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Navigating the Claims-Made Legal Mazeby Libby Benet and Don Curtin, Gen Re

ContentsDefining the Terms 1

The Notice Prejudice Rule 2

Unique State Laws 2

New York, Maryland and Wisconsin 2

More on Notice Conditions—Texas 3

Impact on LPL Insurers 3

Gen Re’s LPL Team 4

About this NewsletterCreated for our clients, our Insurance Issues publication series provides an in-depth look at timely and important topics on insurance industry issues. To speak further with Gen Re about any issues discussed here, please contact your Treaty or Facultative representative—or anyone on our LPL team (see back page).

Timely reporting is a foundation for “claims-made and reported” coverage common in the Lawyers Professional Liability (LPL) marketplace. Whether a coverage trigger or a condition precedent in the Conditions section of the policy, timely notice is a common requirement for coverage. Rates, terms and underwriting decisions are based on the timely reporting premise, so insurers are unpleasantly surprised when they cannot enforce it.

Yet, this is what some insurers may be facing in a growing number of states. Earlier this year the Maryland high court did not allow an insurer to walk away from a claim that was reported after a clear time limit in the policy conditions had passed. A New York case is now testing a “claims-made and reported” trigger under its relatively new notice statute.

Will more states consider rewriting the claims-made agreement?

October 2011

Insurance Issues™

Defining the TermsBefore delving into the legal developments, let’s get a common understanding of the policy types and provisions. Insurers have several options for inserting a timely notice requirement. The method they choose will influence its effectiveness and ultimately whether they have to pay a late reported claim.

> “Claims-Made” or “Claims-Made and Reported”—The first distinction is whether the coverage is offered on a “Claims-Made” or “Claims-Made

and Reported” basis. In the former, the trigger of coverage is whether the claim is made against the insured during the policy period or extended reporting period. For the latter, there is a second trigger of coverage in that the claim must also be reported to the insurer during these or other specified time periods. Variations exist to blur the lines and create subcategories of coverage. For example, some policies may be labeled “Claims-Made” but then define a claim as made when it is reported to the insurer.

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Many LPL policies are “Claims-Made and Reported” so we focus on this type of coverage. The next issue is how the reporting requirement is enforced on the insured. A policy may be broadly considered “Claims-Made and Reported” but take different routes to apply the timely notice requirement.

> Trigger or Condition—Insurers can place the timely reporting requirement in the Insuring Agreement, where it operates as a trigger of coverage, or in the Conditions section, where it usually operates as a condition precedent or duty. Sometimes we have seen it located in both places.The relevance is this—failure to satisfy a trigger in the Insuring Agreement bars all coverage, but the same is not necessarily true for failure to satisfy a Condition. If the claim does not pass the trigger threshold, there is no coverage and no need to look further into the policy. In contrast, breach of a reporting Condition may or may not be strictly enforced to bar coverage for late notice. Some states view timely reporting as a promise or duty, the breach of which may not obviate all coverage. The answer will depend largely on the individual state law regarding late notice.

Most LPL “Claims-Made and Reported” forms contain timely notice language in the trigger, and a late reported claim is an uncovered claim. In general, the courts have agreed and challenges are quickly rejected. However, considerable litigation has been directed at testing the reporting requirements of “Claims-Made” coverage in general and, in particular, those policies that impose strict time limits in the Conditions section. Although the outcomes should not impact the trigger policies, the reality is not that certain or clear.

The Notice Prejudice RuleThe “trigger vs. condition” distinction matters because of the evolving law on late notice and prejudice. In the realm of occurrence policies, states have steadily moved toward a prejudice requirement for insurers. The insurer must have been prejudiced, or damaged, by a reporting delay before denying the insured all the benefits under the policy. As a result of court decisions and legislation, this “notice prejudice” rule is now the law in all 50 states. To date, actionable prejudice has centered on the ability to investigate and defend a suit.

