Lawyers Professional Liability Claims Trends: 2011 Introduction As a leader in providing insurance brokerage and risk management consulting services to law firms throughout the U.S., Ames & Gough is committed to keeping clients informed of critical insurance market developments and risk issues that may influence their potential exposures and ability to manage them. Within the context of this ongoing effort, Ames & Gough conducted a survey of senior claim examiners responsible for lawyers professional liability claims at six of the leading insurance companies that provide Lawyers Professional Liability Insurance. The survey, conducted during the spring, examines how these insurers see 2011 shaping up in terms of the types, number, and size of legal malpractice claims they are handling. We also asked claims examiners to identify how they choose counsel to handle their lawyers professional liability claims; whether or not they use panel counsel; and what rates they typically pay for defense counsel. The participating insurers included: AXIS, Beazley, Berkley Select, CNA, Lexington, and Hartford. Altogether, they work with almost 75% of the midsized (more than 35 attorneys) to large law firms in the U.S. We are grateful for their participation in our study and are pleased to present the findings in this report. Washington, D.C. (headquarters) 8300 Greensboro Drive Suite 980 McLean, Virginia 22102-3616 Phone: (703) 827-2277 Fax: (703) 827-2279 Boston 859 Willard Street Suite 320 Quincy, Massachusetts 02169-7469 Phone: (617) 328-6555 Fax: (617) 328-6888 Philadelphia 1781 Hunters Circle West Chester, Pennsylvania 19380-6643 Phone: (610) 547-0663 Fax: (703) 827-2279 1
Survey Findings 1) Law Firms Face Rising Number of Professional Liability Claims. Four of the six insurers polled indicated the number of malpractice claims filed is up in 2011. Three of the four insurers indicated their malpractice claim levels are up by 6% - 10% and one saw an increase of 11% - 20%. The other two insurers indicated the number of malpractice claims filed in 2011 was similar to the count in 2010. The increase in the frequency of claims is largely due to the effects of the recent recession, including the enduring real estate market slump. As law firm clients continue to encounter financial difficulties and the impact on their business becomes more pronounced, they are more inclined to seek redress from their advisers. In this regard, if the lawyers representing a client are not careful during the initial representation, they might well become targets for a malpractice claim as the client s financial situation worsens. Lawyers Professional Liability Claims Frequency 2011 vs. 2010 Higher in 2011 Same for both years 0 1 2 3 4 5 6 Percentage Increase in Claims Incidence Levels: 2011 vs. 2010 1% - 5% 6% - 10% 11% - 20% 0 1 2 3 4 5 6 2
2) Largest Number of Claims Come from Three Practice Areas. Four of the six insurers in the survey ranked Real Estate as the practice area seeing the most claim activity. This is consistent with the American Bar Association s most recent legal malpractice study 1, which found a steady increase in real estate claims frequency since 1995. There are a couple of drivers to the increase in Real Estate-related claims. One has been the sheer increase in transactions in the period 2005-2008. With more transactions comes more closings and increased risk of errors. Further compounding this situation was the economic downturn that began in the fall of 2008. As property values plummeted, more buyers and lenders began to look to the parties involved in these transactions to lay blame and seek to recoup their losses. The good news is that many now predict the bottoming out of the market. The worst may be behind us and real estaterelated claims may actually begin to decrease. Corporate & Securities work ranked second in claims activity and Trusts & Estates ranked third. Economic conditions are one key factor in the frequency of Corporate & Securities claims as deals go bad, those involved seek recourse against their advisors. With regard to Trusts & Estates, the downturn in equity values created more stress for beneficiaries and, in turn, led to an increased willingness to pursue legal action against those involved in establishing and managing trusts and estates. Often, these claims are founded in concerns about potential or real conflicts of interest. 1 American Bar Association s Standing Committee on Lawyers Professional Liability Profile of Legal Malpractice Claims 2004-2007. Practice Areas Generating Largest Number* of LPL Claims Rank 1 Rank 2 Rank 3 Insurer 1 Real Estate Personal Injury Collection & Bankruptcy Insurer 2 Collection & Bankruptcy Trusts & Estates Business Transactions/ Commercial Law Insurer 3 Real Estate -- -- Insurer 4 Real Estate Corporate & Securities IP Insurer 5 Corporate & Securities Trusts & Estates Business Transactions/ Commercial Law Insurer 6 Real Estate Litigation Defense Business Transactions/ Commercial Law *Note: Survey participants were asked to rank the top three practices generating claims and the chart reflects their multiple responses. 3
