Martin MacHale explains how you should present your firm in a hardening professional indemnity insurance market, and the potential impact of lockdown and remote working
It will come as no surprise to hear from your insurance broker that the market is continuing to harden. However, this changing market has been dramatically influenced, like all aspects of our lives, by coronavirus (COVID-19). We are being asked by numerous firms how to best approach an already challenging market – and, in particular, what influence a remote working structure might have on already-increasing professional indemnity insurance (PII) premiums. This article will give a brief explanation of the market, what other changes are expected, and the impact remote working conditions might have. It will also cover what your firm can do to best present yourselves in this challenging market.
Why has the PII market hardened?
Over the last 18 to 24 months, PII premiums for law firms in England and Wales have increased significantly. Contrary to popular belief, this is not due to underwriters simply trying to increase their profit margin – indeed, very few insurers have returned any profit at all writing this class of business. The Solicitors Regulation Authority (SRA) continues to set the minimum terms and conditions (MTCs) for PII policies – there is no scope for underwriters to be creative with the wording, such as adding extensions or withdrawing particular parts of cover that might not be relevant to an individual firm. If at any point an insurer alters the MTCs, it no longer qualifies as an SRA-participating insurer. The only way insurers have been able to compete in this class of business is on price. To win new business and retain existing accounts, insurers have had to drop their rates year on year as more underwriters entered the market, significantly under-cutting rates to an unsustainable level. After 10 years of artificially low premiums, insurers became insolvent as claims paid out extensively outweighed premiums written. This issue is only exacerbated by the open and prevailing nature of the SRA wording – unfortunately, when a claim is brought against a law firm, this will be done by another firm, which understands the high probability of a claim having to be paid by the defending firm’s insurer.
Too many firms were forced into the extended indemnity period as a result of brokers not being able to find terms in a challenging market, but not telling the insured until the last moment, through fear of losing business
These issues came to a head in the summer of 2018. After years of significant losses, a number of insurer management teams were obligated to carry out a review of their worst-performing classes of business. They were required to submit business plans of how they would write this class profitably, or having their authority to do so revoked. A number of insurers chose to allocate their underwriting capacity to more profitable classes of business (such as offshore energy or cyber, for example), which are easier to underwrite due to the short-tail nature of the claims and greater control of the wording – and, therefore, their underlying exposure. The insurers that chose to remain in this class of business as participating insurers could only do so by increasing premium rates.
Over the last 18 to 24 months, a number of insurers have withdrawn their capacity, due to either the current underwriting model being unsustainable, or pressure from management teams to allocate capacity to more profitable areas of insurance – or simply because of the losses massively outweighing the premiums. PII is, after all, a financial product exposed to standard economic cycles.
Changes we have seen and the effects of remote working
The number of 18-month policies being offered by insurers has reduced. Historically, insurers might have charged a small additional premium to firms wishing to purchase an extra six months of cover. This provided a longer policy to firms and enabled insurers to lock in revenue. However, underwriters remain apprehensive about offering 18-month policies and forgoing guaranteed premium, due to the predicted market trends and increasing premiums.
Meanwhile, underwriting teams face continued pressure from their management to achieve technical pricing targets for the ‘right’ risks. As the number of insurers offering cover reduces, underwriters must be able to explain their decision-making and pricing processes. In the April renewal period, a number of insurers introduced additional proposal forms for firms buying indemnity limits above the mandated minimum levels. Historically, this underwriting information was taken from the primary proposal form.
In line with the in-depth underwriting information, insurers requested firms’ last completed reports and accounts. This enabled underwriters to understand the financial stability of firms, particularly in terms of bad debts and cash reserves. Underwriters are concerned about firms that might not be able to survive six months or more without new, or certainly reduced, instructions.
The impact of remote working
At the time of writing, almost all lawyers are working from home (WFH), and this is expected to continue for at least the next month. One of insurers’ major concerns remains the supervision of work. This was the case before remote working became enforced. Take, for example, a firm that had four offices and three partners – an underwriter would have been concerned about how work carried out in the fourth office was supervised, audited or checked. Naturally, this concern will grow exponentially when entire firms are WFH. The SRA has already been in touch with a number of practices to develop an understanding of how firms are ensuring effective supervision.
