Legal Malpractice Insurance: It’s a Crime If Your Policy Doesn’t Cover Criminal Acts

Legal Malpractice Insurance Criminal ActsWhen we meet with a law firm’s management committee to review the malpractice insurance proposals we’ve obtained for their firm, one topic of discussion is the difference in policy language among the competing insurers.

It’s usually a short discussion.

Several years ago, there were material differences in policy language from insurer to insurer, but increasing competition has pressured the insurers with narrower policy language to broaden it in order to remain viable ‘players’ in the legal malpractice insurance market.

As a result, today there are few material differences in breadth of coverage among the major legal malpractice insurers. However, one important area of difference is in coverage for intentional and criminal acts.

Many attorneys don’t pay attention to this, because they’re confident that no one in their firm will intentionally commit a wrongful act, let alone a criminal one. However, the fact they may not do so doesn’t mean that a plaintiff won’t allege that they did so, i.e., to pressure them.

If that happens, then the breadth – or narrowness – of a firm’s malpractice policy language will determine whether or not it will be covered. If a firm’s policy doesn’t cover such claims, it could be exposed to potential judgments or settlements, and perhaps defense costs.

Insurers “lump in” criminal acts with dishonest, intentionally wrongful, fraudulent, and malicious act or omissions. “Intentionally wrongful acts” are intentional torts that arise out of the rendering of professional services, such as wrongful use of civil proceedings, abuse of legal process, defamation, etc. Dishonest, fraudulent, malicious acts, etc., have their common dictionary definition.

All policies exclude these acts, but most then give back some coverage, although not to the same degree.

Let’s look at examples, from the narrowest to the broadest coverage:

Narrowest Coverage

Old Republic Insurance Co.:

“This POLICY does not apply to:

(b) any CLAIM arising out of a dishonest, criminal, malicious or deliberately fraudulent act or omission of an INSURED.”

No defense, no indemnification, no coverage, period, even for “innocent insureds”.

Slightly Less Narrow Coverage

Hartford Insurance Co.:

“This insurance does not apply to claims: 1. arising out of any dishonest, fraudulent, criminal or malicious act, error, omission, or personal injury committed by, at the direction of, or with the knowledge of an Insured.

This exclusion does not apply to an Insured who did not personally commit or participate in committing the any of the knowingly wrongful acts, errors, omissions, or personal injury…”

The exclusion adds personal injury (as defined) to the list of excluded acts, and doesn’t offer a defense to the accused, but then deletes the exclusion for ‘innocent insureds’, and thus will both defend and indemnify them.

Less Narrow Coverage

Travelers Insurance Co.:

Criminal, Dishonest, Fraudulent Or Malicious Conduct This policy does not apply to any Claim based upon or arising out of any criminal, dishonest, fraudulent or malicious conduct, or other willful violation of laws, committed by any Insured or by anyone with the consent or knowledge of any Insured, provided that this exclusion will not apply to:

  1. any Insured Person who did not participate in or have knowledge of such conduct or violation; or
  2. the Company’s duty to defend, or to pay Defense Expenses for, any Claim for malicious prosecution or abuse of process.”

This exclusion, like Hartford’s, doesn’t offer a defense to the accused, but then deletes the exclusion for ‘innocent insureds’, i.e., will both defend and indemnify them. However, the coverage is broader than Hartford’s in that doesn’t exclude claims for personal injury, and exception #2 adds the duty to defend claims of malicious prosecution or abuse of process, i.e., exempts them from the exclusion for “malicious conduct”.

Narrow/Broad Coverage

Hanover-Pro Direct

“This policy does not apply to:

  1. a) any claim arising out of your dishonest, criminal or fraudulent act, error or omission.

However, we will provide for the defense of claims alleging personal injury arising out of your performance of professional services;

 INNOCENT INSUREDS

In the event that coverage under this policy would be excluded, suspended or lost because of a dishonest, criminal, malicious, or fraudulent act, error, or omission by one or more of you, we will cover any other of you who did not participate in, acquiesce in or fail to take appropriate action when you discovered the conduct, provided that you complied with all other policy provisions.”

This insurer will defend the accused through adjudication, but only for personal injury (as defined) arising out of the rendering of legal services.

It will also defend and indemnify ‘innocent insureds’, i.e., even if the accused insured is found responsible for the criminal act or omission.

Markel Insurance Co.:

“This insurance does not apply to Claims:

  1. Arising out of an illegal, dishonest, fraudulent, criminal, knowingly wrongful, or malicious act, error or omission, or an intentional or knowing violation of the law.., committed by, at the direction of, or with the knowledge of any Insured; however, for such Claims otherwise covered by this policy, the Company will provide a defense until such time as the act, error, or omission is found to be illegal, dishonest, fraudulent, criminal, malicious, or was an intentional or knowing violation of the law by trial, court ruling, regulatory ruling or admission;”

The insurer will defend both the accused and innocent insureds through adjudication, but it won’t indemnify ‘innocent insureds’, if the accused insured is found to have committed the act or omission.

Note that Hanover provides a narrow defense for the accused, but broad defense and indemnification of innocent insureds, while Markel does the opposite, i.e., provides a broad defense of the accused (and innocent insurdes) through adjudication, but no indemnification of innocents, if the accused insured is found responsible.

Broad Coverage

Zurich Insurance Co.:

“This policy shall not apply to any Claim based upon or arising out of, in whole or in part:
A. any intentional, criminal, fraudulent, malicious or dishonest act or omission by an Insured; except that this exclusion shall not apply in the absence of a final adjudication or admission by an Insured that the act or omission was intentional, criminal, fraudulent, malicious or dishonest;

V. CONDITIONS
D. PROTECTION FOR INNOCENT INSUREDS

Whenever coverage under this policy would be excluded, suspended or lost because of Section III — Exclusions, subsection A, the Company agrees that such insurance as would otherwise be afforded under this policy shall be applicable with respect to any Insured who did not personally acquiesce in or remain passive after having personal knowledge of such conduct…

The Company’s obligation to pay shall begin once the full extent of the assets of the responsible Insured have been exhausted and once the deductible as shown in the Declarations of the policy has been satisfied.”

The insurer will provide both the accused and innocent insureds a defense through adjudication, plus indemnification, absent a final adjudication or admission that the Insured committed the act or omission.

