By Rickard Jorgensen, FCII, ARM, ACIArb
This is the first of a series of 5 articles that together provide a good description of the underwriting process for accountants’ professional liability insurance and the coverage for CPA firms.
The insurance application is the primary document required by the insurer to “underwrite” a risk. This underwriting process essentially is an analysis of an applicant’s description of a firm as disclosed in the insurance application, along with any supplementary forms or accompanying information. The underwriter reviews the responses to a series of questions. The application also contains important disclosures of material facts and a statement pertaining to fraud.
As only those components contained in the insurance policy itself comprise the insurance “contract,” the application must be referenced in, and attached to, the policy before it is considered a significant part of the policy. However, some insurers expressly state that the application will be included as part of the insurance contract.
When you complete a coverage application, you disclose information about yourself and your practice. It is vital you respond to all of the questions; don’t leave anything blank. Be candid and honest. Insurance is governed by the doctrine of utmost good faith, which means you have a duty to disclose all relevant facts. As stated above, the application often becomes part of the policy; if you fail to disclose any crucial information, the company may have grounds for rescinding or voiding your policy.
If your practice includes certain “high-risk” activities or you have past claims and you are concerned that these may attract a limitation of coverage, avoid giving the insurer incomplete information. The more information you disclose, the more accurately the underwriter can evaluate the risk and calculate a fair premium. You may present your firm honestly and in the best possible light so the underwriter can justify offering the best possible terms, but don’t twist or omit facts.
Disclose all past claims and explain the back-story, any mitigating factors and remedial action taken by your firm. Exhibit knowledge of the issues that gave rise to the claim and provide a narrative of all steps you have taken to solve it. Most insurers want to accept you as a policyholder, even if you have suffered past claims – but their file must be properly documented.
Take time to carefully complete the application. It should be typed, easy to read and clear. This may be the only opportunity to advocate for your firm and legibility and first impressions count.
Some of the most important sections of the application are as follows:
NOTICE: EXCEPT AS MAY BE OTHERWISE PROVIDED HEREIN, THE COVERAGE OF THIS POLICY IS LIMITED TO LIABILITY FOR COVERED ACTS COMMITTED SUBSEQUENT TO THE RETROACTIVE DATE, IF APPLICABLE, FOR WHICH CLAIMS ARE FIRST MADE AGAINST YOU WHILE THE POLICY IS IN FORCE AND WHICH ARE REPORTED TO US NO LATER THAN SIXTY (60) DAYS AFTER THE TERMINATION OF THIS POLICY. THE COVERAGE OF THIS POLICY DOES NOT APPLY TO CLAIMS FIRST MADE AGAINST YOU AFTER THE TERMINATION OF THIS POLICY UNLESS, AND IN SUCH EVENT ONLY TO THE EXTENT, AN EXTENDED REPORTING PERIOD OPTION APPLIES.
Most professional liability policies are written as “Claims Made” contracts. That is, the policy will provide protection to you for a claim made against you during the term of the policy. Some policies also add the words “and reported” which means that not only must the claim (lawsuit) be filed against you during the policy term, but the claim (lawsuit) must be reported to the insurer during the policy term.
State departments of insurance often mandate the wording of the preamble. Some applications will add information about any mini or full extended reporting periods (“REPORTED TO US NO LATER THAN SIXTY (60) DAYS AFTER THE TERMINATION” stated above).
The preamble makes clear the basis of coverage.
This is basic data about your firm, including location, fees, professional staff and a breakdown of the area of practice. This is used in the initial underwriting process to calculate a base premium. There is not a lot of latitude in this as the base rates of coverage are usually filed with, and approved by, your state department of insurance.
Additional questions may reference high risk areas of practice which may also require the completion of a supplement (e.g. SEC Attest work, Trustee services, Business valuations).
These questions give the underwriter a sense of the quality of your firm’s management. This could entail internal promotion of risk management training; peer reviews; use of engagement letters, and any ADR clause or indemnification provisions; work for high-risk clients; ***
This is arguable the most important section of the application and requires careful consideration. There are four basic questions:
- Has anyone in the firm been the subject of a complaint or disciplinary hearing?
- Has any client filed for bankruptcy or otherwise in financial difficulty?
- Are the any situations that you are aware of that might give rise to a claim?
- Have you made a claim on any professional liability insurance policy in the past five years?
Question 1 – is self-explanatory and usually pertains to investigations any regulatory body inquiries (e.g. State Board of Accounting, SEC, PCAOB, FINRA). However, such an event could be a prelude to a claim made by an aggrieved client so an underwriter must be mad aware of these.
Questions 2 - and 3 - relate to potential claims and could be problematic if you have NOT reported these to your current professional liability insurer. You should be aware that many insurers’ policies contain an exclusion of known claims or matters known that might give rise to a claim. For example:
You had no knowledge of facts which could have reasonably caused you to foresee a claim, or any knowledge of the claim, prior to the effective date of this policy;
Consequently, if you are aware of any potential claims or claim problems, report these to your current insurer before the expiration of your policy. In addition, you will be required to complete a claims supplemental application for each matter disclosed.
Question 4 - requires further work if you answer in the affirmative. This means completion of claims supplements for each claim that falls within the evaluation period (often 5 years). If you are switching insurers, your prior insurer should be able to provide you with a loss run (a list of any claims reported along with details of payments and reserves). This loss run should be submitted with the application.
The Warranty Statement.
This is a warning statement that describes the consequences of making false statements in the application, which includes all supplemental materials. The wording of this statement is usually dictated by your State department of insurance, but a common clause would be:
Any person who knowingly and with intent to defraud any insurance company or other person files an application for insurance or statement of claim containing any materially false information, or conceals for the purpose of misleading, information concerning any fact material thereto, commits a fraudulent insurance act, which is a crime, and shall also be subject to a civil penalty not to exceed five thousand dollars and the stated value of the claim for each such violation
The Signature line
This is your attestation that all facts are true and that you have made a full disclosure. If you have met your obligation, sign the application. Your signature does not bind you to purchase or the insurer to provide coverage, but it does provide the underwriter with a sense of confidence that you have made a thorough representation of your firm and all the material facts. It also avoids this becoming a subjectivity of any quote that may subsequently be issued.
The application is an excellent tool to present your firm in the best possible light and secure the most competitive pricing. But be truthful and use it wisely, but also cognoscente of the many years of litigation that underscore the issues of material disclosures, utmost good faith and underwriting fraud. Litigating to secure coverage is complicated and costly, and is to be avoided.
Understanding your coverage – Part II – the declarations page
Jorgensen & Company are not attorneys and do not offer any form of legal advice. Consult with appropriately qualified local counsel for more assistance. Rickard Jorgensen is President and Chief Underwriting Officer for the CPAGold™ program and may be contacted at (201) 345 2440 or firstname.lastname@example.org.