By Elisabeth Boone, CPCU
published | www.roughnotes.com
Think twice about hyping yourself … you could end up defending a big E&O claim.
If you’re like most independent agents and brokers, you’re under intense pressure to set yourself apart from other agents, direct writers, and all those online vendors that are trying to take your business away. So you hire a youthful genius to create an eye-catching website and marketing piece that tout you and your firm as the experts, the specialists, the answer to all insurance questions.
Fast forward to a knock on your door. It’s your assistant, escorting a person you’ve never laid eyes on before, and he’s bearing a fat manila envelope. “Are you Mr. Expert Specialist?” He inquires. Somewhat baffled-who is this guy?-you reply, “Yes.” He hands you the envelope, says, “You’ve been served,” and waits while you sign a form with your trembling hand.
At the first of what will turn out to be many meetings with your E&O insurer’s lawyer, you discover that you’re being sued for a hefty sum because, in essence, you held yourself out as an expert to a client but somehow failed to deliver what the client expected based on your website and your handsome marketing brochure.
Think it couldn’t happen to you? Think again: It happened to one of the biggest brokers in the world, and it’s part of a trend that’s gaining ground across the country as courts increasingly hold agents and brokers to a tough new standard in regard to their duty to advise clients.
A case in point is the January 2014 decision by a Florida federal district court in Tiara Condominium Association, Inc., vs. Marsh USA, Inc., which trial lawyer Peter Biging says is “a clarion call to agents and brokers that a new world is upon us, and if you promote yourself as an expert and promise ‘risk management services,’ you’d better go in with your eyes wide open.” Biging’s practice focuses on professional liability cases, and his E&O work includes defending insurance agents and brokers and other professionals. He collaborates with and consults for Business Risk Partners, Inc., a managing general agency in Windsor, Connecticut, that specializes in arranging professional liability coverages including agents E&O.
A cautionary tale
The Tiara case, Biging observes, underscores in dramatic fashion the perils of over-promising and under delivering. Tiara Condominiums is a 43-story oceanfront tower located on Singer Island in Florida. The association Hhad secured a windstorm policy with limits of about $50 million through their broker, Marsh USA, who told them that the coverage was on a peroccurrence basis.
The condominium was severely damaged by two back-to-back hurricanes in 2004, and Tiara incurred costs of approximately $130 million to repair the damage. Although Marsh argued that full limits should be paid for both events, even this would have left Tiara $30 million short. And Tiara’s property insurer took the position that it should pay even less based on application of the policy’s coinsurance provisions.
When purchasing the coverage, the association’s insurance committee sought to reduce its premiums by using a two-year-old property appraisal. Although Marsh typically recommended that its clients obtain annual appraisals, it advised Tiara that it could use the two-year-old appraisal. Marsh also advised that Tiara could subtract the value of builtin unit fixtures they didn’t intend to insure. The committee had been advised by the appraiser that by using the two-year-old appraisal they likely were underestimating the building’s value by about 7% to 9%.
When Tiara fled claims for the hurricane damage, the insurer took the position that the association had significantly undervalued the property and threatened to apply the policy’s coinsurance penalty. At risk of facing an even steeper discount off its claim, the association negotiated a settlement for about $89 million, over $40 million less than it had paid to repair the damage.
The association then sued Marsh, which it had retained as its broker under a contract that said Marsh would be Tiara’s “exclusive insurance, risk management, and risk financing advisor and insurance broker.” The suit alleged breach of contract, negligent misrepresentation, breach of the implied covenant of good faith and fair dealing, negligence, and breach of fiduciary duty.
Marsh responded that the Tiara insurance committee was composed of several sophisticated businessmen who had access to the information provided by the appraiser and who nonetheless had specifically requested permission to use the two-year-old appraisal. Marsh also noted that its contract provided that “Marsh will not independently verify or authenticate information provided by you necessary to prepare underwriting submissions and other documents relied upon by insurers, and you will be solely responsible for the accuracy and completeness of such information …” In short, Marsh argued that Tiara knew full well that it likely was understating the building’s value in order to reduce its premium. Marsh correctly advised the insurance committee that it could do so. Yet Tiara was now blaming Marsh for its informed decision, made with full knowledge of the fact that it could be underinsured as a result.
The district court denied Marsh’s motion for summary judgment and scheduled the case for trial. The court said that by identifying itself as a “risk manager and financial risk advisor,” arguably Marsh had a duty to let Tiara know there was a risk that if they used the older appraisal, they would be underinsured and might incur a coinsurance penalty.