It then restores indemnification for ‘innocent insureds’, i.e., even if the accused insured is found responsible for the criminal act or omission, but only after that party has paid to the full extent of its assets.

Broader Coverage

Catlin Insurance Co.:

“This Policy does not apply to:

  1. any Claim arising from, in whole or in part, a dishonest, fraudulent, criminal or malicious act or omission, committed by an Insured, or at the direction of an Insured or ratified by an Insured; however, the Insurer shall defend any Insured that is alleged to have committed such act or omission, but the Insured shall reimburse the Insurer for Claim Expenses if the commission of such act or omission is admitted by the Insured or otherwise established as a matter of fact in a civil, criminal, or alternative dispute resolution proceeding.

This exclusion will not apply to:

  1. any Insured who did not participate in or have knowledge of such conduct or

violation; or

  1. the Insurer’s duty to defend, or to pay Claim Expenses for, any Claim for

malicious prosecution or abuse of process”

This exclusion offers a defense to the accused Insured, but requires that Insured to reimburse the insurer if the Insured admits committing the act or omission, or it’s “otherwise established” that the Insured did it.

It then restores both defense and indemnification to ‘innocent insureds’, even if the accused insured committed the criminal or malicious act, and adds the duty to defend claims for malicious prosecution or abuse of process, i.e., exempts them from the exclusion for “malicious acts”. Here, it’s carving out an exception for claims that might arise out of the provision of legal services.

Aspen Insurance Co.:

“The Company will not defend or pay any claim:

Based on or arising out of any dishonest, intentionally wrongful, fraudulent, criminal or malicious act or omission by the Insured. The Company will provide the Insured with a defense of such claim unless and until such dishonest, intentionally wrongful, fraudulent, criminal or malicious act or omission has been determined by any final adjudication, finding of fact or admission by the Insured. Such defense will not waive any of the Company’s rights under this policy.

Upon establishment that the dishonest, intentionally wrongful, fraudulent, criminal or malicious act or omission by the Insured was committed, the Company will have the right to seek recovery of the claim expenses incurred from the Insured found to have committed such acts or omissions.”

This exclusion shall not apply to those Insureds who did not personally participate or personally acquiesce in or remain passive after having knowledge of such conduct. Each Insured must promptly comply with all provisions of this policy upon learning of any concealment.”

This exclusion offers a defense to the accused Insured, but rather than require the Insured to reimburse the insurer if the Insured admits committing the act or omission, or it’s “established” that the Insured did it, it merely gives the insurer “the right to seek recovery.” In this regard, it’s coverage is slightly broader than Catlin’s.

Aspen then restores both defense and indemnification to ‘innocent insureds’, but unlike Catlin, it doesn’t add the duty to defend claims of malicious prosecution or abuse of process, i.e., exempt them from the exclusion for “malicious acts”.

Broadest Coverage

Westport/Swiss Re

“IV. EXCLUSIONS

This POLICY shall not apply to any CLAIM based upon, arising out of, attributable to, or directly or indirectly resulting from:

H. any intentionally criminal, dishonest, malicious, or fraudulent:

  1. act, error, omission; or
  2. PERSONAL INJURY committed by an INSURED.

This exclusion applies to any INSURED who is adjudged or admits to have committed such acts. This exclusion does not apply to any INSURED who did not commit, know or acquiesce in such WRONGFUL ACT which is the basis of the claim.”

This exclusion is broad, in that it also excludes coverage for personal injury (as defined), but it offers a defense to the accused Insured through admission or adjudication, and neither requires reimbursement of those costs nor give the insurer the right to recover them, if the Insured admits or is adjudged to have committed the act or omission.

It also restores both defense and indemnification to ‘innocent insureds’.

CNA Insurance Co:

“This Policy does not apply:

A. Intentional Acts

to any claim based on or arising out of any dishonest, fraudulent, criminal, malicious act or omission or intentional wrongdoing by an Insured except that:

  1. this exclusion shall not apply to personal injury;
  2. the Company shall provide the Insured with a defense of such claim unless or until the dishonest, fraudulent, criminal, malicious act or omission or intentional wrongdoing has been determined by any trial verdict, court ruling, regulatory ruling or legal admission, whether appealed or not. Such defense will not waive any of the Company’s rights under this Policy. Criminal proceedings are not covered under this Policy regardless of the allegations made against any Insured;
  3. this exclusion will not apply to any Insured who is not found to have personally committed the dishonest, fraudulent, criminal, malicious act or omission or intentional wrongdoing by any trial verdict, court ruling, or regulatory ruling;”

This exclusion offers a defense to the accused Insured, but neither requires reimbursement of those costs nor give the insurer the right to recover them, if the Insured admits committing the act or omission, or it’s “otherwise established” that the Insured did it.

However, it’s the only policy that exempts “criminal proceedings” from the defense obligation, thus excluding it completely.

It also exempts claims for personal injury (as defined) from the exclusion, and restores both defense and indemnification to ‘innocent insureds’.

Legal Malpractice: Court Upholds $9M Award Against IP Firm Over Abandoned Patent

IP 12%

The New York Law Journal (reg. req’d.) reported that a federal judge refused to overturn a nearly $9 million patent malpractice verdict against an IP law firm, and lifted a stay on enforcing it.

In Protostorm v. Antonelli, Terry, Stout & Kraus, 08-cv-931, Eastern District Judge Pamela Chen said that jurors had “more than adequate evidence in the record” to support a finding that the law firm had a duty to prosecute Protostorm’s patent application.

She also ruled that the law firm didn’t preserve a non-patentability argument tied to the recent U.S. Supreme Court decision in Alice Corp. Pty, Ltd. v. CLS Bank International, 134 S.Ct. 2347 (2014).

Lawsuit
According to its complaint, Protostorm, which was created to develop and market an invention to track online gaming activity and target advertising, retained Antonelli, Terry to submit a provisional patent application to the U.S. Patent Office in June, 2000.

To get the benefit of a priority date, the company had one year to file a non-provisional application that discussed the subject matters the invention claimed to be patenting.

Protostorm claimed that: *Antonelli, Terry filed an international application two days before the deadline, which listed about 86 countries and regions where Protostorm could seek patent protection, but failed to check the box designating the United States as one of those places.

*The law firm concealed its mistake, said the application likely would take years before getting an initial review, and didn’t inform Protostorm that it had lost its patent rights until shortly before the 2008 malpractice action was filed.

