. Applications may become part of the policy or statements made therein may modify or void the coverage.
· Check the policy against the application for correctness.
· Notify the insured immediately if company declines coverage or modifies coverage it is willing to write.
· Company requests to alter or modify the coverage requested in the application should be in writing.
·Review excess policies to be certain that they are consistent with primary policies.
·Cross-reference primary and excess policies.
·Maintain a system of issuing, reporting, and canceling certificates of insurance.
Communications with Insureds
· Use care when explaining or delivering “all risks,” comprehensive, and specific coverages. All policies have exclusions. Explain them to the insured. Point out coinsurance penalties, deductibles, or restrictive clauses or limitations.
· Confirm in writing the insured's declination to purchase important coverages or limits. Request the insured sign and date a declination.
· Remember to explore every market — standard, excess and surplus, before advising the insured coverage is not available.
· Advise insureds in writing if needed coverage previously unavailable can now be written.
· Do not indicate to an insured you can place a policy until you know for certain it can be placed.
· Advise the insured in writing if placing coverage with a nonadmitted carrier.
· Stay within your own field. Don't try to be an attorney, accountant, engineer, etc.
· If you don't know, say so. Find out and report back in writing.
· Never reveal you are insured for errors and omissions.
·Send a cover letter to the insured explaining where policies differ from those discussed or from previous insurance.
Renewal, Coverage Review, and Cancellation
·Prepare expiration lists and contact the insured or renew each policy before its expiration date. Most personal lines policies are now automatically generated by the insurer, but they should be reviewed to make sure all requested coverages are in place. Commercial lines policies not automatically generated should be ordered well in advance of expiration, preferably sixty days. If a policy is not received by expiration date, issue a binder if possible.
·Check renewal policies with regard to forms and endorsements. If the insurer is using a different form or edition date or has incorporated any exclusions not included in the earlier form, the insured must be notified in writing.
·All expirations should be reviewed by the producer prior to renewal.
·Use a procedure for periodic review of all accounts consistent with the size and complexity of the risk.
·Review values and liability limits at each renewal.
·Check that required reports of value are made on reporting form policies. Review reports of value and audits for indications of risk change.
·Review and recommend new coverages as appropriate because of changes in the insurance environment or product availability.
·Check all policies being cancelled for additional insureds, loss payees, mortgages, and certificates of insurance and notify as applicable.
·Become familiar with legal requirements concerning cancellation and nonrenewal of different lines of insurance in your area.
·Be careful not to send an invoice on a cancelled policy unless the earned premium has not been paid. Indicate on the invoice that the balance due is for the earned premium, and not for continuation of the policy. Agency accounts receivable records should indicate the policy has been cancelled.
·Initial reports of claims and should be transmitted at once to the company. Use ACORD Forms and procedures as often as possible, unless the insurer has its own forms. Take the report and advise that you or the adjuster will be in touch with the insured or claimant. Never indicate there is or is not coverage unless you are absolutely certain. Claims reports may be reported by phone, in writing, by FAX, or, if the insurer permits, by E-mail.
· Advise the insured of his responsibilities to protect property and to do nothing that will increase the loss. Lack of cooperation on the part of the insured could result in the claim being denied.
·Make sure the details of agency claim draft authority are readily available and understood by all affected individuals. Is the exercise of agency claims draft authority restricted in writing to authorized and trained personnel?
·Periodically follow up with the company on open claims.
·Immediately call the company and transmit suit papers when received.
·Maintain a record of suit papers and other claim related material transmitted to companies.
·Some agencies have centralized responsibility for claims handling. If so, make sure all procedures are adhered to.
· Keep a telephone report form and/or log of all incoming calls.
Binders, Applications and Changes
·Issue all binders in writing on approved forms. The most common form used today is the ACORD form. Binders should be prepared and issued immediately. Indicate date and time coverage is effective. Never use oral binders. A copy of the binder should be sent to the insurer, the insured, and one kept in the agency.
· Indicate the insurer, the type of coverage, property to be insured, limits, address to be insured, and the correct name and mailing address of the insured.
·Send a copy of each binder to the insurer immediately.
·Use serially numbered binder forms.
·Maintain a log of all binders issued in the agency.
·Details of agency binding authority and procedures should be readily available in writing and understood by all affected individuals. Is the exercise of the agency's binding authority restricted in writing to authorized and trained personnel?
·Follow up on all expiring binders to be certain a policy has been issued or premium declared.
·Complete applications thoroughly. When requested, provide companies with their special supplemental application forms.
·”Suspense” applications and endorsement requests to be sure each is acted upon by the company.
·Never use a binder to provide free insurance. Advise the insured that coverage is in force and will have to be paid for.
·If a binder must be cancelled, it should be done in the same manner as a policy.
Endorsements
· Prepare endorsements requests at once. If not possible, acknowledge request in writing and issue binder. “Suspense” endorsement requests to make sure each is received and that the endorsement is correct.
· Indicate on the face of the office copy of the policy that the policy has been endorsed, the date, and whether coverage was added or deleted, or modified, e.g., increase in limits in mid-term.
· Determine whether endorsement or cancellation and rewrite of policy is the best method to accomplish a change in the policy, e.g., assignment, change of address, etc.
Agency Management and Continuing Education
·Maintain an office procedure manual, and instruct office personnel they must use these standard procedures to handle claims, cancellations, endorsements, renewals, or requests for new policies. Check and re-check office personnel on compliance with standard procedures.
·All personnel must record all in person or telephone conversations. Use a telephone memo or a call sheet. Hand written records of communications are invaluable when agency is questioned on performance or the lack of it.
·Maintain controls and records on countersignature business if handled.
·Subscribe to an agency management service.
·Require formal insurance education, such as seminars, IIA or CPCU study by all staff.
·Agency staff should attend technical seminars on new developments regularly. Know your companies. Placing coverage in an unsound company may result in a claim against you as well as damage to your agency's reputation.
·Provide a system of formalized training and cross training for clerical and underwriting staff so that all functions can be performed in the absence of anyone, including the principal.
·Subscribe to trade periodicals, regional and national.
·Now, more than ever, follow changes in the industry.
·Ensure that agency staff recognizes the importance of each contact with a client.
Members of Families of Agency Personnel
· Constantly remind members of the family what is expected of them with regard to telephone messages received at home: Get the name and telephone number of the person calling. Take the message, but emphatically state that you have no authority to act on insurance matters. Advise the caller where the agent or agency employee may be reached.
· Advise the caller that his message will be given to the agent or agency employee as soon as possible.
· Under no circumstances should members of the family state coverages are in effect, will be put into effect, or give details of coverages, limits, etc.
· Keep a list of night numbers for all companies at home near the phone.
· Advise members of the family of this list. If caller knows the name of his company, and needs immediate action, e.g., a serious accident or loss, he or she can be given the company night number.