Perils and Pitfalls of Claims-Made Policies

While general liability policies protect business owners from the common risks of premises and operations exposures, professional liability is typically not covered under a general liability policy. Instead, professional liability is the subject of errors and omissions or professional liability policies.

General liability policies can be written on a “claims-made” basis, but are usually written on an “occurrence” basis. Conversely, professional liability policies are typically written on a “claims-made” basis. Other specialty coverages, such as employment practices liability insurance, may also be written on a claims-made basis. Although some states have questioned the enforceability of claims-made policies on public policy grounds, they are recognized as enforceable under Texas law.

Claims Must be Made and Reported During Policy Period
Unlike the standard CGL policy, a professional liability policy typically does not provide coverage for bodily injury or property damage. Moreover, while an occurrence policy provides coverage for damage that occurs during the policy period, regardless of when the claim is made or suit is brought, claims-made policies are far more restricted.

Under a typical claims-made policy, a claim must be both made and reported during the policy period before coverage will attach. In some instances, conduct giving rise to the claim must also take place during the policy period or during a designated retroactive period. This significant distinction between occurrence and claims-made policies leads to several perils and pitfalls that may foreclose coverage if claims are not properly monitored or reported.

Claim Need Not Be A Suit
A “claim” can exist before a suit is brought. Any formal demand for money, services or any other demand for something by “right” will constitute a claim, either under the policy definition or under Texas common law. Therefore, even a frivolous or ridiculous demand, which later gives rise to a suit, must be reported when made or it may later deprive the insured of coverage.

Knowledge of a Potential Claim May Be Sufficient
Failure to report potential claims in an application may provide the basis for rescission, if based upon a material and knowingly false misrepresentation. Without reaching that extreme, however, an insured’s unintentional failure to report potential claims may affect coverage. Many claims-made policies require that an insured report circumstances that may give rise to a claim. Alternatively, many policies exclude claims arising from circumstances known to the insured, which involve a breach of duty or could reasonably be foreseen to give rise to a claim, prior to inception of the policy period. Where an insured has knowledge of a breach of duty — even if the potential claimant does not yet know the circumstances — the potential claim may need to be reported or coverage may later be precluded.

The foreseeability of a claim is usually evaluated on an objective, rather than a subjective, basis. It is the existence of the claim, not the likelihood it will be asserted, that is significant. So, even if a long-standing relationship or other circumstances make it unlikely that a particular client would pursue a claim, the exclusion or condition may be invoked.

Many newer policies have specific provisions for reporting potential claims. Moreover, if coverage is maintained with a single insurer, there are often special provisions for potential claims which are reported in one period, but do not result in a claim until a later period. In addition, an extended reporting period is usually available automatically or for an additional premium.

The extended reporting period only extends the time to report the claim, not the period in which the conduct must have occurred. An insured with knowledge of a potential claim should take care when replacing coverage to make sure these provisions are in effect, and avoid a gap in coverage.

Late Notice Can Defeat Coverage
Because the insuring agreement in a claims-made policy typically requires that the claim be reported during the policy period, notice after the policy period — regardless of when the conduct took place or when the claim was initially made — will not give rise to coverage.

Unlike an occurrence policy where timely notice is a policyholder duty, claims-made policies include notice within the policy period as part of the insuring agreement. Thus, notice after the policy period will result in a denial.

Most claims-made policies also require notice of a claim “as soon as practicable.” Moreover, while most general liability policies are subject to a Board Order, incorporated into the policies, providing that coverage cannot be denied unless prejudice to the insurer results, the Board Order requiring prejudice does not apply to professional liability policies. Therefore, late notice, even within the policy period, may create a defense to coverage.

Intentional Conduct May Not Be Covered
Traditionally, professional liability policies covered “acts, errors or omissions” in a given profession. Under this terminology, intentional conduct, as long as it involved professional services, was typically covered. More recently, however, policies have been modified to cover “negligent acts, errors or omissions.”

A number of courts have held that the addition of “negligent” modifies and narrows coverage, and precludes coverage for intentional torts. Even in older policies, however, not all intentional conduct is covered, as there are typically exclusions for dishonest or fraudulent activity.

Summary
While professional liability policies are not standard, and each must be evaluated according to the circumstances of a particular claim and the language of the specific policy, there are a number of common elements. Most of the litigation involving claims-made policies involves timely reporting, or application of the exclusions or limitations for prior knowledge of a potential claim.

In addition to failure to report, issues often arise where one member of an organization has knowledge of a potential claim, or circumstances that may give rise to a claim, but fails to share this information with the member providing coverage. Therefore, exposure under claims-made policies should be frequently evaluated, input about potential claims should be solicited, and claims and potential claims should be timely reported to preserve coverage.

Bradley is a partner in the Dallas office of Thompson, Coe, Cousins & Irons, L.L.P. She is a member of the Insurance Litigation and Coverage Section and leads the firm’s coverage practice. She has represented agents in disputes with policyholders and insurers and routinely represents insurers in evaluating and litigating coverage issues under general and professional liability policies, commercial auto and trucking policies, commercial property policies and homeowners policies.

Topics Claims Professional Liability