Defense
Antonelli, Terry filed a motion for summary judgment, arguing that its attorney-client relationship with Protostorm ended in 2001. Carl Brundidge, who had been a partner at the firm, said he sent a letter to Protostorm that October, saying that Antonelli, Terry wouldn’t take any further action on the application until Protostorm paid part of its outstanding balance.

Peter Faulisi, an inventor and cofounder of Protostorm, said he didn’t get the letter until after he spoke with an attorney at the firm in 2007.

The court denied the firm’s motion for summary judgment.

Trial
The case was tried in July, 2014. The jury awarded Protostorm $6.9 million in compen-satory damages, and $1M in punitive damages: $900,000 against the firm, and $100,000 against Brundidge.

After post-trial litigation on damages allocation, Judge Chen assigned all compensatory damages to the firm for the acts of its attorneys, but reduced them by 4%, because the jury had found that Protostorm was 4% at fault.

She thus entered a judgment for Protostorm of $6.7 million in compensatory damages, just over $1 million in pre-judgment interest, plus the $900,000 punitive damages award against the firm, and the $100,000 punitive damages award against Brundidge

Request to Set Aside the Verdict
Antonelli, Terry; attorney Brundidge; and Frederick Bailey, an attorney at the firm, moved to set aside the verdict pursuant to Federal Rule of Civil Procedure 50(b).

Among the grounds that it cited in its 50(b) motion was the 2014 U.S. Supreme Court decision in Alice Corp. Pty, Ltd. v. CLS Bank International, 134 S. Ct. 2347, in which the Court said that a computer-implemented method to weigh certain risks between parties in foreign currency transactions was not a patent-eligible invention.

According to the firm, an “avalanche of precedent” now examining Alice, said creations like Protostorm’s were “unpatentable abstract ideas”, i.e., ineligible for a patent, thus rendering a patent malpractice action defective.

Ruling
Judge Chen ruled that Antonelli, Terry was “procedurally barred” from arguing that “(1) Protostorm cannot show patentability under 35 U.S.C. §§ 101 and 103, which is nec-essary to establish proximate cause, and (2) Protostorm failed to prove damages”, because it didn’t raise these arguments in its Rule 50(a) motion.

“ATS&K’s Rule 50(b) motion contends that Protostorm did not carry its burden to show proximate cause because it offered insufficient proof on two requirements for patent-ability. Under Point I of its motion, ATS&K asserts that as a matter of law, the hypo-thetical claims drafted by Protostorm’s expert…were directed to an unpatentable ab-stract concept under Section 101, as recently discussed by the Supreme Court in Alice Corp. Pty, Ltd. v. CLS Bank International, 134 S.Ct. 2347 (2014)… Although Defend-ants’ oral Rule 50(a) motions at trial challenged the patentability of the Protostorm invention, the grounds stated by their trial counsel were altogether different from the Section 101 and 103 arguments raised in the Rule 50(b) motion.”

Further, “ATS&K acknowledges that it didn’t “press an argument under Alice and its progeny until after trial.” None of the Defendants offers any explanation for why they did not raise the Alice argument at any point prior to or during the trial, given that Alice was decided a month before trial commenced…The fact plaintiffs might have been aware of a potential Alice issue before trial does not absolve defendants of their responsibility to raise the issue and thereby put plaintiffs on notice,” Chen ruled.

The firm also argued that “because patent eligibility is a pure question of law, it may be raised for the first time in a Rule 50(b) motion…the question of patent eligibility can be answered by reference to the language of the hypothetical claims alone, (so) there were no additional facts that Protostorm could have presented at trial to remedy deficiencies in its proof on causation and patent eligibility, and therefore Protostorm is not prejudiced by the Court addressing the issue at this late stage.”

However, Chen ruled that “the resolution of the patent eligibility issue requires additional facts or expert testimony that is absent from the trial record, and that Protostorm would be prejudiced by not having had the opportunity to adduce additional evidence in re-sponse to Defendants’ belated patent eligibility argument. Since the patent eligibility causation issue is not a purely legal matter, Defendants’ failure to raise it in a pre-trial motion prevents it from raising it in this Rule 50(b) motion”.

Chen then ruled on the parts of Antonelli, Terry’s 50(b) motion that weren’t procedurally barred:

*The evidence failed to demonstrate that the firm was responsible for drafting the final patent application;

*The firm was entitled to judgment as a matter of law on its statute of limitations defense, because there was no evidence that it concealed malpractice or that Protostorm had a reasonable expectation of representation after 2001;

*There was no showing of malicious or willful intent to warrant an award of punitive damages;

*Protostorm’s proof on patentability was deficient because prior art anticipated the Protostorm invention.

Chen ruled that “the Court is compelled to deny the motions unless, when viewing all of the evidence in the light most favorable to the plaintiff, there is “such a complete ab-sence of evidence supporting the verdict. . . ., or the evidence in favor of the movant is so overwhelming that reasonable and fair-minded persons could not arrive at a verdict against it.” This stringent standard has not been met here.”

Chen thus denied the firm’s request to set aside the verdict, and stated that the Court wouldn’t hear any motion to reconsider its order.

Lessons

Law Practice Risk Management
This case stemmed from the simplest of errors – the failure to check a box on a patent application. A logical way to prevent such errors is to have a second set of eyes review every patent application before it’s filed.

Attorney Paul Swanson provides a compelling behind-the-scenes analysis of this case, and also offers these risk management tips:

  1. “Obtain written retainer agreements that include “scope of representation” and “with-drawal from representation” provisions.  Had ATS&K entered into a formal retainer ag-reement, it might have had an opportunity to limit the scope of its representation… according to plaintiff’s expert witness and the revisionist history that often characterizes patent legal malpractice allegations, ATS&K was supposed to have closely inspected the application and discovered its various flaws.  In actuality, ATS&K (wasn’t) involved in any substantive patent application drafting.  Had a written retainer agreement been drafted, the firm may well have been able to limit its representation explicitly.  It could also have included a provision that the firm may withdraw for non-payment of fees or costs reasons.”
  2. *“Send letters confirming the closure of case files and cessation of representation.  Despite the passage of years that could have supported a viable statute of limitations defense in this case, the court could not grant a motion for summary judgment on that ground because of the “continuing representation” rule…(whereby) the statute of lim-itations is tolled for as a long as there is a mutual understanding between the attorney and client of the need for further representation regarding the specific subject matter un-derlying the malpractice litigation.  The continuous representation rule is especially pointed in patent matters because patent prosecution activities take place over long periods of time with sequential periods of inactivity.

