PRIOR KNOWLEDGE AFTER THE FACT

What insureds knew and should have known

makes a big difference for liability coverage

 Claims-made coverage almost always

includes exclusions for claims arising from

acts or omissions that the insured knew or—perhaps

—should have known could result in a claim when applying for coverage. 

By Joseph S. Harrington, CPCU

Fifty years after the riveting US Senate Watergate hearings, we have a pretty complete answer to US Sen. Howard Baker’s famous question: “What did the president know and when did he know it?”

Given President Richard Nixon’s direct involvement in the coverup of the Watergate burglary, we don’t have to ask what Nixon should have known and when (or to whom) he should have reported it. Other presidents have been in the awkward position of defending themselves by pleading ignorance of wrongdoing or incompetence by members of their own staff.

Generally, a US president loses nothing but public esteem by being unaware of problems in the White House. All else considered, voters might be forgiving.

That’s not the case for liability insureds who ignore or overlook any transgression that could lead to a claim. Courts consistently demonstrate that insureds jeopardize their coverage if they fail to identify and report past acts and omissions that could conceivably result in a claim, however remote that possibility may seem.

Calls for candor

The principal concern in this regard comes under “prior acts” coverage in claims-made policies that provide defense and indemnity coverage for losses that occurred before the policy period but after a retroactive date. Claims-made coverage almost always includes exclusions for claims arising from acts or omissions that the insured knew or—perhaps—should have known could result in a claim when applying for coverage.

We emphasize “perhaps” because not all claims-made policies explicitly address situations where an insured asserts it was not aware of a potential claim, even though one could argue that the insured should have been aware of the possibility.

While disputes about prior knowledge arise most often under claims-made policies, the exposure also exists under general liability forms with an occurrence trigger.

GL forms typically include a condition precluding coverage for bodily injury or property damage that occurs during the policy period if the damage or injury is a “continuation, change or resumption” of damage or injury known prior to the policy term.

Cost of not knowing

Recent cases demonstrate that it’s not a good idea for insureds to plead ignorance regarding potential claims.

In March 2023, a US district court voided professional liability coverage for a real estate manager who failed to disclose that he had received a threat of a lawsuit before contracting for a professional liability policy.[1]

The following month, a U.S. appeals court in New York sided with an insurer in denying professional liability coverage to an attorney who did not inform the carrier of an earlier failure to file a response in a lawsuit, which led to a default judgment against his client.[2]

The same month, a U.S. appeals court in Ohio voided the employment practices liability portion of a commercial package policy because the insured failed to disclose the existence of a federal investigation into terminations at the firm. In that case, charges triggering a series of investigations were sealed at first, and the company was not informed of their precise nature.[3]

No worse off?

There are several reasons why an applicant for insurance may be unaware of or unwilling to admit to a pending problem that could lead to a claim. The applicant could be negligent or incompetent in monitoring its operations, protective of its reputation, or afraid it will be turned down for coverage.

Also, some applicants may see no incentive in reporting situations that may or may not result in a claim.

If an applicant reports a known error or dispute on the application, any resulting claim will most likely not be covered. If an applicant doesn’t report it, there’s at least a chance the insurer will cover a resulting claim. If not, the insured won’t be any worse off than if the claim was excluded from the outset, unless the claim results in the policy being cancelled entirely.

As it is, most claims-made policies include language to the effect that coverage only applies to the extent an applicant “had no knowledge of any suit, or any act or error or omission, which might reasonably be expected to result in a claim or suit.”

Such language establishes an “objective” standard for applying or excluding coverage for prior acts, according to a 2018 article published by the Connecticut Bar Association.[4]

In the article, attorneys Jeffrey Vita and Austin Moody explain that only a minority of jurisdictions will accept, as a justification for coverage, the “subjective” claim of an insured that it was unaware of a potential claim scenario. On its own, they write, the subjective approach gives insureds “unilateral power” to determine if a claim related to a prior act or omission qualifies for coverage.

The “objective” approach taken by most court jurisdictions allows insurers to argue what a reasonable insured should have known about a situation and whether the insured could reasonably have foreseen that a claim might result. General standards of professional conduct, not the insured’s own limitations, would determine the matter.

Combined approach

Courts are moving toward a combined “subjective-objective” approach to evaluating questions of prior knowledge, according to Vita and Moody.

On the one hand, courts expect insureds to demonstrate some degree of awareness and candor regarding potential claim situations, with or without explicit requirements in a policy. On the other hand, courts are increasingly willing to consider why an insured might be justifiably unaware of a brewing problem.

Producers can help their clients by encouraging markets to employ policy language that clearly allows for consideration of both generally expected conduct and the unique circumstances of an insured.

[1] Pine Mgmt., Inc. v. Colony Ins. Co., No. 1:22-cv-02407, 2023 U.S. Dist. LEXIS 46854 (S.D.N.Y. Mar. 20, 2023)

[2] North River Ins. Co. v. Leifer, No. 22–1009 (2d Cir. Apr. 18, 2023)

[3] SHH Holdings LLC v. Allied World Specialty Ins. Co., No. 22–3283 (6th Cir. Apr. 21, 2023)

[4] Jeffrey Vita and Austin Moody, “Interpreting ‘Prior Knowledge’ Clauses in Claims-Made Policies: When Knowing Too Much Can Hurt You,” Connecticut Lawyer, Summer 2018; accessed at https://www.sdvlaw.com/blogdocs/news.208.pdf