By Barbara Sable, RLI Insurance
THE BACKGROUND
It’s an age-old question that defies an answer. The best answer—but not one that makes anyone feel better—is that you’ll know if your professional liability insurance limits are adequate when the worst case scenario claim happens. At first blush, many design firms find this answer extremely frustrating. Professional liability insurance has been available for 60 years. Why has no one been able to create a formula to determine appropriate limits?
The answer is that settling or adjudicating claims is as much art as science. We could probably determine an average claim payment for many project types as a percentage of construction values.
However, there’s significant fallacy in that analysis for the following reasons:
Like many averages, it falls within a very large range of possibilities. If your claim ultimately turns out to be on the high end of that range, the average is now meaningless to you.
The breadth of the range is caused by a wide array of factors, the most significant of which include:
The state in which the claim occurs. State laws and their interpretation vary widely and substantially impact liability;
The type of damages. A claim that involves loss of life or a catastrophic collapse can drive up the indemnity costs, even for a design firm that is only peripherally involved;
The chosen dispute resolution mechanism. Mediation, arbitration, and litigation are the most common methods to resolve disputes. Mediation often, although not always, reduces costs. The outcome of arbitration and litigation can be far more risky and far less predictable;
The tenacity of the claimant pursuing the claim. A claimant with a vendetta or an unlimited litigation budget can materially increase your exposure; and
How much insurance is available through other sources. If your firm turns out to be the only one with available insurance proceeds, you may pay more.
Some firms look at that last fact and conclude that they don’t want to be the “deep pocket” or the “lightning rod.” Principals of those firms may not be aware that some claims settle above policy limits, so writing your own check once insurance has been exhausted is well within the realm of possibilities.
SO, ARE MY LIMITS ADEQUATE?
The adequacy of limits is determined by many factors. In this section, we’ll explore some of those factors.
Contractual requirements
One of the primary reasons that firms look to increase their liability insurance limits is to meet contractual requirements. The good news is that it’s generally relatively easy to find underwriters who are willing to help you comply. The bad news is that it requires analysis to determine whether or not you want to or should comply. Here’s an example: a civil/survey firm with roughly $10 million in annual revenues is providing an ALTA survey for a new mixed use project. Their fee? Less than $15,000. The limit required by the developer? $5 million. What the surveyor needs to think about is what happens if these services actually generate a $5 million claim? Will they be able to get insurance after that? The answer is maybe not. Is it worth it to put the future viability of your firm at risk for a $15,000 fee? That said, once you make a commitment to maintain a certain limit in your contract, you’re required to abide by it for the duration of the obligation.
Peer Analysis
Each year, ACEC conducts a survey among its members of over 40 questions related to insurance. One of the most frequently quoted statistics from the survey is the breakout of per claim insurance limits maintained by the participants. For all firms who responded in 2016, the limit profile can be summarized as follows:
| <$1million | $1million | $2million | $3million | $4million | $5million | $6-9million | $10million |
| 3% | 29% | 30% | 8% | <1% | 18% | 2% | 10% |
Even among the smallest firms, the vast majority carry limits of at least $1 million. For the largest design firms, it’s possible to structure a tower providing $100 million in coverage or more.
Severity of Claims
It’s fairly standard across the industry that structural engineers, geotechnical engineers, and architects tend to suffer the most severe claims. For project types, multi-unit residential and commercial projects, parking garages, college and university buildings, office buildings, and hospitals tend to show the largest claims. If your work is in any of these areas, it’s worth at least knowing how much it would cost to increase your policy limits.
AN IMPORTANT NOTE ON SUBCONSULTANTS
If you’re working as a prime consultant, don’t underestimate the importance of having adequately insured subconsultants. If your subconsultants’ limits are inadequate to satisfy their obligations in a claim, your policy becomes the next source of recovery. A safe approach would be to require that your subs maintain at least the same limits that you do, although that may not always be feasible. In any event, agree on limits for your subs that you will require contractually, check renewals through annual certificates of insurance, and require your subs to notify you of cancellation, nonrenewal, or any reductions in policy limits.
TOOLS
There is a wide array of instruments available to help you achieve your desired insurance program and appropriate limits. Let’s review some of the most common options.
Split limits
In simple terms, split limits means that your firm purchases one limit that applies per claim and a higher limit that applies in the aggregate to all claims that are made and reported in the same policy year. For example, if your firm has always maintained limits of $1 million per claim and $1 million in the annual aggregate, one relatively inexpensive way to protect yourself more would be to increase your aggregate limit. Typically, raising your aggregate limit to twice the per claim limit would cost approximately ten to twenty percent more than having equal per claim and aggregate limits. With this approach, even if your firm experiences a substantial policy limits claim, you still have insurance left over to meet other obligations in the same year. The 2016 ACEC Professional Liability Insurance Survey of Member Firms shows that 38% of all firms surveyed purchased higher aggregate limits than their per claim limits.