Protostorm’s principals were never unequivocally told that ATS&K and Hogue would no longer represent Protostorm.  Rather, the attorneys’ oral conversations with Proto-storm’s principals left them with the impression that their attorneys would be taking care of PCT procedural requirements and that Protostorm should expect nothing to happen with re-spect to patent prosecution for an extended period of time.

Faced with these mixed factual messages, the Court could not grant summary judgment in patent counsel’s favor on statute of limitations grounds.  Had a closing letter been written, however, a statute of limitations defense may well have been a dunk shot for dismissal of Protostorm’s malpractice claims…”

  1. “Do not assist non-practitioners or non-lawyers in preparing and filing patent ap-plications;…you should know the USPTO credentials of those with whom you are col-laborating on patent matters in order to protect yourself from aiding and abetting the unauthorized practice of patent law. The involvement of unsupervised, non-patent practitioners in the preparation and filing of the second provisional patent application cast a large dark cloud of legal uncertainty over Protostorm’s PCT patent application.  While it may be tempting to work with a client’s slicing and dicing arrangements re-garding patent application preparation, doing so can lead to the untoward facts that characterize this case.  According to ATS&K’s ethics expert witness…(the) unauthorized filing of a second provisional patent “by itself, would have severely reduced if not elim-inated the likelihood that any patent would have been ever been enforced in litigation or otherwise.”

Legal Malpractice Insurance
There are two lessons here:
*You can’t predict when you’ll be sued for malpractice, so the only way you’ll always be covered is to buy malpractice insurance when you first open your practice, and renew it every year that your practice remains open.

As long as you do this, your coverage will be retroactive to the inception date of your first policy, i.e., you’ll get another year of Prior Acts coverage with each renewal. Then, if you’re sued for work that you did on or after the inception date of your first policy and before the inception date of your current policy, your Prior Acts coverage will obligate your insurer to protect you (subject to the policy’s exclusions, etc.)

Conversely, if you don’t renew your policy one year, then you’ll lose all of your Prior Acts coverage; the next policy that you buy will provide coverage for any errors or omissions that you commit only on or after the inception date and on or before the expiration date.

In this case, the work was done in 2000 and 2001, and the suit was filed in 2007, so the firm would’ve been covered only if it had coverage in effect on both dates, and had re-newed it every year in between.

*Make sure your policy limits are adequate. Even small firms in practice areas that generate high-value malpractice claims, i.e., Patent/IP, Securities, and Plaintiff’s Med. Mal., need policies with multi-million dollar limits. This is partly because the malpractice policies available to them have “eroding limits”, whereby the insurer deducts legal fees and costs from the policy’s per claim limit as it pays them, which reduces the amount available to pay any settlement or judgment. If the per claim limit is used up before the claim is resolved, then the firm must pay all additional defense costs and any judgment or settlement out-of-pocket.

Of the damages awarded in this case, the $6.7M in compensatory damages and $1M+ in pre-judgment interest would generally be covered by malpractice insurance, if the policy limit was sufficient, and for that to be the case, the limit would had to have been $7.7M plus legal fees, which were likely over $1M, given that the litigation lasted for seven years and the case was tried to a verdict.

In other words, the firm would have needed a policy with a per claim limit of at least $9M, and more likely $10M to be fully covered for this claim. That’s a high limit for what appears to be a small firm, and would carry a high premium, but the alternative is to fund a multi-million dollar judgment out-of-pocket.

Legal Malpractice Insurance: No Coverage For Fines Against Your Client Due To Your Wrong Advice

PenaltiesThe Federal Trade Commission (FTC) announced that Leucadia National Corporation has agreed to pay $240,000 in civil penalties to resolve allegations that it violated federal pre-merger reporting laws by failing to report a conversion of its ownership interest in Knight Capital Group, Inc.

Background

According to the FTC “in July 2013, Knight Capital consolidated with another financial services company, GETCO Holding Company, LLC to become KCG Holdings, Inc. That transaction converted Leucadia’s ownership interest in Knight Capital into nearly 16.5 million voting shares of the new entity, KCG Holdings, worth approximately $173 million.”

The FTC filed a complaint charging that Leucadia was required by law to report the transaction to U.S. antitrust authorities under the Hart-Scott-Rodino Act, which require parties to “notify the FTC and the Department of Justice of large transactions above certain dollar thresholds that affect commerce in the United States and otherwise meet the statutory filing requirements.”

Failure to Report

The FTC announcement stated that “Leucadia did not report the transaction, according to the complaint, because it thought that it qualified for an exemption applicable to institutional investors. Although Leucadia consulted experienced HSR counsel in connection with the transaction, their counsel erroneously concluded that the exemption applied. Leucadia made a corrective filing in September 2014, acknowledging that the acquisition was reportable under the HSR Act.”

Penalty

Although “Leucadia relied on the advice of counsel, the FTC determined to seek civil penalties because…Leucadia had previously violated the HSR Act in 2007, which led to a corrective filing in 2008.”

Note: the HSR Act provides that “any person, or any officer, director, or partner thereof, who fails to comply with the Act’s provisions shall be liable to the United Stated for a civil penalty of not more than $10,000 for each day during which such person is in violation of the Act.” (Paragraph 31). Leucadia’s filing was about 425 days late, which would yield a maximum fine of $4.25M.

LESSONS
Legal Malpractice

Assuming Leucadia’s assertion that it relied on faulty advice from counsel in failing to report the transaction to the FTC on time is true, it would be entitled to seek reimbursement from counsel for the penalties levied against it.

One way to do that would be to file a legal malpractice claim. If it did, would the law firm’s malpractice insurer indemnify it, i.e., reimburse Leucadia for the $240,000 penalty that it paid?

Legal Malpractice Insurance

If the law firm admitted to providing the faulty advice, it’s malpractice policy would hopefully respond, because all elements of a legal malpractice claim would have been satisfied: an attorney-client relationship existed, so the attorney owed a duty to Leucadia; the attorney breached that duty by misinterpreting the law; Leucadia’s incurred damages as a result, i.e., the $240,000 penalty; and the attorney’s improper advice was the proximate cause of Leucadia’s damages.

