Top 10 ways for California surplus line brokers to avoid E&O exposures

Editor’s note: Although this article is geared toward California surplus line brokers, with small variations the same advice may be of help to surplus line and retail brokers in other states.

Surplus line brokers aren’t bullet-proof against lawsuits, but there are simple steps they can take to become bullet-resistant. Errors and omissions avoidance usually consists of equal parts good sense and good business practices. Yet mistakes happen, even in the best-managed and most professional firms. Litigation is harsh hindsight, and will magnify small discrepancies in front of 12 citizens, many of whom have no prior experience with surplus lines and whose concept of an “insurance placement” is a TV ad featuring a gecko, caveman or duck during the Super Bowl.

What can the broker do to help those jurors find in his or her favor a year from now?

Following are 10 suggestions:

1. Rigorously follow surplus line placement statutes. Some cases have held that failing to abide by the law and regulations that govern surplus line placements can give rise to what lawyers call “negligence per se,” which means the broker is presumed to be at fault if the law was not followed. This presumption is rebuttable — defense counsel can call an expert witness to testify that the broker met the standard of care — but jurors may have a difficult time getting past the idea that the judge has instructed them that the broker is presumed to be at fault. The best defense is to avoid the pitfall altogether by complying with the applicable surplus line laws and regulations.

2. The deposition subpoena: An invitation to be joined as a defendant.A brokers’ first introduction to a coverage lawsuit often comes by way of a subpoena, rather than a summons. It is a perverse sort of relief when a broker isn’t named as a defendant — yet. The plaintiff’s counsel will want to look at the broker’s files and maybe take his or her deposition. Big deal, right?

Actually, it is a big deal. The subpoena is sometimes only the “coming attraction,” and if the broker responds to it without good legal advice, chances are he or she will be in the case to the “end credits.” An E&O policy may provide coverage to pay for an attorney to assist a broker through the subpoena process, even when no one has (yet) made a claim against him or her.

3. File documentation can be a best friend or a worst enemy.
At the end of a trial, the jury retires to deliberate and the citizens take with them their memories of the testimony and of the judge’s instructions. But like any memories, those will be imperfect and colored by each juror’s dispositions. The only immutable evidence, and the last thing the jury may consider, is the broker’s file, or at least those items from the file that have been admitted into evidence.

Just as first impressions are important, final impressions are vital. What will the file say to the jury about an office’s professionalism? Whether it speaks well or ill for the broker, it will speak louder than any witness, any expert and any impassioned closing argument by counsel.

Defense depends on a communication that is well-documented in the file, in keeping with the usual practice, making that document a best friend. If the document doesn’t exist or is unclear in conveying what was said, it is a worst enemy. Some professionals, and not just brokers, treat their files as if they were personal diaries and fill them with overly candid comments, off-color jokes, and the like. In a coverage lawsuit that file is a library book, not a diary.

4. Know who the client is.
That sounds simple enough, but a recent California case held that in some limited circumstances, a surplus line broker has a duty toward his client’s client, strange as that may sound. There usually is no duty to procure coverage for the benefit of a particular claimant who may sue the insurance applicant; after all, the broker usually has no idea who the claimant might be or what kind of claim will be brought. On rarer occasions, a policy or an expansion of coverage is purchased specifically so that the applicant will qualify to be awarded a contract with an identified third party. The tip is to not give that third party’s creative lawyer a reason to sue.

5. For whom is the broker an agent?
Most of the time, the broker’s duties run only to the applicant, so he or she is an “agent” (legal word) of the applicant, as opposed to an “Agent” (insurance word) appointed by the carrier. Sometimes though, the broker wears both agency hats, and has different duties toward the applicant and the carrier.

Surplus lines brokers, who are typically wholesalers, may feel a loyalty to their preferred markets, regardless of how a lawyer might parse out the agent/Agent distinction. It is important to bear in mind that when something goes wrong in a placement, the applicant will think of the broker as working for him or her, even if the two have probably never met.

6. Broker fees disclosures.
The relatively new California regulations haven’t been around long enough for a lot of interpretations to occur. Although they expressly apply to auto and liability coverage for individuals, there has not yet been a case in which an individual who is insured under a policy issued to a company has complained about broker fees. That scenario may be a bit far-fetched, but it is only a matter of time before a policyholder or consumer advocacy group argues that incomplete disclosure of broker fees is an unfair business practice.

The producing broker, being in direct communication with the applicant/ insured, is in a far better position to disclose all fees that are charged. In fact, the disclosure form prescribed by the California Insurance Department makes it fairly clear that it is the producer’s job to disclose all fees, not just his or her own. To steer clear of this entire issue, surplus line brokers may want to give written notices to their producers that the producers are expected to make the written disclosures and obtain the applicant/insured’s written consent. It may be the proverbial “stitch in time.”

7. Accurately represent policy coverage and limitations.
This is a no-brainer that nonetheless sometimes gets overlooked. Policyholders and even producers sometimes want to have surplus line carriers’ policies explained to them. If an explanation is given, be sure that it is accurate. Otherwise, someone may claim that the broker “misrepresented” the coverage.

8. Understand hold harmless/indemnity clauses in agency agreements.
Although surplus line brokers are truly “brokers,” that is, representatives of the applicant, some are also “agents,” having written agency contracts with certain insurers. If a broker gets sued and the problem was caused by the carrier, the broker can sometimes save himself and his E&O carrier a lot of money and headaches by tendering defense and indemnification to the carrier under the agency agreement, assuming that it has a “hold harmless” or indemnity clause for protection. Even if there is no such clause, the broker may be entitled to statutory indemnity under the Labor Code if his activities are sufficiently controlled by the carrier to make him an “employee” — even though he may think he is an independent contractor. There is no rule of thumb that will apply in all cases, but by checking out contractual and legal indemnity rights early in the case, the broker may find that the financial impact of being sued can be reduced considerably.

9. Training administrative staff.
Office staff, whether licensed or not, can lead to some of the worst E&O claims: the phone call requesting a change in coverage that doesn’t get from the receptionist to the broker, the policy that is sent out with a form cover letter that was written for a different policy form. Those sorts of errors cost little to prevent, and a lot to fix.

10. Not all policies are the same.
Surplus line brokers face a daunting array of new policy forms from the broadening non-admitted market. A policy that is a better fit for an insured in one area (such as a lower deductible) may be a worse fit in others (broader exclusions, perhaps).

Surplus line brokers have an amazing ability to keep track of the changing markets and the changing terms of coverage. Following the adage, “know your product,” is the best advice to avoid problems in this area.

Even with the best preventive measures, there will be lawsuits against brokers. Court filing fees aren’t high enough to act as a deterrent, and there is no shortage of lawyers willing to file suit on even tenuous grounds. But following these 10 tips should help surplus line brokers become more bullet-resistant in their professions, so that they will spend less time with lawyers.

Louie Castoria is the immediate past chairman of the Northern California Chapter of the Professional Liability Underwriting Society and co-chairs the PLUS Events Subcommittee. He is a partner in the San Francisco office of Wilson Elser Moskowitz Edelman & Dicker LLP, and heads the professional liability defense practice in that office. E-mail: louis.castoria @wilsonelser.com.

Topics Lawsuits California Carriers Agencies Legislation Excess Surplus