The big picture: The problems with professional liability insurance

Thomas Berman discusses why the US professional liability insurance marketplace has changed little in 20 years

Changes in the professional liability arena are sometimes hard to discern in the United States. In fact, since the fibreboard cases in the 1970s and 1980s when professional liability policy forms were changed, there has been little observable alteration in the way that the industry writes the business and the way that lawyers perceive or comprehend the professional liability insurance world.

This isn’t really an indictment of the insurance industry or law firms, but rather a commentary on the way that lawyers view their own professional liability coverage and their level of sophistication related to their coverage. Of course, because '¨of the dreary economic picture, the past few years have been an aberration of sorts.

But, in most firms of 30 lawyers or less (and many with a '¨lot more), there is unfortunately a dearth of understanding regarding professional liability insurance coverage. Fundamentally, many lawyers fail to comprehend that they may be sued for malpractice. Even some that have suffered that sling and arrow still believe that they are impervious to another claim.

Consequently, lawyers are looking to pay as little as possible for their coverage and usually shop for it as they would for auto insurance. Those of you who have worked with larger, more sophisticated entities may find this hard to believe, but it is nonetheless true.

Years ago, when providing CLE for lawyers through both live and video sessions, the audience was asked how many had actually read their professional liability insurance policy. Being basically honest persons (and having no one watching them), out of a total of about 3,000 lawyers, in four different broadcasts, in four different venues (San Francisco, Los Angeles, San Diego and Sacramento, California), a total of about 30 hands went up.

Obviously, some didn’t care to raise their hands, but still it points to the view of insurance coverage which lawyers generally assume: disregard coverage until it’s needed. That being the case, what have the past few years brought us in '¨the world of professional liability insurance coverage?

Coverage levels

For those of you who may be looking for solutions or even dispositive information on the subject of coverage levels (such as how much is enough and what should we pay?), this article may lead to disappointment. To begin with, there is not now, '¨nor apparently has there ever been, a real formula (mathematical or otherwise) to determine what a particular '¨law firm’s coverage level should be.

Even being the hyper-litigative nation that is the United States, the level of insurance coverage needed for a particular practice class has never really been put to bed. In fact, the '¨one question that law firms can be counted on to ask is ‘do '¨you think we have sufficient coverage?’ or ‘what do you think our coverage level should be?’

It would be assumed somehow that a law firm dealing '¨with a high-risk area of practice needs higher levels of coverage, but, again, what level should that be? If there is no sure and certain answer to that question, then asking a question about the impact of the recession on coverage levels and decisions that law firms make regarding their coverage issues is even more problematic. Let’s look at the questions and see if there are some answers to be found.

Lawyers, quite reasonably, seek the advice of brokers regarding coverage levels. Most brokers will make a survey '¨of a firm through its application form and suggest what the '¨level might be. Insurance comes generally in standard '¨packages such as 1M/1M or 2M/2M or 5M/5M (each occurrence and aggregate coverage) and, of course, larger amounts in other non-standard markets (Lloyd’s being one).

For this article, 22 different insurance websites were researched. The best answer to the question ‘how much coverage do I need?’ was ‘there is no magic formula for determining appropriate limits’. And that’s the truth.

So, let’s just assume that there is no really good '¨answer to the question. There are of course standard '¨elements including the categories of practice area, type '¨of law (plaintiff or defence), amount of money involved '¨in common case assignments and so forth.

However, most professionals in the industry will tell you, '¨if asked, that the real costs involved with insurance today '¨have to do with defending a claim. That’s again a sidebar, because most lawyers have no idea of the industry itself '¨and why companies ask for a certain amount of premium '¨for a certain level of insurance.

In fact, lawyers that have been insured for $1m pay '¨as much as $100,000 (per lawyer), while other lawyers in '¨the same community with a similar practice area pay $3,000 (per lawyer) for the same coverage. Of course, the first firm '¨had claims and the second did not. Still, one wonders.

The fact is that levels of coverage and resultant premiums – even those regulated by the individual states – will vary considerably and, adding in the surplus lines carriers (those that have not officially filed their rates with the individual states), lawyers are left with an unregulated (yet) regulated market. Even if you do pay attention, it is a fairly blurry world with '¨which to cope.

And, for the past four years, coping has been the operative word for a great many law firms. The recent Dewey & LeBoeuf implosion was said to have had its origins in a massive lawyers’ malpractice claim against the firm which, once settled, deprived the organisation of sufficient capital in which to continue in '¨its practice.

Other law firms have faced similar circumstances. Some simply disappear off the landscape and others are picked to bits by firms in the region. Not every firm has suffered economically, however. Some firms in fact have risen while others have fallen.

It’s all relative

Professional liability coverage levels and costs, like many '¨other things, are relative to the position of the firm. The list '¨of firms that have not made it through this economic downturn is growing steadily and the number of firms that have lowered their coverage levels by virtue of nothing other than economic necessity has risen considerably.

In some jurisdictions, insurance of this type is required by law. In others, it is difficult for a broker to make a case for having it in the first place and it is certainly not required.

Notwithstanding other matters raised earlier in this article, the reality is that many lawyers, like everyone else and like '¨any other business entity, want to protect themselves from '¨a disaster (even if they feel that it won’t happen to them). '¨For that reason, even though they may have little idea of '¨how much coverage is appropriate, they do know or '¨believe that they know what they can afford.

Often, because of that, the issues involving coverage '¨are defined by what is seen as an appropriate premium level. ‘We don’t want to spend more than $X dollars – what kind '¨of coverage can we get?’ is a fairly common question asked '¨of a broker in any market at any time.

Thus, when the budget lines are redrawn downward '¨(in tough times), the question posed lowers the level of premium to $Y dollars instead of $X dollars and whatever '¨the market will bear is then what the firm will acquire. If '¨there have been professional liability claims, then the situation may very well deteriorate, with the law firm having far less coverage than anyone would think is necessary.

In fact, in the current market there seems to be two absolutely divergent directions. Since the market remains '¨soft (like the euro’s stability: inexplicable) for firms without claims, the cost of professional liability insurance remains '¨static or has gone down.

However, for those law firms unlucky enough to have suffered claims and, even worse, been non-renewed by their current insurer, the roof has collapsed on top of those firms '¨and rates have quadrupled.

Lack of clarity

Law firms rarely approach their professional liability insurance needs from a position of clarity, making determinations based upon an internal analysis of the risks they may run in handling their business.

Firms handling public offerings (if those still exist) are generally considered to have greater risks and therefore require higher coverage levels. Firms handling ordinary business affairs have, in the past, been generally considered to carry less risk. Larger law firms of 100 or more in population were, for many years, considered to be a safer bet than smaller mid-sized law firm entities (tell that to the underwriters who are out of business because of the inaccuracy of that supposition).

During the past three or four years, however, many general practice firms have been sued for the first time and many specialty boutiques have skated by unscathed. Real estate firms have become a special target for claims, but contingency fee law firms are probably no more nor less a target than they were back in 2007.

It’s very hard to read the lawyers’ market, the economics of the law practice, or the prospects for the insurance market over the next two years. Assumptions made by experts point to the market hardening, but that has been their position for the past three years and it hasn’t happened as yet.

The yardsticks that law firms use to draw up a plan of insurance remain the same, as well. ‘How much can we afford for something we will probably never use?’ remains an oft-quoted refrain, which has as little to do with reality of the practice now than it ever had. But, it remains as probably the single most significant assumption still in the mix.

tberman@bermanassociates.net