(Since the FTC stated that Leucadia’s prior violation of the HSR Act led it to seek civil penalties  for this violation, that can be argued to be a contributing cause, but if the attorney had given the proper advice, the FTC wouldn’t have levied a penalty.)

Unfortunately, legal malpractice policies wouldn’t cover this claim, i.e., the policy of Professionals Direct, which is owned by Hanover Insurance Co., a major legal malpractice insurer, excludes coverage for “any claim for fines, sanctions, penalties, punitive damages or any damages resulting from the multiplication of compensatory damages”.

Further, while the policy of CNA, the largest legal malpractice insurer, contains no such exclusion, the insuring agreement states that the insurer will “pay on behalf of the Insured all sums in excess of the deductible that the Insured shall become legally obligated to pay as Damages.” The words in bold type are defined in the policy: “Damages do not include: B. civil or criminal fines, sanctions, penalties or forfeitures, whether pursuant to law, statute, regulation or court rule.”

Gap in Coverage

The intent of legal malpractice policies is to not cover penalties levied against a law firm. In this case, the penalties were levied against the firm’s client, yet the wording of the policies excludes coverage.

Remedy

A law firm that handles matters that expose its clients to government penalties, should request that its malpractice policy be endorsed to provide coverage for claims that may arise out of those matters; this would entail altering the wording of that part of the policy that excludes coverage, i.e., an exclusion or the definition of “damages”.

Final Note

This coverage issue would be moot if Leucadia’s attorney was working for a law firm that has a Self-Insured Retention (SIR) of $250,000 or greater per claim on its malpractice policy, as many large firms do, because an insurer won’t handle a matter, and thus won’t make a coverage determination, until the SIR has been exhausted.

If the amount in question here, $240,000, fell within antitrust counsel’s SIR, then the law firm would handle the matter itself, and decide whether or not to reimburse Leucadia.

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Legal Malpractice Insurance Deductible: Understanding Your Options

Legal Malpractice Insurance DeductibleThis is the second in a series of posts that will analyze various aspects of legal malpractice cov-erage; today, we’ll examine the various types of legal malpractice insurance deductibles a law firm can purchase.

I. Legal Malpractice Insurance Deductible: Loss & Expense – the deductible applies to both indemnity payments (loss) and defense costs, i.e., legal fees (expense). This is the most common type of deductible, and is found in nearly all legal malpractice policies.

Once a legal malpractice claim is made, and the insurer decides that it’s covered and assigns defense counsel, the firm must pay all indemnity and defense costs until the deductible has been fully paid. Only then will the insurer begin paying. As a practical matter, the payments made by a firm are nearly always for defense costs, as few legal malpractice claims are settled without some defense costs first being incurred.

II. Legal Malpractice Insurance Deductible: Loss Only – the deductible applies only to any judgment or indemnity payment, but not to defense costs. It’s also called “First Dollar Defense”, because the insurer pays defense costs from the first dollar, rather than the firm paying those costs until its deductible is exhausted, as with the Loss & Expense Deductible above.

When a legal malpractice lawsuit is filed, defense costs are always incurred before an indemnity payment is made, and in many cases, no indemnity payment is made, be-cause the suit is dismissed with prejudice or defeated via a Motion for Summary Judgment.

In those instances, a law firm that has a Loss Only Deductible wouldn’t pay any de-ductible, making this an attractive coverage feature. However, insurers charge extra premium for this coverage. Here’s an example from a policy that we recently placed:

Deductible: $5,000
Deductible applied to loss only: Premium = $5,791
Deductible applied to loss and defense costs: Premium = $5,294

In this case, the insurer charged about $500 more – almost 10% – for the loss only deductible.

In our opinion, an additional charge of about 6% of the premium is fair in most cases. Anything less than that is inexpensive; anything more, as in the example above, is ex-pensive. At our recommendation, the firm declined the loss-only deductible option.

Note: the higher a firm’s deductible, the more insurers will charge for a “Loss Only” deductible, because the more they’ll pay for defense costs if the firm is sued.

III. Legal Malpractice Insurance Deductible: Annual Aggregate – the firm pays its per claim deductible – both loss and claim expenses – each time it incurs a claim, up to the annual aggregate, which is the maximum amount that it’s responsible for during the policy period.

After that, no further deductible applies, no matter how many additional claims the firm incurs during the rest of the policy period.

This may be an attractive coverage for firms that incur a high frequency of losses, depending on how much additional premium the insurers charges.

Legal Malpractice Insurance: Beware of “Eroding Limits”

Legal Malpractice Insurance Defense CostsThis is the first in a series of posts that will analyze various aspects of legal malpractice coverage. Today, we’ll examine how a firm’s legal malpractice insurance policy limits are af-fected by claim expenses, if it’s sued for malpractice.

First, note that many people erroneously use the term “de-fense costs”, when they actually mean “claim expenses”. “Claim expenses” is the term that most legal malpractice insurers use in their policy. Most of them define it very broadly, i.e., Markel Insurance Company: “fees charged by an attorney designated by the Company, and all other fees, costs, and expenses re-sulting from the investigation, adjustment and appeal of a “Claim”, “Suit”…”

Defense costs, a/k/a/ legal fees and costs, are the most common type of claim expense. Other examples are interest on judgments, the cost of appeal bonds, etc.

Claim expenses are either “inside” or “outside” the policy limit:

“Claim Expenses Inside the Limit” (COIL) means defense costs are deducted from the limit, leaving that much less for indemnity costs. A policy with this provision is known as an “eroding limits” policy. This is the narrowest coverage, and is standard in most legal malpractice policies.

“Claim Expenses Outside the Limit” (CEOL) means defense costs aren’t deducted from the limit, so the entire per claim limit is available for indemnity costs, and there is no limit on defense costs. This is the broadest coverage.

A firm whose coverage is ‘COIL’, could have its entire per claim limit wiped out by claim expenses, leaving it to fund any additional claim expenses and any settlement or judg-ment out-of-pocket. It thus needs to buy a higher policy limit than a firm whose policy has CEOL coverage. However, while a higher policy limit may offset a COIL policy’s “eroding limits”, it carries a higher premium.