3) Large Claims with a Reserve Over $500,000 on the Rise. Five of the six insurers in the survey said there was an uptick in the number of claims with reserves over $500,000 (including loss and expense). In fact, three of the survey participants said there was an 11% - 20% increase in claims with such reserves and two said they were up 6% - 10%. When asked to estimate the number of open claims with a combined loss and defense reserve over $500,000, four of the six each estimated they had more than 21. While it is possible that several insurers may be on the same claim (if, for example, they are providing excess limits or quota sharing the coverage), this still portends a substantial number of large claims working their way through the system. In step with the steadily increasing severity of claims during the last several years, has been an escalation of the cost to defend them. One of the survey participants, Melissa Collins, claims manager of Beazley Group, traces the rising costs of defending lawyer malpractice claims to three factors rising attorney fees, increased costs associated with e-discovery, and more aggressive plaintiffs attorneys producing greater complexity in the litigation. Although attorneys generally maintained their fee levels during the economic recession, the long tail typically associated with malpractice litigation saw fee costs rise over time, she said. In addition, with the rise of e-discovery, defense attorneys and their outsourced providers often must sort through thousands of email messages and electronic documents, adding a cost component. Another driver of rising defense costs has been the fact that more aggressive plaintiffs counsel has added greater complexity to the litigation. The cost of malpractice claims underscores the need to give careful consideration to the professional liability policy you purchase. At the end of the day, the rubber meets the road when a large claim arises and your firm needs to ensure it is covered and there are adequate limits to defend the case. You also want to ensure that your firm has claims service from an insurer that will provide cost-effective and knowledgeable advice. Effective claims service can make a real difference when your firm needs to defend itself against a claim of malpractice. Estimated Year-Over-Year Percentage Increase in Large Claims (Combined Reserve Exceeding $500,000) No increase (0%) 1 insurer 11% - 20% 3 insurers 2 insurers 6% - 10% 4
4) Most Insurers Now Seeing Some Claim Payouts of $50 million or More. Five of the six insurers in the survey indicated their firms were involved in paying a claim or $50 million or more. As noted earlier, it is likely that multiple insurers are involved with the same claim(s) given quota share coverage arrangements and excess limits, however, there can be no doubt that the share of claims resulting in multi-million dollar payouts has been growing steadily. Largest Lawyers Professional Liability Claim Payouts by Your Company $50 million or more $5 million or less 0 1 2 3 4 5 6 5
5) Conflict of Interest Largest Cause of Malpractice Claims. All but one of the insurer participants indicated that conflict of interest was the first or second largest cause of malpractice claims. Three cited failure to file timely as first or second. All attorneys have an affirmative duty to identify and address conflicts of interest. This issue is best addressed on the front end by carefully screening new clients, seeking advance waivers (where appropriate) and clarifying who the client is for any given matter. By virtue of this affirmative duty, failure to properly advise clients in connection with conflicts of interest may result in subsequent claims of legal malpractice. Conflict of interest cases can also be the most serious type of legal malpractice claim. That s not only as a result of the profound violation of the duties owed to clients, which are often present in the cases, but also because of the negative impact that the claims generally have on the image of the legal profession. First and Second Largest Causes of Legal Malpractice Claims Conflict of Interest Failure to file timely Largest Second Failure to know the law Improper Drafting Inadequate Discovery Clerical Error Breach of Fiduciary Duty 0 1 2 3 6 0 1 2 3 6 6