What does this law mean for LPL “Claims-Made and Reported” policies? Such forms have traditionally been outside the prejudice law trend. A timely report is a coverage trigger in these policies, and generally the laws and courts recognize the distinction. Timely reporting is also part of the unique bargain inherent in Claims-Made coverage. Time limitations are traded for greater availability and affordability of protection. Therefore, as long as the trigger language is clear, courts have generally enforced it.

Unique State LawsPolicyholders frequently test “Claims-Made and Reported” triggers for weaknesses. The states most vulnerable to a challenge are those with notice-prejudice statutes and regulations that do not specifically exclude Claims-Made insurance or distinguish types of coverage, or do so with less than perfect clarity.

Eight states, to our knowledge, have codified or promulgated a notice-prejudice or reporting forgiveness rule: Maryland, Massachusetts, Michigan, Missouri, New York, Texas, Utah and Wisconsin.1 The Maryland statute, for example, reads:

§19-110. An insurer may disclaim coverage on a liability insurance policy on the ground that the insured or a person claiming the benefits of the policy through the insured has breached the policy by failing to cooperate with the insurer or by not giving the insurer required notice only if the insurer establishes by a preponderance of the evidence that the lack of cooperation or notice has resulted in actual prejudice to the insurer. (emphasis added)

Some of the state laws require prejudice while others forgive late reports if notice is given as soon as possible or practicable. Only one of the states—New York—makes explicit reference to “Claims-Made” insurance.

The New York law, §3420, draws on elements of several state statutes. The 2008 statute requires policies to include provisions that failure to give notice within the prescribed time period will not invalidate coverage unless there was prejudice to the insurer; and that Claims-Made policies are exempt from the former prejudice requirement, unless it can be shown it was not reasonably possible to give notice within the prescribed time and that notice was given as soon as was reasonably possible thereafter (“reasonably possible” proof). The Claims-Made language is found in the prejudice provision: “however, the policy may provide that the claim shall be made during the policy period, any renewal thereof, or any extended reporting period…”

It appears that the “Claims-Made” insurer need not show prejudice, but that the insured can avoid a late notice defense with proof it was “not reasonably possible” to report the claim in time. Subsequent regulatory guidance suggests that there is no intent to allow “a late claim under a prior policy period.”2 There is no reference to “Claims-Made and Reported” coverage.

Do these state notice laws apply to a “Claims-Made and Reported” policy? We are getting a few unexpected and sometimes unclear answers from the courts.

New York, Maryland and Wisconsin The first (and to our knowledge the only) New York appellate court decision on the issue came with little discussion. The case, McCabe v. St. Paul Fire and Marine Ins. Co., involved LPL coverage with a “Claims-Made and Reported” trigger.3 Notice was given to the insurer roughly three months after policy and ERP expiration. The New York Appellate Division panel held that the insured gave notice as soon as reasonably possible, so as not to invalidate the claim. No further explanation of this finding was provided. The court simply said that “contrary to defendant’s contention, Insurance Law Sec. 3420 (a)(3) and (4)—the latter being the ‘not reasonably possible’ requirement—do not include exceptions for claims-made insurance policies.” By this outcome, we surmise that “Claims-Made and Reported” are treated the same as a pure Claims-Made policy. We also infer that since the prejudice provision was not mentioned, the prejudice requirement did not apply to Claims-Made policies.

3Insurance Issues, October 2011

In June 2011, the New York Court of Appeals accepted this decision for review. The question presented is: whether the [not reasonably possible] notice requirement applies to the reporting requirement contained in a claims-made policy such that coverage exists even though the claim was reported to the insurance company only after the policy period expired. Since the case involves a “Claims-Made and Reported policy,” we expect that the court will clarify the late notice rules for all E&O insurers.

