Legal Malpractice Insurance: Why Your Premium Doubles In The First Five Years

Legal Malpractice Insurance: Why Your Premium Doubles In The First Five Years

Many attorneys are surprised when, a year after buying their first malpractice insurance policy, their renewal pre-mium rises 20% – 30%, even though there was no material change in their practice, and they didn’t incur a claim. 

This post will explain why that hap-pens, not just at the first renewal, but also at the second, third, and fourth.

All legal malpractice and other professional liability policies are “claims-made”, whereby coverage is triggered by the filing of a claim against the insured lawyer or other profes-sional, i.e., the lawyer must have insurance in place on the date that the claim is made, for it to be eligible for coverage.

One of the least understood aspects of claims-made insurance policies is ‘step-rating’, which insurers implemented in recognition of the fact that there’s usually a lag of several years between the time an attorney commits an error and the time the client makes a claim. Step-rating allows insurers to match the premium they charge to the risk of a claim being made.

With step-rating, the premium is relatively in low the first year of a claims-made policy, i.e., an attorney’s first year with a firm, because there’s little risk that the attorney will incur a claim, i.e., handle a case and make an error and have the client file a claim all during the one-year policy period. This is true whether an attorney just passed the bar or has been practicing for decades with other firms.

After the first year, the premium increases in each of the next four years, to match the increasing risk that the attorney will incur a claim. This increased risk is due to the at-torney’s increasing “prior acts” exposure, which refers to malpractice claims that arise out of work done prior to the current policy period.

In an attorney’s first year with a firm, i.e., Year 1, there’s no prior acts exposure, because the attorney hasn’t done any work for the firm in past years that may result in a claim. Further, as noted, the work the attorney does during the first year is unlikely to result in a claim being filed during that year.

In Year 2, there’s a year of prior acts exposure from Year 1’s work; in Year 3, there’s two years of prior acts exposure, etc.

Step-rating increases stop after Year 5, because an attorney’s prior acts exposure stops increasing, as the statute of limitations tolls on cases from three and four years ago, which offsets the risk of a claim arising out of more recent cases. Thus, the overall risk of incurring a malpractice claim remains more or less constant after Year 5, and remains that way for as long as the attorney remains with the firm. That obviates the need – or justification – for further step-rating increases.

In other words, an attorney with, say, 30 years of prior acts exposure, has about the same malpractice claims risk as an attorney with six years of prior acts exposure, be-cause they have about the same probability of incurring a malpractice claim, i.e., very low, because few malpractice claims are filed 6 – 30 years after an attorney makes an error.

Here’s an example of step-rating:

Year 1 – 50%______________

Year 2 – 60%__________________________

Year 3 – 72%___________________________________

Year 4 – 86%___________________________________________

Year 5 – 100%_________________________________________________

Here, the Year 1 premium is 50% of the “ultimate” step-rating premium, i.e., a 50% dis-count, which is reduced each year as the attorney’s prior acts exposure increases. As noted, after five years, the prior acts exposure reaches equilibrium, and the attorney is considered to be “mature”, so the increases stop.

Note: each insurer uses different step-rating factors, which may differ from those shown above. Some insurers even spread the increases out over six or seven years. However, as a guideline, most insurers’ step-rating increases will cause an attorney’s premium to increase 2 – 3 times over the first 5 – 6 years that he/she works for a firm, independent of other factors that affect the premium, i.e., the policy limits and deductible, the firm’s  practice areas, revenues, claims history, etc., and macroeconomic factors, such as in-flation and interest rates. Also, keep in mind that most insurers calculate a premium for each of the firm’s attorneys and a premium for the firm, and blend them to get the final premium.

While step-rating applies to all attorneys, solo practitioners buying their first malpractice policy will especially notice the increases, particularly in the first three years (Steps 2 – 4), when the increases are larger and the base premium is smaller, but won’t be affected by them again after five years, i.e., once they’re considered to be “mature”.

Conversely, a multi-lawyer firm will experience a step-rating increase in its premium for each attorney who’s in year 2 – 5 with the firm. Therefore, if it adds new hires every  year, it’ll incur a step-rating increase every year, since barring a mass exodus of recent hires, at least one of its attorneys will always be in year 2 – 5 of his/her tenure with the firm. However, if most of the firm’s attorneys are “mature”, and thus not subject to a step-rating increase, then the step-rating increase it does incur may not be noticeable amid the other factors that affect the premium.

So, if you’re a solo practitioner, expect a 20% – 30% increase in your malpractice insur-ance premium in each of the first five or six consecutive years that you’re covered, solely due to step-rating, although as noted, your actual premium may increase more or less than that if your practice areas, policy limits, etc., change.

If you’re an owner of a multi-lawyer firm, expect a step-rating increase in your premium in any year in which your roster includes one or more attorneys who’ve been with the firm for less than six years, although it’s effect will be diluted by your “mature” attorneys, i.e., those who don’t receive a step-rating increase.

You can see a visual representation of step-rating in the diagram at the top of the page. The premium increases each year in years 2 – 5, as the prior acts exposure increases. 

The Retroactive Date, which is the inception date of the first malpractice policy the firm  purchased and has renewed each year without interruption, never changes, but the prior acts exposure increases by one year each year the policy is renewed. As noted, that drives the premium increase in years 2 – 5. As also noted, step-rating increases stop after five years, because the risk of incurring a claim levels off, as the SOL tolls on older matters.

Your legal malpractice policy has a Retroactive Date for the firm, and for each attorney the firm subsequently hired. The Retroactive Date for the firm and every attorney who’s with it on the day it buys its first malpractice policy, is the inception date of that policy, as long as it renews it without interruption. For all attorneys hired after that, it’s their date of hire.