Why doesn’t every firm avoid this by buying a CEOL policy? Because it often can’t: mal-practice insurers are reluctant to offer a policy without eroding limits, since it has no limit on defense costs, which exposes insurers to potentially millions of dollars in such costs.

Most policies have CEIL. A law firm can request a policy with CEOL, but the insurer may not provide it, and if it does, it will raise the premium, perhaps beyond the firm’s budget.

A few insurers offer a modified version of CEOL, i.e., a policy with a separate limit for defense costs. Example: if a firm buys a policy with a $500K/$1M limit, it may receive a separate $500K limit for defense costs, leaving its entire per claim limit of $500K avail-able to pay any judgment or settlement. If defense costs exceed $500K, the separate limit will be used up, and any further defense costs will be paid out of the per claim limit; however, few claims incur over $500K in defense costs. Modified CEOL is less expen-sive than full CEOL, but isn’t widely available.

Legal Malpractice Insurance: Claims-Made Coverage, Part 5 of 5: How It Affects Your Premium

legal malpractice insurance how claims-made coverage affects premiumYour firm’s malpractice premium de-pends on its attorney count, areas-of-practice (AOPs), claims history, geo-graphic location, etc., your chosen policy limit and deductible, your insur-er’s claims experience with the other law firms it insures and its lines of coverage it underwrites, its overhead, investment returns, etc.

Yet, independent of all of these, legal malpractice premiums reflect the fact that they’re underwritten on a claims-made basis, as discussed in our prior posts, rather than on an occurrence basis, as most lines of property-casualty insurance are.

The exposure under a new claims-made policy increases sharply each year, i.e., con-sider Lawyer Bill, who purchased a malpractice policy when he began practicing in 2000, and has had continuous coverage since then.

The risk that Bill will be sued for malpractice in his first year of practice is low, since he likely has few clients, and he would have to make a mistake, which would then have to be discovered, and cause damage, and result in a suit all within that year. 

However, in each subsequent year, Bill will likely have more clients and harder cases; he thus has more opportunity to make mistakes that injure his clients, and that they discover and sue him for.

Together, these factors increase his risk of being sued for malpractice each year. Insur-ers call this “increasing prior acts exposure”, with “prior acts” meaning those committed in previous policy years. For example, if Lawyer Bill started his practice on 1/1/2000, and bought a legal malpractice policy effective January 1, 2000 – December 31, 2001, he’ll have no prior acts exposure; if he renews it on January 1, 2001, then he – and his in-surer – will have one year of prior acts exposure: January 1, 2000 – December 31, 2000. Further, each year he renews the policy will add another year of prior acts exposure.

To accurately price this increasing exposure, insurers charge a lower premium in the first year of coverage, and apply “step-rate” factors in calculating the renewal premium each year, which result in higher premiums, independent of all other factors, i.e., changes in the firm’s attorney account, practice areas, etc., the insurer’s investment returns, etc.

Step-rate increases cease when the policy is deemed to have reached maturity, which for most attorneys is after five years of coverage, during which they cause a firm’s premium to approximately double.

After that, whether the firm’s attorneys have five years or 50 years of prior acts cover-age, it doesn’t affect the premium, because although their adding new clients, and thus new risks each year, their risk of being sued by former clients decreases as the statute of limitations from early cases tolls. Thus, the overall risk of a malpractice suit remains constant.

Legal Malpractice Insurance: Claims-Made Coverage, Part 4 of 5: Avoiding Gaps

Legal Malpractice Insurance Avoiding Claims Made Coverage GapsLast time, we saw how switching malpractice in-surers can create a gap in a law firm’s coverage, when a claim scenario such this arises:

I. The Great law firm bought a legal malpractice policy from Big Insurer effective January 1, 2012 – December 31, 2012, and renewed it for January 1, 2013 – December 31, 2013, and January 1, 2014 – December 31, 2014, but switched to Huge Insurer on January 1, 2015.

II. A Great lawyer represented client Smith from February 15, 2013 – May 1, 2014. On March 5, 2015, Smith notified the Great firm that he planned to sue it for malpractice. The firm reported the claim to Big Insurer on March 9, 2015, and then to Huge Insurer.

Both insurers denied coverage: Big Insurer, because the claim was reported to it after its policy with the Great firm had expired (December 31, 2014), as had the 60-day grace period to report claims after the policy expiration date (March 2, 2015), and Huge Insur-er, because the wrongful acts occurred before its policy with the Great firm had begun.

How could the Great firm have avoided this gap?

I. Buy an Extended Reporting Period (ERP) endorsement from its former insurer (Big Insurer), which would allow it to report claims for 1 – 5 years or in perpetuity after ter-minating its coverage, depending on which option it buys.

The endorsement “applies only to claims first made against you and first reported to us on or after the policy termination date”December 31, 2014 in this example – and “the claim (must arise out of) an act or omission occurring prior to the end of the Policy Per-iod”, – again, December 31, 2014 – and on or after the policy’s retroactive date – January 1, 2012 in this example.

What would’ve happened if the Great firm had bought the ERP endorsement, even for one year?  Let’s apply the 3-condition test:

Condition #1: the wrongful act(s) that gave rise to the claim occurred between February 15, 2013 – May 1, 2014, the period of representation, which is after the policy’s retro-active date of January 1, 2012. Pass.
Condition #2: the claim was made on March 5, 2015, after the Great firm’s policy term-ination date of December 31, 2014, but the 1-year ERP extends the period in which claims can be made against it to January 1, 2015 – December 31, 2015. Pass.
Condition #3: The firm reported the claim to Big Insurer on March 9, 2015, which be-cause it bought the ERP, is within the allowable reporting period of January 1, 2015 – December 31, 2015. Pass.

Conclusion: assuming no policy exclusions, etc., apply, this claim is covered under the Great firm’s legal malpractice policy with Big Insurer.

However, ERP coverage is expensive, typically 125% of the annual premium for a one year ERP, rising to 300% for a perpetual ERP.

Also, whatever limit is left on the expiring policy carries over to the ERP. If/when that limit is exhausted by defense costs and indemnity payments made by Big Insurer to resolve malpractice claims, the Great firm will have no further coverage under that policy, even if it bought a multi-year ERP that still has years to go. In other words, buying an ERP doesn’t buy fresh policy limits. 

Further, the Great firm would still have to buy a policy to cover it for any malpractice that it commits after 12/31/14.

