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Risk Management Understand form mechanics Coverage analysis should include endorsements and exclusions By Donald S. Malecki, CPCU
As producers become more professional and are looking for ways to differentiate themselves from others, they go beyond the traditional practices of being a sales agent. They may go as far as to offer to read contracts and analyze existing coverages. These activities, however, create an increasing duty and responsibility to the insured and are often the basis of errors and omissions claims. Nonetheless, these producers, often seen at meetings, seminars, and workshops, are the inquisitive group who are not simply attending for educational credits. Those prospecting producers in this category want to know, for example, not solely what policies cover but also what is excluded. The reason is that disputes over claims do not commonly involve coverage that is provided, but rather coverage that is excluded. Looking at exclusions, therefore, is a very important exercise. The meaning of exclusions and how to eliminate or reduce their impact is generally gained through experience and knowledge in the practice of insurance. Crime coverage can generate many questions—far more than can be discussed here. The producer, however, needs to know whether the crime coverage is written on a loss sustained or discovery basis. The reason is that employers who have long had coverage on a loss sustained form are being renewed on the discovery form without any notice. Too often, this important coverage change is discovered only when a claim is presented. Briefly, as its name applies, the loss sustained form applies to loss that is sustained (occurs) during the policy period. Not to be confused with the discovery form, the loss sustained form has a dual trigger because it also requires that the loss be discovered during the policy period, unless an extended reporting period endorsement has been issued. On the other hand, the discovery form covers losses first discovered during the policy period, regardless of when the act or event giving rise to loss might have occurred (sustained). This form has an unlimited prior acts provision, unless a retroactive date endorsement is required. Generally, the major stumbling block in changing from a loss sustained to a discovery form occurs when a retroactive date endorsement is issued on the latter form. When this occurs, an automatic gap is created with much the same result as when a liability policy written on a claims-made basis is subject to a retroactive date. Another major pitfall The fact that crime coverage forms have characteristics similar to claims-made liability forms may be helpful in understanding their respective mechanics, even though crime forms relate to first-party loss and liability forms relate to third-party claims. Understanding the mechanics of these crime and liability forms certainly is advantageous. It is not unusual, however, for a liability policy, long written on a claims-made basis, to be rewritten on an occurrence basis unbeknownst to the producer. This usually happens when a producer does not have the opportunity to view the expiring policy portfolio, or does not understand the significance of these coverage forms. One such case is Tip’s Package Store v. Commercial Manager’s, Inc. et al., 86 S.W.3d 543 (Tenn. Ct. App. 2001). This involved an owner of a liquor store who maintained a claims-made liquor liability policy with a $300,000 limit. When approached by a prospecting producer, the store owner wanted a policy with higher limits. The producer proposed identical coverage to replace the existing policy with no lapse and with a limit of $1 million. The case does not mention it, but presumably the higher limit was offered at the same or less premium. Unfortunately, the policy was written on an occurrence basis, and claims for two liquor-related fatalities were not made until after the occurrence form had been issued. Since a claims-made policy generally covers only claims made and reported during the policy period and an occurrence policy generally covers only when the injury or damage occurs during its policy period, there is an automatic gap in coverage. In another case, the knowledge and good work of an agent in transforming coverage from a claims-made to an occurrence basis resulted in coverage, despite the efforts of the insurer to deny coverage at almost every turn. This case is The Buckeye Ranch, Inc. v. Northfield Insurance Co., et al., 839 N.E.2de 94 (Ct. of Common Pleas of Ohio 2006). In 1996, a boy sexually assaulted his younger roommate while both were long-term residents receiving treatment at “the Ranch.” Its liability insurance between 1993 and 1999 was provided on a claims-made form with the Scottsdale Insurance Company. Three years later, the Ranch changed to a traditional occurrence-based format. Seeking to assure that there was no inadvertent gap in coverage, the Ranch consulted with an agent. Northfield, the new insurer, also had the assistance of an intermediary to negotiate coverage on its behalf. As a result, the Ranch purchased a prior acts coverage endorsement for an additional premium of $13,600. Six years after the assault, the victim presented a multi-million-dollar tort claim against the Ranch. Since the insurer denied coverage, the Ranch settled with the victim and litigation ensued. Nose versus tail coverage Whenever an article is written on claims-made liability policies, it is not unusual to discuss so-called “tail coverage,” since it is a necessary element to the continuity of coverage. Actually the term “tail coverage” is a misnomer, because it does not provide coverage. It merely extends the period, after policy expiration, during which claims can be made. What is not often mentioned in relation to claims-made policies is “nose” coverage. The reason is that, unlike tail coverage purchased to apply to a claims-made policy, nose coverage is purchased from the insurer of the occurrence form that is replacing the claims-made coverage. When nose coverage is purchased, to the extent it is otherwise available, it provides prior acts coverage for injury or damage that has taken place prior to the period of the occurrence policy’s inception date. Nose coverage, therefore, can preempt the need for tail coverage, depending on how long the prior act period is. As it so happened, the prior acts endorsement issued in relation to the occurrence policy for the Ranch applied to damages for covered bodily injury and property damage that (1) have been deemed to have occurred during the period between 1993 and 1999, (2) were caused by an occurrence as defined by the policy, (3) was not known by the named insured or any insured prior to 1999, (4) were not covered by the claims-made policy, and (5) arose from a claim or suit made subsequent to 1999, the occurrence policy’s inception. A number of arguments were raised by the insurer to diffuse the argument that coverage applied, but to no avail. This 17-page decision is an interesting one and highly recommended to those interested in this subject. Conclusion By employing good risk management principles, problems with coverage can be avoided. But if problems do arise, knowledgeable producers understand how they can be overcome with a minimum of financial dislocation. It takes experience to learn about various insurance coverages. Once producers attain a certain level of expertise, they can stop or they can forge ahead. How they want to apply this knowledge and expertise in their vocation hinges on whether they want to be strictly sales people or go the extra mile, subject to some additional risks. Whatever the choice, producers need to find the balance between coverage and price, realizing that price is a high priority of the purchaser until a loss occurs. Producers also need to keep firmly in mind that exclusions are more important to consider than coverages, and that underwriters are not likely to be of much assistance when looking at competitors’ policies for basis of quotes. * The author |
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