6) Four Insurers in Survey Use Panel Counsel with Varying Negotiated Rates. Insurers often develop a panel of qualified attorneys around the country to handle claims. The idea is to: (a) utilize expert, experienced firms wherever possible; and (b) negotiate preferred rates for providing services based on the volume of work that may come the law firms way. Two insurers in the survey didn t use a formal panel counsel approach, preferring instead to work with their insureds to select suitable counsel on a case-by-case basis. Of the insurers that used panel counsel, one had more than 100 firms on its panel counsel list. Two had 20 firms on their panel, and one had 5-10 firms per state. One interesting question that insureds and defense counsel alike have is: What is the average hourly rate paid to defense counsel by a given insurer? These negotiated rates between insurers and their defense counsel vary by jurisdiction and by type of claim, however, among the insurers providing responses to the question regarding negotiated rates, the most common average was $201-$250 per hour (paid by three insurers). Average Hourly Rate Paid by Insurers to Defense Counsel $201 - $250 $251 - $300 $301 - $400 $401 + 0 1 2 3 4 5 6 7
Conclusion: Steps to Manage Malpractice Claims With claims activity up and severity increasing, law firms should have an effective process for identifying and reporting claims to their malpractice insurer. A key step is overcoming the natural reticence to report a claim for fear that it will affect the availability or pricing of the firm s professional liability insurance. To the contrary, early intervention often enhances the ability to defend a claim. Understanding the claim-reporting requirements of your Lawyers Professional Liability Insurance (LPLI) policy is essential to establishing a good reporting process. The typical LPLI policy contains several provisions that affect the determination of when and how to report a claim to the insurer. Consider the common policy phrasing for the definition of a claim: A claim is a demand, including the service of suit or the institution of any alternative dispute resolution proceeding, received by the Insured for money or services arising out of an act or omission in the rendering of or failure to render legal services. While this language is pretty straightforward, additional complexity is created by the LPLI policy language that also requires firms to immediately report any potential claims or circumstances that may result in a claim. Learning to identify which circumstances need to be reported can be a valuable component of a firm s efforts to mitigate potential malpractice exposure. A typical LPLI policy definition of potential claim states: any act, circumstance or fact that might reasonably be expected to give rise to a claim. Experience has shown that the best practice is to report any potential or actual claims to your insurer as soon as possible. This allows your insurer to provide advice and counsel and often can help prevent a small problem from becoming a bigger one. Importantly, reporting a potential claim should not affect the insured s future risk assessment with the insurer. To best manage claims and assure compliance with your policy and any application warranties, Ames & Gough recommends the following: ABOUT AMES & GOUGH Ames & Gough, founded in 1991, has established itself as a committed, superior resource for law firms, design professionals, and other consulting firms and professional organizations in need of professional liability insurance and risk management assistance. In recent years, the firm has expanded its capabilities to include management liability, employment practices liability, kidnap & ransom and related insurances; as well as more typical property and casualty insurances. The firm has offices in Boston, Philadelphia, and Washington, DC. Visit the Ames & Gough Website at www.amesgough.com. Educate all attorneys including lateral hires regarding the insurance company s reporting requirements for both claims and circumstances. This should be done when each staff member comes on board and then periodically reinforced by the firm s management. Foster a firm-wide culture and attitude that encourages the discussion of potential problems sooner rather than later. Implement a clear system for reporting circumstances and claims that includes a central coordinator, such as a general counsel, risk manager, firm administrator, or compliance professional. Poll the firm s staff annually, during the LPLI renewal application process, regarding knowledge of claims or circumstances. Ask all covered individuals at the firm to state whether they are aware of any claims or potential claims and to return the form to the appropriate professional. Maintain LPLI policies in a central file, with easy access to the information on how to report a claim. Be proactive; understand your policy s reporting requirements, and team with an experienced professional liability insurance broker. These measures can go a long way to reducing the magnitude of an individual claim and its potential financial consequences. 2011 Ames & Gough. All Rights Reserved. 8