II. Buy Prior Acts coverage from its new insurer, i.e., Huge Insurer, which resets the policy retroactive date to before the inception of coverage, i.e., back to when the Great firm first had continuous coverage, which is January 1, 2012, when it bought its first legal malpractice policy from Big Insurer.

This would be the retroactive date of its policy with Huge insurer, if it bought Prior Acts coverage; otherwise, it would be the same as the policy inception date of January 1, 2015, i.e., it would have no retroactive coverage.

Now let’s apply the 3-condition test to the above claim scenario:
Condition #1: the wrongful act(s) that gave rise to the claim occurred between February 15, 201 – May 1, 2014, which is on or after the policy’s retroactive date of January 1, 2012. Pass.
Condition #2: the claim was made on March 5, 2015, during the current policy period of January 1, 2015 – December 31, 2015. Pass.
Condition #3: The firm reported the claim to Huge Insurer on March 9, 2015, which is during the same policy period in which it was made. Pass.

Conclusion: the Great law firm is covered for this claim is under its policy with Huge Insurer, subject to any policy exclusions, etc.

Further, Prior Acts coverage costs less than an ERP, and is generally the better choice for law firms that switch malpractice insurers.

Note: Insurers won’t provide Prior Acts coverage unless the insured attests that it’s unaware of any pending claims against it, or of any incidents that could lead to a claim, i.e., an adverse outcome or a missed statute of limitations. If it is aware of a pending or potential claim, it must disclose that on its application, and the new insurer won’t cover it.

Thus, Huge Insurer would deny coverage for the above claim if client Smith had threat-ened to sue the Great firm for malpractice prior to 1/1/15, Great’s first day of coverage with Huge, or if the Great attorney who worked with Smith knew before that date that he/she had made an error that could result in Smith making a claim.

In either case, the Great firm should have immediately reported Smith’s threatened or potential suit to Big Insurer, its malpractice insurer at the time.

Legal Malpractice Insurance: Claims-Made Coverage, Part 3 of 5: Gaps

Legal Malpractice Insurance Claims-Made Coverage GapsPreviously, we discussed how claims– made policies differ from occurrence policies, and the conditions that must be satisfied to trigger coverage under a claims-made policy, which is what all legal malpractice policies are. 

We also mentioned how attorneys’ lack of understanding of how claims-made cov-erage works can cause a gap in their malpractice insurance, i.e., a denial of coverage for a claim, which would require them to fund their defense of the claim out-of-pocket.

There are two gaps to be aware of: claim-reporting, which we discuss in this post, and  switching legal malpractice insurers, which we’ll discuss today.

Law firms switch insurers often, sometimes because their incumbent insurer provided poor service or mishandled a claim, but usually because the new insurer offered better terms.

This claim scenario will illustrate how a coverage gap is created: the Great law firm bought a legal malpractice policy from Big Insurer effective January 1, 2012 – December 31, 2012, and renewed it for January 1, 2013 – December 31, 2013, and January 1, 2014 – December 31, 2014, but switched to Huge Insurer on January 1, 2015. A Great lawyer represented client Smith from February 15, 2013 – May 1, 2014, but didn’t do a great job: on March 5, 2015, Smith notified the Great firm that he planned to sue it for mal-practice. The firm reported the claim to Big Insurer on March 9, 2015; will Big Insurer provide coverage?

Previously, we presented three conditions that must be met for a claim to trigger cover-age under a claims-made policy.

Let’s apply them to this scenario:

Condition #1: the wrongful act(s) that gave rise to the claim occurred between February 15, 2013 – May 1, 2014, the period of representation, which is after the policy’s retro-active date of January 1, 2012. Pass.
Condition #2: the claim was made on March 5, 2015, which was after the Great firm had terminated its coverage with Big Insurer. Fail.
Condition #3: The Great firm reported the claim to Big Insurer on March 9, 2015, which is after it had terminated its policy. Fail.

Can the Great firm obtain coverage by reporting the claim under the 60-day grace per-iod that most insurers allow after a claims-made policy is terminated? No, because this would’ve allowed it to report this claim by March 2, 2015, but it didn’t report it until March 9, 2015. Fail.

Conclusion: the claim isn’t covered under Great firm’s legal malpractice policy with Big Insurer.

It then reported the claim to its new carrier, Huge Insurer; will it provide coverage? Let’s apply the three-condition test:
Condition #1: the wrongful act(s) that gave rise to the claim occurred between February 15, 2013 – May 1, 2014, the period of representation, which is before the Great firm’s policy’s retroactive date of January 1, 2015, its first date of coverage with Huge Insurer. Fail.

Conclusion: no coverage.

The Great firm thus has no coverage for this claim under either its prior or current pol-icy, so it will have to fund its defense and any monetary settlement out of its and/or its partners’ assets.

Next time, we’ll examine how it could’ve avoided this.

Legal Malpractice Insurance: Claims-Made Coverage, Part 2 of 5: Triggers

Legal Malpractice Insurance Claims-Made Coverage Triggers

In our last post, we discussed how legal malpractice and other professional liability policies are underwritten on a claims-made basis, and how such policies differ from occurrence policies.

Today, we’ll analyze the different conditions that must be met for a claim to trigger cov-erage under an occurrence and claims-made policy.

Occurrence v. Claims-Made Coverage Trigger
Occurrence coverage is triggered (activated) based on when the incident that led to the claim took place; if you had a policy in effect on that date, then it will be triggered no mat-ter when the claim is made, even if it’s years later.

Claims-made coverage is triggered primarily by the act of reporting a claim to your in-surer; you must have a policy in effect on that date in order to have coverage.

However, that is only one of three conditions that must be met for your coverage to be triggered:

1) The wrongful act(s) that gave rise to the claim must have occurred on or after the policy’s retroactive date – the date you began uninterrupted coverage with your insurer.
2) The claim must be made against you during the current policy period, i.e., while you have a policy in effect with that insurer.
3) You must report the claim to your insurer during same policy period in which it was made, i.e., your current policy period.

Thus, subject to its definitions and exclusions, a claims-made policy covers claims for wrongful acts that occurred on or after the date you began uninterrupted coverage with your insurer, and that are made against you and reported by you to your insurer during the current policy period.

