Most common asked questions about E&O Insurance policy.

Q 1.   What are the various types of E&O insurance policies?

Early E&O insurance policies provided “occurrence” coverage. These policies covered all acts made during the coverage term, with little or no regard to when claims were made. This type of policy is referred to as “long tail” –with some of these policies permitting claims up to twenty years after the covered mistake.

While this type of coverage may be convenient for the insured, it proved difficult for insurance carriers to predict and price, and several carriers became insolvent because professional liability policies (and other long-tailed lines) consistently showed worse results than expected.

In the early 1980s, a policy form known as “claims made” was created.  This type of policy generally only covers claims made while the policy is in effect, plus a short “tail” period (usually around 60 days).  If an insured needs to cover acts prior to the start of the policy, a “retroactive date” can be used, and if an insured wants a longer time period after the policy ends, he/she can use a “tail endorsement”.  Both of these options are available to an insured.

The “claims made” form of policy dramatically reduced coverage costs for insurance carriers, while providing a more stable and more manageable risk calculation for the carriers.   At this time, the older “occurrence” type of E&O coverage is becoming more and more rare, and there are very few carriers who provide it to real estate licensees.

II.  Policy Features, Terms, and Suggestions

Q 2.  Why do E&O insurance rates continue to rise in California?

Insurance rates in all product lines (not just liability) have risen in all states.  California has a poor loss record with E&O insurance claims and therefore carriers have not been able to make a profit on a real estate E&O product line in California.  Most carriers have become unwilling to write policies in California and those that remain are adjusting their rate schedules to be in line with the present loss ratios. Rising rates also appear to be tied into the market. Rates are rising as prices rise, mainly because of potential exposure.

Q 3. What can I do to obtain E&O insurance and lower my E&O and overall legal costs?

You can never start this overall process too early.  You should do the following:

 Contact a reputable insurance broker, whose firm is knowledgeable about E&O programs and insurance carriers. Make sure the broker knows how to find the right fit for your needs and office size.
 Develop and implement good practices, especially risk management practices.
 Make continuing education an important part of your office.
 Carefully document all transaction files. Brokers/office managers should spot check files to make sure documentation is correct and to make sure that salespersons are following proper procedures.
 Take a proactive approach to potential claims, attempting to resolve them early, before attorneys fees become a factor in the settlement amount.

Q 4.  How soon before expiration of my E&O policy should I begin the renewal process?

You should allow at least 90 days.  Applications are detailed and must be completed thoroughly.  Some questions may require research and follow-up.  Additionally, you will want to allow time to shop for different carriers and have a back-up provider.

To evaluate your likelihood of being approved for coverage, providers consider factors such as:

 the number of prior claims,
 the number of part-time agents in your office,
.  the total losses and legal expense paid by the carrier,
.  how often dual agency occurs in your transactions, and
 how often your transactions involve a high average home value.

Q 5.  What factors should I consider in selecting an E&O carrier?

The lowest cost E&O policy is not always the best fit for every real estate office.  There are a number of factors that can influence your decision and that will affect your overall experience with a particular carrier and the coverage being provided.  Before you make a decision as to which E&O carrier to select, you should consider the following:

 The limits, per claim and per year
 The amount of the premium
 The amount of the deductible, and/or reductions in deductibles
 The exclusions
 Whether the carrier is admitted vs. non-admitted in California 
.  The AM Best, Standard & Poor or Moody ratings
.  The number of years the carrier has been writing in California
 If the carrier has any special programs, which seek to aid in risk management, such as utilization of experienced real estate attorneys
 Additional, optional coverages such as mortgage lending, agent owned property, administrative proceedings and for escrow activities
.  If that carrier is dealing with an experienced broker, or if the product is being placed by an entity (agency) which is placing the coverage and is handling the claims

Q 6.  What factors do E&O carriers typically use in quoting a premium rate?

E&O insurance carriers consider the following factors in quoting a premium rate:

 Size of the company (e.g., number of agents and gross commission income)
 Types of business (e.g., SFR, Income Property, commercial, rental, property management, development, agent owned)
 Number of claims
 Loss run history
 Use of certain forms
 Risk management programs
 Dual agency ratio
 Transaction Management Program Use

Q 7.  What policy limits should I request?

You should seek advice from your insurance professional, but typically limits are evaluated based on the sales dollar volume.  Policies offer coverage for defense costs and indemnity.  Indemnity coverage is for the amount of damage that an insured may be liable for as a result of a claim.  The limit the insurance company may be liable for in connection with indemnification is the amount of the policy limit.  Defense costs are the cost of defending a claim. There is a growing trend to reduce the limits of a policy by defense costs. This is known as shrinking limits. This means that the defense costs reduce the policy limits. You may want to consult with your insurance broker to consider the issue of shrinking limits to sufficiently cover claims in evaluating limits.

Q 8.  What deductible should I request?

A deductible (sometimes referred to as “retention”) is an amount which you pay before your insurance company begins to pay for the claim costs and expenses. Some real estate brokers like to reduce their deductibles to only a few thousand dollars. If you attempt to significantly reduce your deductible, your premium may be much higher. Something to think about is that some carriers offer a reduction of a deductible, even in half, if the insured participates in and a claim settles at mediation or at a settlement conference. You will want to consult your insurance professional regarding the right fit for your firm in evaluating the right deductible.

Q 9.  What is a gap in coverage and why is it important to avoid a gap in coverage?

One reason it is important to begin “shopping” for coverage at least 90 days prior to expiration of an existing policy is to prevent any gaps in coverage.  A gap in coverage occurs when a policy expires and new coverage is not yet in place.  There are no known carriers that currently provide “gap coverage” for the period between expiration of a prior policy and the commencement of new coverage.  Any claims made based on a period where there is a gap in coverage results in potential personal liability for the broker or agent.  Ask an E&O insurance broker for more information on how to solve “gap” coverage issues.