To the extent that a special relationship existed between Marsh and Tiara, the court said, the fact that Tiara’s insurance committee had access to the same information or could read the same policy language as Marsh “would not relieve Marsh from its obligation to provide a recommendation on what was the most prudent approach to protect Tiara’s insurance needs, and to warn of the financial consequences of diverting from that approach … [T]he burden was on Marsh, as the insurance expert in this equation, to share its professional judgment with Tiara and allow Tiara to make an informed judgment on the basis of that advice.”
The lawyer’s perspective
“What seems outrageous about this case is that the condominium association insurance committee was composed of intelligent people whose objective was clear: to reduce their premiums by using an older appraisal,” Biging observes. “They specifically asked their broker if they could do this, and nothing the broker told them was inaccurate. Nonetheless, when the suit goes to trial Marsh will be facing over $40 million in liability.”
This decision presents a big problem for insurance practitioners, Biging notes. In today’s highly competitive market, he comments, “Brokers find themselves in the position of having to promise ever more services to distinguish themselves in the marketplace. The courts are beginning to interpret these assertions as imposing a duty on the broker, even in cases like Tiara where the association’s insurance committee was composed of intelligent, sophisticated businesspeople who went into the situation with their eyes wide open. In light of this decision, brokers now must ask themselves: ‘Have I identified to the client every potential risk that could arise from the course of action it is pursuing?’ Failure to do so could have severe financial consequences under E&O coverage,” Biging asserts.
“In their contract with Tiara, Marsh used the phrases ‘risk manager’ and ‘financial risk advisor,’ ” he remarks. “That opened the door for the court to say: ‘When you make such promises, you should tell the client that it can use the two-year-old appraisal, but if it’s low, there’s a risk of incurring a coinsurance penalty.’ Just telling them-accurately-that they could use the old appraisal was not sufficient.
“I represent a number of insurance brokers who focus on the middle market,” Biging says, “and many use that kind of language in their client agreements to gain a competitive edge, including firms that don’t have a risk management division. They’re selling themselves as having special expertise to help clients navigate a complex marketplace, define appropriate coverages for them, and manage their risks. If you’re selling yourself that way, the courts are saying they’re going to hold you to a higher standard.”
Recent cases in other jurisdictions make it clear, Biging says, that courts are increasingly open to holding agents and brokers accountable for the assertions they make about their expertise and services. In February, a decision was issued by the New York State Court of Appeals in Voss vs. Netherlands Insurance Co. Involving a client who had purchased business interruption coverage. The broker supposedly had indicated he would help the client confirm annually that the coverage was sufficient. After several food losses had occurred to a faulty roof and it turned out the BI coverage was insufficient, the client sued the broker.
“Although the broker apparently had not reviewed the coverage annually and had not offered advice with respect to it as promised, the client regularly received her policies and under New York law had a duty to read them,” Biging explains. “Courts in New York have repeatedly said this creates a ‘conclusive presumption’ that you have accepted the coverage as received if you receive the policy without complaint.”
At trial the broker obtained summary judgment dismissing the claims against it. The court held that there were no grounds for finding that the broker owed a duty to otherwise advise or guide the client. The court also noted that none of the factors the New York courts consider to establish this greater duty of care was present in this case; these include the payment of additional compensation over and above commissions, interaction with regard to a specific coverage issue, or a long-standing relationship between the broker and the client.
On appeal New York’s highest court reversed the decision, finding that there was an issue of fact for the jury as to whether a “special relationship” existed based on the client’s and broker’s discussions about the adequacy of the business interruption coverage.
“This decision represents another warning shot,” Biging asserts, “because normally the courts in New York hold to the belief that it is the insured’s responsibility to figure out how much coverage is required, and it is not the broker’s responsibility to ensure that it is sufficient. In this case, however, the court was saying a jury could find that in fact the broker should bear responsibility for the inadequacy of the coverage because he allegedly promised and failed to provide updated advice on this issue. Normally,” he adds, “absent some specific kind of consulting agreement, one assumes that the insured would be best positioned to understand its business operations and identify the amount of business interruption coverage required.”
A growing trend
According to Biging, these cases are evidence of a growing trend, and the issue of whether a special relationship existed between a client and a broker is figuring more prominently in agent E&O cases. “In most states, the general rule is that the broker only has the duty to purchase the coverage the client has requested and to do so within a reasonable period of time,” Biging explains. “As the agent or broker, you generally don’t have a duty to advise as to limits, types of coverages, endorsements, and similar issues-unless you enter into a ‘special relationship’ or there are what the courts call ‘special circumstances.’