Example:
Attorney Doe bought his first malpractice policy for the period of January 1, 2013 – December 31, 2013, and renewed it for January 1, 2014 – December 31, 2014, and January 1, 2014 – December 31, 2015.

On May 1, 2014, he missed a statute of limitations deadline for client Smith. On April 1, 2015, Smith notified Doe that he was going to sue him for malpractice. Doe reported the claim to his malpractice insurer on April 15, 2015. Assuming no policy exclusions, etc., apply, will his coverage be triggered?

Condition #1: The wrongful act that gave rise to the claim occurred on May 1, 2014, which is after the policy’s retroactive date of January 1, 2013, the first date of Attorney Doe’s uninterrupted coverage with his insurer. Pass.
Condition #2: the claim was made on April 1, 2015, which is during the current policy period of January 1, 2015-December 31, 2015. Pass.
Condition #3: Doe reported the claim to his insurer on April 15, 2015, which is during the same policy period in which it was made. Pass.

Conclusion: the claim triggers Doe’s legal malpractice policy.

To review, a claims-made policy covers claims that are made against you and reported by you to your insurer during the current policy period, for acts you committed on or after the date you began uninterrupted coverage with that insurer.

Once that policy period ends, you’ll have no further coverage under that policy, either for claims that you don’t yet know about, i.e., those that’ll be made in the future, or those that you do know about, but didn’t report to the insurer during the policy period*.

This is how insurers achieve what Fischer called “greater actuarial certainty” that they’re not “on the hook” for any claims that are made after an insured’s policy period ends: they don’t cover them.  

However, if you renew your policy, you’ll be covered for claims that are made against you and reported by you during that policy period; further, at the start of the new policy period, most insurers will allow you to report claims that were made against you at the end of the prior policy period, but that you haven’t yet reported.

In contrast, an occurrence policy covers claims based on when the underlying wrongful act(s) took place, which in this example is May 1, 2014. Thus, if legal malpractice cov-erage was still underwritten on an occurrence basis, and Attorney Doe had such a policy in effect on that date, then it would respond to Smith’s claim no matter when he made it.

Now, we’ll analyze a more complex example:
Attorney Doe bought a malpractice policy for the period of January 1, 2013 – December 31, 2013, and renewed it for January 1, 2014 – December 31, 2014, but didn’t renew it for 2015. She represented client Smith from February 1st, 2013 – December 15, 2013. On December 28, 2014, Smith notified Doe that he was going to sue her for malpractice. Doe reported the claim to her malpractice insurer on January 5, 2015. Assuming no pol-icy exclusions, etc., apply, will his coverage be triggered?

Let’s apply the three-condition test:
Condition #1: The wrongful acts that gave rise to the claim occurred during the period of representation, from February 1st, 2013 – December 15, 2013, which is after the pol-icy’s retroactive date of January 1, 2013, the first date of Attorney Doe’s uninterrupted coverage with her insurer. Pass.
Condition #2: the claim was made on December 28, 2014, during the then current pol-icy period of January 1, 2014 – December 31, 2014. Pass.
Condition #3: Attorney Doe reported the claim to her insurer on January 5, 2015, after the end of the policy period in which it was made (January 1, 2014 – December 31, 2014). Further, Doe didn’t renew her policy, so she didn’t have a policy in force with that insurer when she reported the claim. Therefore, this condition hasn’t been satisfied, and the insurer could deny coverage. However, most insurers allow a grace period, i.e., “We will provide 60 days after the policy termination date for you to report any claims to us (for) professional services (that were) rendered prior to the end of the policy period”. Here, the policy termination date is December 31, 2014, so Doe has until March 2, 2015 to report this claim. Pass.

Conclusion: the claim triggers Doe’s legal malpractice policy.

Our next post will explain how a claims-made policy can cause a gap in your coverage, i.e., a denial of coverage for a claim, which could put your assets at risk if you’re sued.

*We’ll discuss exceptions to this in a future post.

Legal Malpractice Insurance: Claims-Made Coverage, Part 1 of 5: vs. Occurrence Coverage

Legal Malpractice Insurance Claims Made v OccurrenceFor decades, all property-casualty insurance polices were occurrence policies, which cover claims that arise out of incidents that happen during the policy period, regardless of when the claims are made. For example, if your auto pol-icy runs from January 1, 2016 – December 31, 2016, and you rear-end another car dur-ing this period, you’ll be covered if the other driver sues you, evens if it’s not until years later, long after your policy has expired.

Most property-casualty insurance policies – i.e., auto and homeowner’s, general liability and workers compensation, – are still underwritten as occurrence policies; however, ac-cording to Fred Fischer’s “A Review of the Modern Claims Made Form”, insurers con-cluded that the occurrence policy was inadequate for professional liability insurance, i.e., medical and legal malpractice policies, because unlike a driver who’s rear-ended or a homeowner who sustains a fire, “rarely are clients immediately aware of a (profession-al’s) wrongful or erroneous actions… because (they) seldom cause immediate injury… (they) may not manifest in client injury until long after”.

As a result, when professional liability insurers were deciding what premium to charge a doctor, lawyer, etc., who had applied for a policy, they had to forecast a) the likelihood that one or more of the doctor or lawyer’s clients would discover an injury and file a claim against him or her after the policy had expired, and b) the costs they would incur to re-solve such claim(s); their forecasts were usually inaccurate, so the premium they had charged often failed to properly reflect the risk they had assumed by providing coverage.

In other words, they were paying out too much money to resolve claims relative to the premiums they had charged, and were therefore either losing money or not earning enough profit.

Insurers’ desire for “greater actuarial certainty” that no claims would be made after an insured’s policy period ended was a key factor in the search for alternatives to the oc-currence policy. This search culminated in the development of the claims-made policy in 1964; by 1976, “claims-made policies and the number of carriers offering them flour-ished”.

Today, all professional liability insurance policies are claims-made, although they’re more accurately called “claims-made and reported” (see next post).

However, despite its widespread use, the claims-made policy still confuses many pro-fessionals, including attorneys, who think that once they buy it, they’re covered forever. This can result in their being denied coverage for a claim because they didn’t comply with their claims-made policy’s strict claim-reporting requirements, or cause a gap in their coverage if they change insurers or jobs, which will put their personal assets at risk if they’re then sued for malpractice.

We’ll explain these claim reporting requirements – and how to avoid coverage gaps – in future posts.