Avoiding Financial Catastrophes:Take Care When Procuring Agents E&O

Agents and brokers have spent a great deal of energy in recent years finding suitable insurance products for their clients. Not only has the marketplace become more complex, the typical insured has become increasingly more insurance savvy. This is due in large part to the litigious nature of society.

The typical agency takes little care when procuring E&O insurance coverage necessary and vital to the safety and well-being of the organization. The very advice agents give to their customers, “please read your policy,” is seldom personally heeded. Yet a working understanding of those simple-to-understand policies can prevent potential financial catastrophe.

Until about five years ago, some 30 or so carriers were writing agents E&O. The increasing number of lawsuits and amount of damage awards has left about a dozen companies in the market today that are willing to underwrite the segment. It is not uncommon for agents today to write both commercial and individual policies with multi-million dollar limits. A perceived or real mistake by the insurance-transactor can lead to very costly damage awards, or at the very least, large dollar defense costs.

In recent years, million-dollar claims are becoming all too common. Current statistics indicate that the annual E&O claims frequency has remained at about 1 in 12 for the past decade, with severity in the $50,000 range. In most instances, legal defense costs exceed damage awards. In nearly 75 percent of all cases, there is no award for damages.

Lawsuits happen regardless of negligence. More importantly, they must, in all cases, be vigorously defended.

That presents a viable argument for the necessity of agents E&O. On the surface, coverage limits of $500,000 might seem adequate. However, a limit of $1 million is more prudent, as the rate for the increased coverage is minimal.

The questions that are most often asked are, “Where do these claims come from, and what steps can I take to prevent them?” For the typical agency, E&O claims present themselves essentially from three distinct areas of the business. About one-third arise from the producers’ activities, one-third from the work of CSRs and one-third from claims adjustment.

In the first two instances, E&O claims usually occur because a producer does not insure the risk with proper coverage, or the producer fails to place or renew coverage in a timely manner or at all. It is unfortunate that the producing agent sometimes gets dragged into litigation based on the handling or ultimate coverage issue in a claims situation. However, it is not uncommon for all parties to be named as defendants should the matter give rise to a lawsuit.

It is a common misconception that lawsuits come about only from disgruntled insureds. About two-thirds of all agents E&O claims emanate from clients, with the remainder usually being brought by the issuing carrier. It also is not unusual that when both the agent and the company get sued, the company will refuse to tender a defense for the agent, and then will request indemnity for the company defense costs and award, if there is one.

More than ever, companies are holding agents to a high standard of conduct, usually detailed in the agency contract with the company. Violating the agency contract could lead to a lawsuit. That is one of the paramount reasons that companies have increased audit activities. While it is often said, “agency relationships are partnerships,” be aware that if a company pays a claims based on agent error, the agent may find himself or herself being asked to reimburse the company for the loss. When that is a result of a customer claim, it is doubly unfair, as agents traditionally have no claims settlement authority. Be sure and read the “indemnification clause” in the contract to fully understand the potential.

Remember, agency contracts, which were once prepared by marketing personnel, are now tightly drafted one–sided agreements written by attorneys. The “hold-harmless” and “indemnification” clauses contained within the agreement are carefully crafted to protect the company’s interests.

There are many things agents can do to lessen the likelihood an E&O claim.

First, review coverages with clients annually to see if there are situational changes requiring additional coverage needs. Create a coverage checklist that is kept in the policy file, and include notes of the conversation.

Carefully read the E&O policy, making sure you understand the policy limitations, limits, deductibles, and whether defense costs are subject to the policy deductibles and are “within” or “outside of” the coverage limit.

Ensure that the E&O carrier understands all aspects of the operation, as there may be some exclusions for certain types of activities: claims, acting as a TPA, wholesale operations, sub-agents, etc.

Understand the policy “retroactive date” and make sure that it covers the proper time periods needed.

Read and understand all agency contracts that exist with carriers, and have an attorney review the “terms of use,” “indemnification” and “hold harmless” provisions.

Clearly document by e-mail or memorandum that all claims authority is the responsibility of the carrier, and make sure that none of the agency staff render claims determinations or coverage decisions.

Handle claims reporting as thoroughly and as expeditiously as possible, providing clear and accurate documentation to the carrier. Do not attempt to dissuade a client from reporting a claim.

Respond to any regulatory complaint as accurately and as timely as possible. Keep responses concise and on point. Save all documentation in the policy file.

If there is potential for an impending E&O claim, immediately report it to the carrier. Do not try to settle it, and do not ignore it.

Reinforce all of the above by holding an informational meeting a few times per year.

Insurance agents E&O is a tricky business, and rates will continue to rise in the years ahead. The best way to minimize costs associated with coverage is for agents to be knowledgeable and diligent in handling their own insurance, giving it the same amount of attention and detail afforded their clients.

Stephen Schwartz is CEO for King Insurance Support Systems, Program Administrators for AIG and CNA.