Q 10.  What is “prior acts” coverage and why is it important to obtain prior acts coverage?

A It is highly recommended that you obtain prior acts coverage.  Policies for “prior acts” provide coverage for a period prior to the effective date of a current policy.  For example, if your current policy became effective on 1-1-06 and includes prior acts coverage, a claim made for an act that occurred in a prior year would be covered, presuming the coverage includes that period.  Coverage for prior acts is commonly provided where there have been no gaps in coverage, even when there has been a change in carriers. Carriers rarely grant prior acts coverage when there has been a gap in coverage.

Q 11.   Why and when is “extended reporting period/tail coverage” important?

If someone, planning to get out of a real estate business shortly, is purchasing an E&O policy, he/she might want to consider closely what the optional extended reporting period options are in a policy and what types of tail coverages they might be able to purchase.  Even real estate licensees who retire or leave the real estate business may be subject to litigation in the future.  Extended reporting period/tail coverage would provide protection in the event of a claim made after going out of business.

Q 12.  Do E&O policies cover administrative licensing proceedings with DRE?

Some E&O policies do cover administrative proceedings before the DRE, including investigations arising out of real estate services or transactions. Should you be involved in a licensing proceeding, it may be expensive to respond and have legal representation. Coverage for these issues can be very beneficial.

Q 13.  Do I want a “consent to settle” clause?

A real estate broker may want to consider whether a policy contains a “consent to settle” provision. This provision provides some control over the defense of a claim and whether or when a claim should be settled.  While this provision is a bonus to some brokers by insuring involvement in settlement discussions; if used improperly, it may have significant ramifications.

A real estate broker and/or attorney should be consulted when a “consent to settle” issue arises because if an insured refuses to settle, the insurer may use a “hammer clause.” The hammer clause may be used when there is a disagreement between an insurance company and an insured over whether to settle. The hammer clause may permit the insurer to demand reimbursement of defense costs after a refusal to settle by the licensee, when settlement is within policy limits and if liability is clear. This issue is very complex and should be analyzed on a case-by-case basis. .

Q 14.  What is meant by an insurance carrier being “admitted” or “non-admitted” in California?

California is a regulated state and requires any company that sells an insurance product within California to file with the Department of Insurance.  Those carriers that do not file for an “admitted” status with the State must use an E & S (excess and surplus) license to sell in the state.   In that case, the non-admitted insured would not have access to the guarantee fund should the carrier become bankrupt.

When dealing with a non-admitted carrier it is recommended that you investigate the financial rating of the carrier from AM Best, Standard & Poor or Moody’s.  If the carrier has little likelihood of having financial problems, you may want to factor this into your decision if the excess carrier offers overall better coverage.

Q 15.   Why is it important for me to understand and comply with exclusions in coverage?

You will need to confirm that your internal practices and procedures comply with the coverage exclusions.  For example, if your policy excludes sales of agent-owned property, make sure you take that into consideration in your practice and policies regarding agent responsibilities and exposure.  You should determine whether you will allow such deals to be conducted by the brokerage, or if you are willing to take the risk of there not being coverage for a claim arising from a non-covered/excluded practice.

Q 16.  Typically, what kinds of situations and/or transactions are excluded from most E&O insurance policies?

Examples are mold and fraud. Fraud is always excluded, and mold is now almost always excluded from E&O insurance policies.

Additional standard exclusion items are:

 Bodily injury;
 Property damage (except where lockbox coverage is found, in this part of the policy this exclusion is modified);
 Conversion, commingling, misappropriation or improper use of funds,
 Sale of a business not connected to real property;
 Damages awarded in a discrimination lawsuit (coverage applies to defense and claims cost only); discrimination against any person on the basis of race, creed, etc. There may be coverage for rental claims;
.  Claims based on or arising out of the formation, syndication, operation or administration of any property syndication, real estate investment trust or any other form or corporation, general or limited partnership or joint venture formed for the purpose of investing in, buying, selling, or maintaining real property;
 Property sold by the Insured that was also developed or constructed by the Insured;
 Agent-owned property coverage (commonly carries many restrictions, but these vary from policy to policy)
 Intentional torts;
 Dishonest, fraudulent, criminal or malicious acts

III.  Procedure When Receiving a Claim

Q 17.  What should I do if I receive a claim (e.g., receive a summons and complaint)?

Tender the claim to the carrier promptly. This is so important because your policy, no doubt, requires it by a certain time.   Furthermore, in order to obtain the best response, you will want to provide your attorney with as much time as possible to prepare a response.

Q 18.  What does it mean when a carrier defends a claim with a “reservation of rights”?

This means the claims department provides a defense for the claim as presented but “reserves the right” to not pay damages for items the policy excludes.  There may be allegations that are not covered (like fraud) but others that are (like negligence) and the defense is being provided for the entire claim, but the notice lets the insured know if fraud is actually proven then there will be no coverage for those damages.  Also, if it becomes apparent that fraud is the only item in question, payment for legal defense could stop.

IV.  The E&O Insurance Problem

Q 19.  What can be done about the cost and availability of E&O insurance?

In addition to the general advice provided in this legal article, real estate brokers and agents should seek to reduce the number of claims by instituting a comprehensive risk management program.  An important part of your program is ongoing education to keep agents abreast of contracts, forms, disclosures, legislation and changes in local practices. Brokers and agents also should stay informed about industry issues and work with their state and local legislators to develop and support desirable legislative solutions.