Your insurer uses these dates to calculate any applicable step-rating increase when it determines your firm’s renewal premium.

Keep in mind that if your firm switches malpractice insurers, it’ll lose all of its prior acts coverage, unless the new insurer offers it the same Retroactive Date that’s its prior insurer did. Insurers do this routinely, because otherwise firms wouldn’t switch insur-ers, but your firm needs to make sure that its new insurer does so.

Finally, consider increasing your firm’s policy limits as its Prior Acts exposure increases, i.e., when you renew your policy for Year 3. This is especially important if you chose a minimum limit policy in Year 1, as your firm will have ‘outgrown’ it by Year 3.  

Legal Malpractice Insurance: You Don’t Know What Kind Of Law You Practice, And It’s Raising Your Premium

Legal Malpractice InsuranceIf you tell a thousand lawyers they don’t know what kind of law they practice, one will likely chuckle; the other 999 will grimace, scowl, or maybe bite you. But as a legal malpractice insurance broker who reviews applications every day, I can tell you that many lawyers really don’t know, as these examples attest:

I. The Securities Lawyer Who Should’ve Invested In a Better Job Description

 A “Big Law” firm attorney who was opening a solo practice, wrote “100%” next to “Securities Law” on the practice areas grid of his application. However, he answered “not applicable” to the questions on the securities law supplemental application, which ask about capital-raising transactions, mergers and acquisitions, etc., that an attorney has worked on.

As a result, we advised him that it may be possible to reclassify his practice, which would save him money, because securities lawyers pay among the highest legal malpractice insurance premiums. For example, while most lawyers pay between $2,000 and $4,000 for a policy with a $1M limit, we had recently procured coverage for a solo securities lawyer who focuses on debt and equity placements: the best quote for a policy with $1M limit was $6,500. The attorney’s silence upon hearing this suggested that this was much more than he had budgeted.

Fortunately, further discussion revealed that his solo practice would be limited to providing regulatory advice to investment funds. We had him change his practice area on his application to “Other – 100%”, and describe his practice on his firm’s letterhead.

This enabled us to procure a policy for him that had a $1M limit for $5,100.

II. The Debt Collection Law Firm That Owed an Explanation

A debt collection law firm had its malpractice insurance non-renewed due to “high claims frequency”.

A local insurance agent sent its application to several major malpractice insurers, all of whom declined to offer a quote. The agent then told the firm that it would have to obtain coverage in the “hard-to-place-risks” market, where the premiums are 50% – 100% higher.

This led the firm’s founder to send us its application. Its malpractice claims history consisted of four lawsuits and three incidents (potential claims) in the last seven years, for which its insurer’s payout + reserve for future payouts was nearly double the amount the firm had paid in premiums. Malpractice insurers clearly wouldn’t view the firm as a good risk.

However, there was good news amid the bad: the four lawsuits were brought by individual debtors, who sued the firm under the Fair Debt Collection Practices Act (FDCPA), while the three incidents involved commercial debtors, who can’t sue under the FDCPA. Further, the last FDCPA claim had been filed three years ago, and all three incidents involving commercial debtors had occurred since then. This suggested a change in the firm’s practice.

The firm’s founder confirmed that he began de-emphasizing consumer debt collection in favor of commercial debt collection after the last FDCPA claim was filed. Currently, the practice was 80% commercial debt collection v. 20% consumer, the opposite of what it had been three years ago.

In other words, this wasn’t a debt collection firm, but a commercial debt collection firm. It thus had little exposure to FDCPA claims, which are the biggest malpractice risk for debt collection lawyers.

We had the firm fill out the application of the only major legal malpractice insurer that distinguishes between consumer and commercial debt collection, and procured a policy for it that provided the same coverage as its non-renewed policy for a 2% increase in premium.

III. The Business Law Firm That Had No Business Describing Its Practice the Way It Did

A Business Law firm sent us what appeared to be a routine application: its practice was a mix of business entity formation; small, private company purchases/sales; commercial litigation, and general business law, i.e., drafting and negotiating commercial contracts.

Further, it reported no malpractice claims history, no suits against clients for unpaid fees, and acceptable risk management procedures, i.e., regular use of engagement letters, dual-calendar docket control, a conflict-of-interest avoidance system, etc.

Given the firm’s the risk profile, and the fact that its current policy was expensive relative to the coverage it provided, we anticipated that we would be able to procure a policy for it that provided more coverage for a lower premium…until we discovered this sentence on its website: “we’ve handled complex business matters worldwide, and have affiliates in some of the world’s busiest and most exotic locales”.

This was news to us, because according to the firm’s application, the most exotic locale that it practiced law in was Cleveland. Further, the complexity of international law practice can increase a small firm’s malpractice claims risk so much that many insurers will either add a surcharge to the premium or decline to offer a quote.

When we explained this to the firm’s managing partner, he stated that it hadn’t worked on an international matter in several years, and didn’t expect to in the near future, so the statement on its website was similar to “puffery”.

We explained that malpractice insurers would regard any information on the firm’s website as indicative of its current practice, and recommended that it remove any non-current information.

Once this was done, we procured a policy for the firm that provided a 50% increase in policy limits for a 16% lower premium.

 

Curtis Cooper is a legal malpractice insurance broker, and principal of Lawyers Insurance Group Broker For Great Law Firms, in Washington, DC, which helps law firms optimize their malpractice coverage. He can be reached at 202-802-6415 or ccooper@lawyersinsurer.com.                                                                                                                                                                        

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 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.