In Maryland, the state’s highest court delivered an opinion that has generated more questions than answers. The Maryland case Sherwood Brands, Inc. v. Great American Ins. Co. tested a combined D&O and EPLI policy.4 The Coverage Agreement applied to claims first made to the insured during the policy period, but reporting to the insurer was addressed in the Conditions section. The Notice of Claim provision stated that, as a condition precedent to recovery, the insured give notice during the policy period or within 90 days thereafter. Two EPL claims were made during the policy period but reported well after the 90-day period expired.

The Maryland statute quoted earlier provides that an insurer may not disclaim coverage on the basis of late notice unless the insured has “breached the policy” and the delay “resulted in actual prejudice to the insurer.”5 After a long discussion of triggers and conditions, and “pure Claims-Made” versus “Claims-Made plus reporting,” the court reached its decision. The statutory notice-prejudice rule applied to the reporting requirement in the Conditions section of a claims-made plus reporting policy. The late report “breached” the policy’s notice condition and triggered the statute. The court distinguished reporting triggers, because those policies were not “breached” if the insured never got past the insuring agreement.

That outcome might lead LPL insurers to conclude that “Claims-Made and Reported” triggers are safe from the notice-prejudice rule in Maryland. It is not clear however. The case turned on a reporting condition, and references to “Claims-Made and Reported” triggers are not on point or clear. We would still be reasonably confident that “Claims-Made and Reported” triggers are not impacted but the decision has been read differently by attorneys within and outside Maryland. One attorney involved in the litigation commented that the ruling applied the notice-prejudice rule to all “Claims-Made and Reported” coverage, whether a trigger or condition policy.

As for other states in our group, a federal appellate court applied the Wisconsin notice-prejudice statute to a “Claims-Made and Reported” policy.6 Massachusetts courts have consistently refused to apply their notice-prejudice rule to “Claims-Made and Reported” policies.7 There is no law directly on point in Missouri or Michigan, although existing Michigan law suggests that reporting triggers are enforceable.8

The bottom line is this: In at least three states insurers may not be able to enforce a reporting trigger without a showing of prejudice. Hopefully insurers will not have to wait too long before receiving definitive guidance.

More on Notice Conditions—TexasOne last issue to consider is what happens when a claim is reported within the policy time period but still well after the policyholder knew of it and could have notified the carrier. The Texas Prodigy case provides one variation and outcome.9 The insured reported the claim within the D&O policy’s three-year discovery period and additional 90-day grace period. The policy also made notice “as soon as practicable” a condition precedent to coverage. The insurer believed that a 19-month delay was not as soon as practicable.

The Texas Supreme Court held that a material breach and prejudice were required to avoid coverage of the claim, because “notice as soon as practicable” was not essential to the agreement. The court made clear that the basic reporting trigger was satisfied, and that its decision applied only to notice conditions. Reporting triggers were left intact.

The Texas decision gives LPL insurers comfort that their “Claims-Made and Reported” policy will be enforced. The ruling also reinforces the value of building any desired reporting time limits into the Insuring Agreement rather than Conditions.

Impact on LPL InsurersIt all comes down to location—location as to state, and location as to placement of reporting language in the policy. Are you writing in the three key states with potentially adverse law, or in the handful of states with prejudice statutes that might someday generate challenges? If not, the trend may be of interest but not compelling enough to require underwriting modifications. Are your reporting requirements part of policy triggers or conditions? An insurer stands a much better chance of enforcing notice time limits embedded in the Insuring Agreement.

It all comes down to location—location as to state, and location as to placement of reporting language in the policy.

Insurers active in the key notice-prejudice states just have to be aware of the issues and uncertainties. They may not be able to “close the books” in all states when the reporting period ends. Claims professionals have to know when they cannot summarily disclaim coverage for a late report. The finality and predictability so central to the “Claims-Made and Reported” LPL insurance is eroding in some states and may not be available to help you.

What can be done in a competitive marketplace when some courts don’t mind rewriting your policy trigger? Policy wording

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© 2011 General Re Corporation, Stamford, CT

This information was compiled by Gen Re and is intended to provide background information to our clients, as well as to our professional staff. The information is time sensitive and may need to be revised and updated periodically. It is not intended to be legal advice. You should consult with your own legal counsel before relying on it.