“In the above case, the court said that the broker’s representation that he would assist in confirming the adequacy of the business interruption coverage created a special relationship,” he continues. “To me, it seems as if the court was allowing the plaintiff to go through the back door of this special relationship argument and contend that the broker should have told her what limits she should carry. This generally is what the courts say a broker is not supposed to have to do. This would allow an insured to decide: ‘I’ll purchase a minimal amount of coverage, and if a loss occurs and I don’t have enough coverage, I’ll use the broker’s E&O insurance as excess coverage,’ ” Biging points out. “This is another troubling decision that seems to indicate that the courts are going to be more open to finding special circumstances or special relationships that create a duty to advise.”
Even more troubling, Biging says, is the decision late last year in a case titled Indiana Restorative Dentistry vs. Laven Insurance Agency, Inc., in which the insured was a group of prosthodontists. The insureds sustained contents losses that were more than $500,000 in excess of their coverage and argued that the agent should be responsible for the shortfall. “The agent succeeded in having the claims dismissed on summary judgment by arguing that none of the necessary factors to establish a ‘special relationship’ was present. For example, the agent had no discretion to purchase coverages beyond the limits indicated on forms filled out by the insured; the agent didn’t provide insurance counseling, hold itself out as having special skills possessed by other agents, or receive consulting fees or other compensation beyond the commissions paid for placement of the coverage.”
The decision was reversed on appeal, Biging says, “and the court noted that the insured had alleged that the agent had presented itself as an expert in insuring this kind of risk. Moreover, every year at renewal time the agent would send the insured a questionnaire tailored to its practice, and the answers to the questions would help the insured determine the limits of coverage it wanted the agent to procure. The insured argued, and the appellate court agreed, that these factors created a special relationship and that the questionnaire could be found to inherently be providing advice because of the way the questions were structured.
“In addition, the agent periodically sent the insured newsletters that contained information about issues specific to the practice of prosthodontics. From this fact and from the questionnaire, the court concluded that the jury might be able to determine that the insured viewed the agent as a special expert and relied on it to guide the insured with respect to coverages.”
Says Biging: “This is yet another scary case because if you’re trying to be a good service provider, you’re going to periodically send your clients newsletters with advice and information. To do your job as an agent, you’re going to send your clients a questionnaire and explain that you need this information to help the client determine its best coverages and limits. In this case it sounds like the agent was just doing his job. If a questionnaire that’s designed to elicit information is now being seen as evidence to suggest that there was a special relationship between the insured and the agent, then the courts are going beyond the traditional agent-client relationship,” Biging declares. “It seems like there are a lot of factors an insured can cite to prove that there is a special relationship.”
Lisa Doherty, president of Business Risk Partners, cites a decision in a New York case that involved business interruption coverage to make a similar point. “The broker used a cost estimator to calculate the amount of coverage the insured should purchase,” she says. “The insured had a fire that destroyed the property, and they were underinsured by about $100,000, so they sued the broker. The insured actually ended up with more coverage than he would have had but for the involvement of the broker, who persuaded the insured to substantially increase her coverage limits. Had he not taken on the responsibility to assist the insured in determining the insurable value and not used the cost estimator, the case probably would have died on summary judgment. The fact that he did so opened him up to liability that he likely would not have had if he had left the limit purchase decision to the insured.”
Managing your risk
Based on her firm’s experience in arranging agents E&O coverage, Doherty offers advice to agents that can help them avoid these kinds of exposures. “Agents should be asking insureds questions about their business, letting the insureds dictate exactly what they think they need for coverage, then documenting how the insured arrived at that number,” she says.
Adds Biging: “In addition to meeting with your client to provide information and answer questions, it may be useful to have the client meet with the underwriter. If the client later claims that you led him to believe something about the coverage, you can respond that you took the time to put the client in a room with the underwriter and gave him an opportunity to raise any questions.”
A strategy that agents and brokers should consider, Biging says, is to use disclaimers in their agreements with clients. “For example, you can say in the boilerplate at the end: ‘It is always recommended that you obtain updated appraisals at least once a year. Note that if you don’t get an appraisal, there’s a risk that you will not only be underinsured but also may incur a coinsurance penalty.’ Given the trend of recent court decisions, I believe disclaimers are going to be an important E&O avoidance tool going forward.”
In client agreements, Doherty adds, the agent or broker should include a statement like: “You are responsible for choosing your limits of liability and for reading your policy.” This, she explains, is preferable to using sales-oriented language as Marsh did, saying that you’re going to be the client’s risk management and risk financing advisor.
Both Doherty and Biging point out that when agents and brokers earned most of their income from commissions, client agreements were less common. Today, with commissions declining and more brokers going to a fee-based model, client agreements are commonplace-and it’s tempting to do as Marsh and others have done, using language that alludes to your expertise and the special services you provide. In today’s changing legal environment, Doherty and Biging emphasize, restraint may prove to be the best preventive measure as well as the most effective defense.