PLI Yourself Away From Risk
Making sense of professional liability insurance
- By John P. Bachner
- Sep 01, 2005
Clients know so little about professional liability insurance (PLI) it's laughable. Engineers know so little about PLI it's scary. That's not a good thing. Both sides really need to know a few basics about PLI and the real world where it's applied.
PLI Insurers' Attitude
Owners have every right and every reason to insist that their engineering, environmental, and other professional consultants have adequate amounts of PLI. Regrettably, some owners select the cheapest consultants and services they can find, seeming to believe that all consultants of a given type, if professionally registered, are about equal; that all consultants of a given type perform the same service in the same way; that quality doesn't matter all that much, because, if there's a problem, PLI will somehow make it all better.
Ah, yes; I can see it now: "There's a problem here," the owner's representative cries, and the consultant's PLI company immediately dispatches a courier weighted down with bags of cash and anxious to apologize for the insured's poor performance. Well, it doesn't work that way. Insurance companies are in business; they need to earn a profit. Every penny they have to pay out to defend and resolve claims eats into their profits. So, they try to pay out as little as possible.
Here's what really happens when consultants notify their PLI providers that a claim has been filed. First, the insurance company applies the "four-corners rule"; i.e., it reviews what's stated in the claim to see if the claim fits within the "four corners" of the coverage. While saying that PLI carriers love to find reasons to disallow claims may be an overstatement (although not in all cases), having cause to avoid pay-outs -- e.g., because of the nature of the claim, the date on which the claim was filed or should have been filed, the date of the incident that gave rise to the claim -- doesn't exactly sadden them.
If the issue is not black-and-white, the insurance company will take step two, which is to investigate. If investigation does not resolve questions, the insurer will probably issue a reservation of rights letter stating that the claim may be excluded from coverage. (If the insurer doesn't reserve its rights early in the process, it may be forced to cover an otherwise-excluded claim later.)
If the PLI carrier is required to defend the claim, it will bring to bear every weapon in its formidable legal arsenal to avoid a pay-out. In keeping with their ethical requirement to engage in "zealous advocacy," the attorneys that the PLI carrier selects for its insureds will argue that the insured was not at fault; or that, if the insured was somehow involved, damages did not really occur; or that, if damages actually occurred, the insured's culpability is miniscule; and so forth.
Bottom line: In order to collect anything, the owner will need to retain legal counsel and experts and then engage in drawn out litigation that is likely to end with a settlement that, even under the best of circumstances, does not begin to cover the real value of the damages, especially considering the amount and value of the time the owner had to devote to the effort.
Fact: The capabilities and attitudes of those who compose the various consultants' teams vary markedly. The most competent point out to inexperienced clients that any given project can be accomplished using a near-infinite number of approaches and scopes of service, and that the best scopes are those developed mutually by the consultant's and client's representatives, in light of one another's concerns, risk tolerances, risk management principles, and objectives.
Any number of owners' representatives do not know the difference between damages (spending money for nothing) and the anger they feel when something unanticipated ruins critical budgets or schedules, e.g., when excavation exposes large boulders, naturally occurring asbestos, a leaking underground storage tank, or an illegally dumped transformer that were not detected during a subsurface exploration and went unmentioned in the ensuing geotechnical or environmental engineering report.
"Sue the engineers" some scream, believing that the unanticipated expenses involved are damages. But given that the cost of removing the unanticipated "find" probably is about the same as the amount that would have been budgeted for its removal had its existence been known ahead of time, there is no real damage. The clients are getting something for their money -- improvement.
In some cases, owners might be in a position to argue that, had they known of the subsurface problem's existence ahead of time, they would not have purchased the land because fixing the problem would have made the project too expensive. As a consequence, because they were not forewarned, the owners got themselves into a losing situation and were damaged. In those cases, however, the PLI insurer is likely to argue, probably successfully, that the engineers were not negligent. They simply cannot see what's hidden; they do not have X-ray vision. If they did, they'd know exactly what kinds of tests to conduct and where to conduct them.
Some Real Damages May Not Be Covered
Real damages occur in some cases, but not all damages are covered by PLI. Fact: PLI covers negligent errors and omissions, not non-negligent errors and omissions, i.e., errors and omissions that occur because: a) consultants are human, and b) to err is human. As such, as long as consultants make a best effort that exhibits the skill and care ordinarily applied by the same kinds of consultants working under similar circumstances at the same time, they maintain the standard of care.
As long as consultants maintain the standard of care, their errors or omissions do not constitute negligence. Stated another way, the law does not require consultants to be perfect, and because PLI only covers what the law requires, it does not cover the damages that result from less-than-perfect performance that nonetheless comports with the standard of care.
PLI Coverage Is Claims-Made
Most owners do not understand that PLI is claims-made and, as a consequence, the coverage they require their consultants to have may not be the coverage (if any) in place should the owners file a claim. It works like this: PLI coverage responds only to claims made during the year when the policy is in force. In other words, if during the years 1998 to 2004 a consultant had coverage from ABC, but in 2005 switched to XYZ, XYZ would likely be the PLI provider to handle a claim made in 2005, even if the incident giving rise to the claim occurred while the consultant had PLI from ABC.
Typically, two or more years elapse between the time a given professional service is performed and some party (most often the owner) claims the service was performed negligently and that negligence resulted in damages. As such, maybe nine times out of 10, if not more often, the PLI in place at the time consultants perform their service is not the PLI that would respond to a claim arising from that service, if only because the policy has different inception and termination dates. In some cases, the differences are far more substantial.
