Circumstance Notification in PI and D&O – why do it and what to avoid

Circumstance Notification in PI and D&O – why do it and what to avoid

Circumstance notification is an important right for Insureds, ensuring coverage for future claims arising out of a known fact, event, happening or state of affairs[1].  That said, making a circumstance notification late in the policy period (albeit, sometimes, unavoidably) can impact the renewal process and terms of the go forward policy.  In this article, we explain the reason why policies allow circumstance notification and consider how that interacts with the Duty of Fair Presentation.  We also provide some practical tips on ensuring circumstances are notified in a timely and effective manner (thereby limiting issues that may arise at renewal).

Claims Made Policies

Professional Indemnity (“PI”) and Directors & Officers (“D&O”) insurance policies (as well as certain other liability policies) operate on a “claims made” basis.  The policy that is in place at the time the claim is first made against an Insured will cover the claim, even though the event that led to the claim occurred before the policy period commenced[2].  That is to be contrasted with “occurrence based” insurances, where the policy on foot at the time the relevant incident or event takes place will cover the matter, regardless of when the claim is made sometime in the future.

Duty of Fair Presentation

The Duty of Fair Presentation[3] requires the Insured to disclose to insurers material circumstances (that is, all circumstances that “would influence the judgement of a prudent insurer in determining whether to take the risk and, if so, on what terms”[4]).  That will likely include any matters that the Insured considers will lead to a claim against it.  However, if the Insured advises the Insurer of an event likely to lead to a claim against it, the insurer’s reaction could be to exclude that claim from the new policy.  Why would an insurer provide cover for something that is a racing certainty?

That would, then, leave the Insured in a difficult situation.  Its current policy is claims made, and there is no claim, and the new policy has excluded a future claim.  Thankfully, there is a solution for the Insured, which is the right to notify circumstances to the current policy.

Notification of Circumstances

There is various language available for notification of circumstances clauses in policies, and an Insured must review the particular language in its policy wording (and discuss with its broker) to understand its own rights and obligations to notify a circumstance.  In broad terms, an Insured will be permitted (or required) to notify insurers of circumstances that may (or are likely) to give rise to a claim. A ‘circumstance’ might be defined in the policy in question, or if undefined its meaning will be governed by case law, as above.

If a circumstance is properly notified, any claim arising out of the circumstance will be deemed to have been made during the policy period in which the circumstance was notified, meaning that policy will pick up the claim (subject to the other terms and conditions of that policy).  The insurers will look closely at whether the claim is causally connected to the circumstance that was notified and it is therefore important to take care when preparing a circumstance notification. That mechanism avoids the gap that could otherwise occur because of the claims made basis of policies and the Duty of Fair Presentation requiring disclosure of the circumstance on renewal.

Circumstances Exclusion

PI and D&O policies will almost certainly also contain some form of prior circumstances exclusion.  As with the circumstance notification language, the precise scope of the exclusion will vary and an Insured will need to check its wording.  In short, it is another way in which a claim may be excluded if it arises from a circumstance of which the Insured was aware before the policy incepted.  It is also, therefore, another reason to make a notification of circumstances in the policy period in which the circumstance first arose.

Notification of Circumstances Immediately Prior to Renewal – A Practical Problem

From a claims perspective, notification of circumstances is fundamental if there is to be coverage for a subsequent claim.  It is also an essential part of the Duty of Fair Presentation, meaning failure to advise insurers of a circumstance ahead of policy renewal could lead to rescission of the new policy, meaning it is of no effect, or give insurers the right to change that policy’s terms and conditions.

However, notification of a circumstance (as with claims) can also impact policy renewal.  That impact can be heightened if notification is made just before renewal.  When a circumstance is first raised, it may take some time to obtain the full information insurers require, and to get insurers comfortable with the likely impact.  Having been approaching renewal from one angle, insurers’ instinct may be one of surprise at this new information, and therefore they can react with a view of the worst case scenario, which may never arise.  As a result of notification of a circumstance just prior to renewal, we have seen terms amended or withdrawn, and the requirement for an Insured to extend their expiring policy to allow time to secure new terms.  The issue is particularly acute in the current hard market, where the options to move insurers are likely to be more limited.

Proposal Forms and Renewal Submissions – Can a Circumstance be notified earlier?

Circumstances are often flushed out at the time of renewal, for example through responses to questions on proposal forms  or as a result of company-wide sweeps for any information that could be relevant to insurers.  Sometimes, notifying a circumstance at that late stage is inevitable.  However, we frequently encounter circumstances that could have been notified earlier.  An earlier notification is more likely to avoid the issues raised above. The more time there is to consider circumstances ahead of renewal, the better position the Insured will be in.

Practical Tips for Earlier Notification

So, what can an Insured do to ensure it properly notifies circumstance and takes advantage of the cover it has purchased, whilst also avoiding (insofar as possible) the practical problems of notifying circumstances in the period immediately prior to renewal?

First, an Insured should review its internal reporting processes.  Are key stakeholders aware of the insurance coverage available?  Do they know what to report (particularly, circumstances as well as claims) and to whom to report?  Are proactive steps taken to uncover possible circumstances outside of the insurance renewal cycle?  Could further periodic sweeps for circumstances be introduced?

Second, if there is any question as to whether an event, issue or occurrence is notifiable as a circumstance, you should discuss that with your insurance broker.  Our experienced Legal, Technical and Claims team assists with exploring, shaping, and notifying circumstances on a daily basis.  We can advise on the specific circumstances notification terms of your policy, consider with you the claims that may arise from the circumstance, and ensure your notification contains the appropriate information that insurers will require.  The team is available to you throughout your policy period, and we would encourage you to take advantage of their expertise.