Project-specific endorsements
Another common way to increase coverage at a lower cost is to consider purchasing endorsements to increase the policy limits as part of your annual practice policy. The coverage under these endorsements is crafted in a variety of ways, so we’ll discuss just a few of the more common approaches here.
One of the most common ways to increase limits on a project-specific basis is to purchase what’s known as a Specific Job Excess (SJX) or Specific Project Excess (SPX) endorsement. By providing underwriters with information about the type of project, the client, the firm’s services, the design and construction period, the project construction values, and the firm’s fees on the project, underwriters can determine a premium to add higher limits on top of your firm’s basic practice policy. This approach tends to be relatively easy and inexpensive to achieve. For relatively low risk projects, premiums might be as low as $2,000 per million dollars of coverage.
A second way to increase policy limits might be to endorse the policy on a project-specific but blanket excess basis so that the increased limits apply above the basic practice policy limit if and when an increased limit is contractually required. This approach has the advantage of being a “set it and forget it” increased limit that applies until it is re-underwritten at the next renewal. The cost for this approach also starts as low as $2,000 per million dollars of coverage.
A specific additional limit endorsement (SALE) is similar to the SJX/SPX approach, but the coverage under this approach typically applies before the basic practice policy limit applies. This approach has the advantage of not depleting the firm’s basic practice policy limits for the one project that required a higher limit. The downside is that this type of endorsement can cost more than the SJX/SPX approach.
A specific client excess (SCX) endorsement is also similar to the SJX/SPX approach, but it applies to all projects undertaken for a particular client. This strategy works well when your firm works routinely for one client that requires a higher limit than you carry for the rest of your practice.
Practice excess policies
Another option is to purchase an entirely separate policy to increase your practice limits, rather than endorsing your primary policy. There are a variety of reasons for taking this approach—cost effectiveness, obtaining additional coverage that your primary insurer is unwilling to provide, and getting the benefit of having two separate claims professionals to monitor your claims are three of the most common benefits cited. One concern often expressed is that the primary and excess insurers have to work together, and all parties need to be careful to determine how coverage applies in the event of a larger claim. For example, some excess practice policies “follow the form” of the underlying insurer, meaning that coverage is exactly the same at the higher limits. Other excess insurers may offer more or less coverage, so it’s important to read the forms and understand what you’re getting.
Project-specific excess policies
Similar to the practice excess policies, it’s possible to limit the coverage under the excess policy to just one particular project that requires the higher limits. The same pros and cons listed above still apply. An additional benefit to this approach is that because you’re limiting coverage to just one project, the cost will typically be lower. And again, if you’re concerned about being the “deep pocket,” this approach might also alleviate that concern.
Project-specific insurance policies
One less common approach that’s typically reserved for larger projects is for the entire design team—and possibly other parties if the project is being delivered as a public-private partnership or through integrated project delivery—to obtain a separate policy to cover just that specific project. This approach tends to be relatively costly, but some project owners agree to pay for some or all of the costs. If this approach is taken, it’s important to address some of the key financial factors, including the following:
How any premium obligations will be paid;
How any deductible obligations will be satisfied;
How other policies will respond—for example, it’s relatively common for practice policies to respond as an excess layer if the project policy is exhausted or if it excludes certain types of coverage; and
How any claims might impact the calculation of future premiums for your firm.
Owners Protective Professional Indemnity
Owners Protective Professional Indemnity coverage, often abbreviated as “OPPI,” is an option available to project owners to provide additional coverage. OPPI provides “first-party coverage” directly to the owner who buys it in order to cover the negligence of the design professionals they engage. This policy typically provides excess over the design team’s practice policies, so critics say that they feel pressure from owners to exhaust their policy limits so that the owner can access the additional coverage. Proponents say that OPPI gives owners the control they’re seeking to cover their exposures as they see fit, and typically at a lower cost than project specific professional liability insurance.
THE BOTTOM LINE
Making decisions about appropriate levels of insurance protection isn’t easy. A good broker will be able to help you:
synthesize all of your data—like firm size, discipline(s), project type(s), and geographic region(s);
suggest a range of policy limits to consider;
procure options from appropriate resources; and
present those options with a pro-con analysis that helps you make a well-reasoned choice.
If your broker isn’t providing that level of service now, find one who does!
This article was written by Barbara Sable, Assistant Vice President for RLI’s Professional Services Group. RLI is a specialty insurance company that helps customers navigate the world of insurance and risk. Barb is responsible for developing the content of RLI’s risk management programs and addressing the day-to-day needs of RLI’s policyholders.
This article was originally published for a/e ProNet. a/e ProNet is a National Association of insurance brokers who specialize in providing professional liability insurance to the design professionals. a/e ProNet provides an independent source of professional liability information, risk management, loss prevention and continuing education services for design professionals and their professional societies. Visit our web site at www.aepronet.org.