The nature of claims-made coverage is why it's often foolish for clients to insist on high limits of coverage; say $5 million as opposed to the $1 million that is customarily required. After all, if a claim is going to arise, chances are it will occur after the consultant has satisfied its agreement with the client; i.e., at a time when the consultant has reverted to its customary coverage.
Some owners that are aware of this require their consultants to maintain the high limit for two or more years into the future. Some require proof of continued coverage and some don't, a failing some consultants actually count on because they commonly
agree to whatever PLI requirements their clients request, even though the insurance market may make compliance impossible or nearly so. This is because higher-than-usual limits may not be available for a reasonable sum next year, may not be available at all, or may be available only with a policy that has a new loophole or two, as we'll discuss.
Quality-oriented consultants understand the issue and usually take the time to explain it to a client so the client can modify its risk management strategies. Project PLI used to be one of those strategies; it permitted the owner to take out a policy that covered all the eligible professional firms engaged for the project. The availability of this coverage has dwindled in recent years, and its cost has skyrocketed.
Prior Acts Coverage
Most clients I am aware of are perfectly content with a certificate of PLI coverage that indicates a firm has the required coverage. The certificate is silent on the issue of prior acts, e.g., if my 2005 policy with XYZ has a five-year prior acts provision, it will respond to professional negligence claims filed in 2005, providing the incident giving rise to the claim occurred in 2000 or later. If the incident in question occurred in 1999, I would have no coverage for the exposure (unless I purchased "tail coverage" from my prior PLI insurer), and as a consequence I would not have the "deep pockets" insurance provides.
Especially when PLI costs are high, as they are now, some consultants may try to save money by requesting a PLI policy that has no prior acts protection, i.e., a policy that responds only to claims resulting from incidents that occurred during the same year in which the claim is made -- an extremely rare situation. Good firms wouldn't think of doing that, but not all firms are good.
Clients identify the limits they want a consulting firm to have, but not all realize that, if another claim "hits" first, and if that claim is for the policy limit, the policy is depleted, i.e., if the client insists on a $5 million limit, but a $5 million claim comes in during January, the coverage available to the firm for the balance of the year could be $0. Insofar as insurance products are concerned, a client has several ways to defend against this possibility. One is by obtaining a project PLI policy, which, as mentioned, is not nearly as practical an option as it used to be. Another is to obtain coverage outside the limits.
This amount is more or less like a separate PLI policy on top of the standard policy. For example, if the client insists on $5 million of coverage, and the consultant has a standard $1 million PLI practice policy, it may be able to obtain an additional policy providing protection solely for the specific client, for risk layers of $1 million to $5 million. Consultants may also be able to get a special limit for a specific project. Owners that require special coverage should be willing to pay for it.
Contractual Liabilities Are Not Covered and Can Endanger "Regular" Coverage
Any number of misguided client requirements (see my column in the July/August 2005 issue entitled "How to Tell When a Lawyer is Giving You Bad Advice,") cannot be insured because they create uncoverable contract liabilities as opposed to coverable negligence liabilities. As an example, some clients ask the engineer to perform "at the highest standard of care." As already noted, however, PLI affords protection only for what is required by law and, by law, professional engineers are required only to meet the standard of care.
If professional engineers must perform above the ordinary standard of care, their failure to perform at the "highest" level would not be negligence, as long as they met the lower, "ordinary" standard of care. However, failure to meet the higher standard of care -- the "highest standard of care" -- would be a breach of contract. PLI does not cover breach of contract, which is why the "highest-standard-of-care" requirement is so counterproductive. In essence, about the only thing it does is give a PLI carrier the ability to issue a reservation of rights letter by adopting the position that the damages resulted not from breach of the standard of care (a tort that's covered by PLI), but rather from failure to meet "the highest standard" (a breach of contract that is not covered by PLI).
Get Real Protection
I cannot say it often enough: About 99 percent of the problems that occur in construction arise because people who should know better prefer to believe that there is such a thing as a free lunch. It doesn't work that way. PLI, while valuable, can almost never make a damaged party whole, which is why prevention is "where it's at."
Choose your consultants carefully, considering what their other clients have to say. Engage in discussions so consultants learn about your objectives. Encourage consultants to propose the scope required to achieve those objectives, and stay involved from beginning to end. In that way, while you'll still have insurance protection, you probably won't have to rely on it. And that's a good thing.
An OWNER is an entity that owns a structure of some type. The owner can be public-sector or private-sector and can be representative of any number of sectors, e.g., in the public sector, a school board, a federal agency (civilian or military), a state, etc. The same applies to the private sector where the marketing unit can be defined by area of interest (retail, office), scope of operation (local, state, regional, national, international), and so forth.
A DEVELOPER is an entity that develops sites or structures and then immediately attempts to sell them. Developers are typified by home builders. However, organizations like Wal-Mart may hire a developer to build a new facility, and the developer does so knowing it will sell it to Wal-Mart as soon as it is constructed to Wal-Mart's specs. Public-sector developers also exist, typically as agencies involved in processes such as brownfield redevelopment.
A CLIENT of a consultant is either an owner (a.k.a. owner client), or developer (a.k.a. developer client), or another consultant, usually the prime, a.k.a. inter-professional client.
An OWNER REPRESENTATIVE is NOT a client. The individual is, however, a CLIENT REPRESENTATIVE, as is the representative of a developer client or inter-professional client.
Many professionals use the terms CLIENT and CLIENT REPRESENTATIVE to mean the same thing. They do not, and using them interchangeably can result in problems, e.g., using "I have excellent relations with my client," to mean "I have excellent relations with my client's representative," can lead to problems when the client representative is one of 25 people who need to be satisfied and the other 24 are left unsatisfied.
This article originally appeared in the 09/01/2005 issue of Environmental Protection.