Will this have an impact on firms’ PII premiums? Not necessarily, but it will be important for your firm to give a robust explanation as to how it is approaching and addressing these challenges. A number of insurers have already introduced additional COVID-19 proposal forms that ask, in detail, how firms are approaching this (see below).
Another recurring question is about firms’ projected revenues. As most firms will know, one of the main influencing factors in a practice’s PII premium is the revenue. Due to the current working restrictions, many firms have adjusted their predicted revenue for this year and next to a more conservative figure. It is important to understand that this does not necessarily mean your premium will reduce. The SRA continues to mandate that PII policies are written on a claims-made basis. This means that your insurer’s exposure is based on the practice’s past work and fees. Of course, the future remains important, but the bulk of an underwriter’s liability sits in the back years. It might be that a piece of work undertaken six years ago is what leads to a claim. So, a reduction in fees this year does not automatically mean a correlated reduction in premium, as the underwriter’s exposure remains.
How best to present yourself to insurers
1. Information, information, information!
The more information an underwriter has, the more comfortable they will be writing a risk. Go above and beyond your proposal form – lean on your broker and inundate them with information. It is their job to sort this out and present it to your incumbent and prospective insurers. Remember, they should be there to support the firm all year round, not simply in the month before your renewal. Providing an answer to a question before it is asked will show the underwriter that you are a proactive firm which understands the importance of a full and thorough PII renewal.
2. Ensure you are using a specialist broker
The current environment is causing underwriters to become increasingly conservative. If your firm has challenges, such as higher levels of contentious work or significant claims activities, choose your broker carefully. Make sure they understand the intricacies of the changing market and how best to represent your firm. In particular, make full use of specialist brokers with exclusive insurance facilities. This will allow your firm to test the market and benchmark your premium, with no risk of broker duplication.
3. Tell your underwriters how you have responded to WFH and supervision
Explain your firm’s approach to the restrictions introduced by COVID-19 and how you are able to continue practising. How can you guarantee that complex work is still being properly monitored and checked by partners and senior fee-earners? Explain any additional file audits that have been introduced or cloud-based case management software you use that enables remote checks or the documenting of meetings.
4. Provide your reports and accounts in your initial submission
Take the time to explain any bad debts and highlight any cash reserves. What changes do you need to make to reflect the secondary and full effects of COVID-19? It might be that the partners decide to lower their drawings as new instructions drop off. Or if the firm is, say, a conveyancing specialist, adjust your business plan to reflect the expected reduction of work and/or the pipeline of instructions set to begin after lockdown ends. Conversely, many firms are already seeing a rise in employment, wills, insolvency and matrimonial work. In any circumstance, show insurers what is being done to ensure financial stability.
Underwriters group firms by revenue and partner size: sole practitioners, two to three partners, four to 10, and 11 or more. Different underwriters will have different ‘appetites’ in regard to what they want to write, influencing whether or not they will be competitive for your firm. Whatever your size, ensure your broker is engaging with the right insurers for your firm’s make-up. Speak with specialist brokers who understand the underwriters’ risk appetites, which insurers to engage with and how to present your firm in an increasingly challenging market; and ensure your firm is not simply being fed through a chain of brokers.
Do not let your broker force your hand. In the approach to 1 April 2020, too many firms were forced into the extended indemnity period as a result of brokers not being able to find terms in a challenging market, but not telling the insured until the last moment, through fear of losing business. Be proactive in your approach to renewals; start the process early, take time over your proposal form to ensure accuracy, and engage with other brokers. Remember, you are buying an expensive financial product – insurers expect firms to test the wider market, and as long as this is done in a controlled manner, you will not prejudice your firm.
And remember: the bitterness of poor quality remains long after the sweetness of low price is forgotten. A number of established insurers have been forced to leave this class of business over the last 18 months. A cheap premium now might lead to significant issues for the firm later if your insurer is forced to withdraw from the market. This has been seen on too many occasions in the last year alone.