The difference is…the quality of the promise®

options exist, but it is difficult to predict how they will fare in all states. For example, could an insurer take the approach of defining a “claim made” in terms of the date reported to the insurer? That is, if the sole trigger were notice to the insurer, would that language guarantee success? Such wordings worked in earlier Maryland cases and can be found in the market, but only the courts can provide the final answer. Underwriters might also consider the impact on risk loads and development patterns for reserving in problem states.

However they respond to the legal challenge, insurers have to live with the fact that “Claims-Made and Reported” isn’t always what the words clearly state. ■

DON CURTIN Treaty Account Executive and LPL Business Development Specialist Tel. 404 365 6805 dcurtin@genre.com

LIBBY BENET Specialty Lines Underwriting Manager Tel. 203 328 5012 ebenet@genre.com

DAVID ALLEN Underwriter Tel. 203 328 5113 dallen@genre.com

PHIL CLAY Treaty Account Executive Tel. 203 328 5541 pclay@genre.com

MARIA SLOWINSkI Treaty Account Executive Tel. 312 526 7546 mslowin@genre.com

RENATE JORDAN Treaty Account Executive Tel. 213 630 2409 rjordan@genre.com

JEREMY SCHOkORA Underwriter Tel. 312 207 5318 jschokor@genre.com

GEORGE BARSON Claims Branch Manager Tel. 203 328 5444 gbarson@genre.com

TIM FLETCHER Claim Executive Tel. 404 365 6804 tfletch@genre.com

Gen Re Lawyers Professional Liability Team

Endnotes1 See Maryland Ins. Code §19-110; Massachusetts Ins. Code §112; Michigan Ins. Code §500.3008; Missouri Reg. §100-1.020; New York Ins. Code §3420; Texas Board of Insurance Order No. 23080; Utah Ins. Code §31A-21-312; Wisconsin Ins. Code §631.81. Several state codes and rules require prejudice but exempt policies with a specified reporting time limit.

2 See New York Insurance General Counsel Opinion 09-06-08 and New York Circular Letter 26 (N.Y. G.C. Opinion 09-01-05).

3 McCabe v. St. Paul Fire and Marine Ins. Co., 2010 N.Y. LEXIS 685; rev. granted, 2011 N.Y. LEXIS 685. 4 Sherwood Brands, Inc. v. Great American Ins. Co., 2011 Md. LEXIS 80.5 Maryland Ins. Code § 19-110.6 Lexington Ins. Co. v. Rugg & Knopp, Inc., 1999 U.S. App. LEXIS 495.7 Chas. T. Main, Inc. v. Firemans Fund Ins. Co., 1990 Mass LEXIS 106.8 The Michigan Supreme Court has held that the “reasonably possible” statute does not apply to “claims-made” insurance, and there is more agreement on the point that prejudice is not required. Stine v. Continental Cas. Co., 1984 Mich. LEXIS 1052.

9 Prodigy Communications Corp. v. Agricultural Excess & Surplus Ins. Co., 2009 Tex/ LEXIS 111.

Elizabeth (Libby) Benet, JD, is a Senior Vice President and Gen Re’s Specialty Lines underwriting manager for Treaty and Facultative business in Stamford. Specialty Lines includes E&O, D&O and EPLI. Libby may be reached at Tel. 203 328 5012 or ebenet@genre.com.

Don Curtin is a Senior Vice President and Treaty Account Executive responsible for marketing Specialty Treaty business including Lawyers Professional Liability, Medical Professional Liability, Employment Practices Liability and other non-traditional Treaty lines. Don may be reached at Tel. 404 365 6805 or dcurtin@genre.com.

In addition to Don and Libby, please contact any member of our Lawyers Professional Liability Team with your claims-made or other LPL questions.