It is important to know the limitations of a Legal Malpractice or Lawyers’ Professional Liability Insurance (LPL) policy. Most Legal Malpractice Insurance Policies have three components in common. The key to avoiding the unexpected is to have a good understanding of all restrictions, provisions and costs at the time of purchase or renewal. The implications of these three components can wreak havoc on a law firm.
1. Beware of restrictions of prior acts coverage in policy definitions
It’s important to know if the current policy will cover prior acts. Asking probing questions can help avoid any potential gaps in prior acts coverage.
Just because a policy states, “full prior acts”, doesn’t necessarily mean it applies in all situations. It depends on how the claim is brought. Meaning, it varies per specific allegations and the individual named.
The definition of the Named Insured will have a direct impact on the extent of prior acts coverage. The typical roles discussed in the definition of “Insured” include:
Named Insured- This is the entity named in the Declaration Page.
Predecessor Firm- If Predecessor Firms are not specifically included in the definition of the Named Insured, an endorsement is needed.
Current owners, officers, and employees of the Named Insured- Prior acts coverage is usually limited to “act on behalf of” the Named Insured or any Predecessor Firm.
The “acts on behalf of” language has a big effect on what’s covered
Takes away coverage for any individual’s work for a former law firm– including any previous solo practice.
Eliminates coverage for “moonlighting” activities (outside professional services) unless sanctioned by the Named Insured as “pro bono” services.
It means no “career coverage” for any individual that may have had coverage for former firm activities– unless an endorsement is added for that individual. This could mean a major gap in coverage.
2. A legal malpractice insurance policy usually gives the insurance company control over the decision to settle a claim
Most professional liability insurance policies contain a modified Consent to Settle provision (also know as the “Hammer Clause”), which invokes a penalty if the Insured refuses to settle a claim (usually limited to the amount the insurer could have settled the claim plus defense costs, or some percentage of those amounts like 50%).
However, some insurers will firmly state that they require the Insured’s full consent to settle a claim. Because of its impact on professional reputation, it is important to have a policy with a true consent-to-settle clause that gives the law firm—not the insurance company—control regarding whether to settle. To learn more, read: https://www.ncmic.com/malpractice-insurance-guide/how-does-the-policys-consent-to-settle-feature-work/
You’ve just been notified that a long-time client is filing a claim against you. You are naturally offended, and moreover you are worried about how this will affect your firm. However, you know you keep meticulous records and that you did your due diligence with this client over the years. So, confident you did nothing wrong, you contact your malpractice insurer to seek advice on next steps. The insurer notes your explanation and assures you they will follow up soon.
You know you’ve made the right decision in having legal liability insurance to protect your name and the integrity of your business. You wait by the phone for the insurer to call with how to proceed with your claim. And then the insurer hits you with this bombshell…they’ve decided to settle on your behalf. But how can they do this? You worked hard for this client and achieved a good outcome. A claim payment will tarnish your reputation and increase your insurance premiums!
There must be something that stops the insurance company from going against your wishes. What about the consent-to-settle provision in your policy? So you start combing your policy for the part that says your full consent is required to settle a claim, and it’s nowhere to be found.
This scenario is not that uncommon. If you do not have a consent-to-settle clause giving you the final say in settling a claim, the insurer can invoke the hammer clause giving them the power to settle the claim–without your consent. How do you save yourself from this situation?
Understand your entire policy.
3. The limit of liability or amount of coverage you select is generally reduced by the cost of defense.
The American Bar Association’s Standing Committee on Lawyers Professional Liability Insurance publishes a report roughly every four years on claim data collected by 21 US and 10 Canadian insurers writing Lawyers Professional Liability Insurance. Nearly 70% of the US firms and 66% of Canadian firms included in the study had just 1 – 5 lawyers in the firm. The latest study looked at claims reported 2012 – 2015. The cost of defense to resolve claims was a key component of the study. The US totals:
The cost of defense to resolve claims
How does the policy apply defense costs against the limit of liability?
It is comforting to know the majority of claims reported in the study actually closed with no loss or defense payment on behalf of the insurer (it wasn’t clear in the study if the law firm had to pay a deductible). However, one third of the claims that did pay toward the cost of defense, 700 were in excess of $200,000.
Taking into consideration that most LPL policies written today include Claim Expenses Within the Limit of Liability (CEIL), there exists the possibility that a portion of a judgment or settlement could be uninsured. If those 700 policies in the chart above were written at a $1,000,000 limit of liability and $200,000 expended for defense costs, only $800,000 would actually be left to satisfy any settlement or judgment.
When thinking about how much professional liability insurance is needed, consider how the policy applies defense costs against the limit of liability. Look for a policy that pays Claim Expenses Outside the Limit (CEOL). This additional coverage is usually less costly than purchasing a higher limit of liability and offer some flexibility in fighting those claim allegations.
Taking the time to review the firm’s policy for these limitations will help avoid discovering this in the midst of a claim– when it might be too late to do anything about it.