With few exceptions, an application or warranty statement is an essential document to secure insurance coverage, and can actually possess great power to determine or limit coverage. Insurers may seek renewal applications or updated warranty statements, even when a policy is merely a renewal. While the application process may seem almost ceremonial, failure to engage fully in the application and warranty process can lead to unnecessary coverage disputes, or even the loss of coverage.
Generally, warranties apply to professional liability policies, such as Directors and Officers Liability policies, Fiduciary Liability policies, and Employment Practices Liability policies. Warranties often contain very broad language, for example, that “no person or entity proposed for coverage is aware of any act, error or omission which might result in a claim.” There then may be a box where the applicant can check “no” or “yes.” Depending on the applicant’s answer, the warranty or application may request the company to list or explain any act, error or omission that may result in a claim, and the insurance company may specifically exclude future claims arising out of it. If the applicant fails to respond accurately or omits certain facts, even where they tried to provide truthful answers, coverage disputes often arise, which can result in future claims being denied. Some insurers may even rescind the policy depending on the warranty language and applicable state law.
Because warranty language is often so broad, companies should work with their coverage counsel and brokers to negotiate changes to suit the circumstances of the business. For example, a warranty may ask “[d]uring the past five years, has any professional liability claim or suit been made against the Applicant Firm or any past or present principal, partner, officer, managing member or employee of the Applicant Firm or any past or present independent contractor of the Applicant Firm?” Depending on the company’s personnel and claims history, the company may seek to modify this language, limiting the number of years or narrowing the list of individuals against whom a professional liability claim has been made.
Additionally, companies can negotiate warranty language that only applies to additional limits of coverage it is purchasing, and not to the existing limits. This type of warranty language could protect at least part of the limits if a coverage dispute arises. For instance, in Rivelli v. Twin City Fire Insurance Company, the policyholder signed a warranty letter as part of the renewal process of its excess policy with Twin City Fire Insurance Company. Twin City had previously provided a $2.5 million excess policy, which was renewed with an additional $2.5 million in coverage. The warranty letter was signed and applied only to the additional $2.5 million in coverage and warranted that “[n]o person or entity for whom this insurance is intended has any knowledge or information of any act, error, omission, fact or circumstance which may give rise to a claim which may fall within the scope of the proposed insurance detailed above.” The warranty letter also provided “it is agreed that if such knowledge or information exists, any claim arising therefrom … is excluded from the proposed coverage.”
The policyholder eventually made a claim under the policy and a coverage dispute arose as to whether the exclusion set forth in the warranty letter applied to exclude the “top” $2.5 million of coverage, thereby relieving Twin City of any obligation to pay additional defense costs. The court agreed with Twin City that the exclusion in the warranty letter barred coverage for the additional $2.5 million in limits. However, because the warranty only applied to the “top” $2.5 million, the policyholder was still able to obtain the “bottom” $2.5 million in prior limits from Twin City.
Likewise, companies should work with their brokers and coverage counsel to obtain severability and non-rescission language in the policy itself. Strong severability language is critical to protect against the risk of rescission. A typical “full severability” provision states that the “application” for insurance “will be construed as a separate application for coverage by each individual insured and that the knowledge of one individual insured will not be imputed to any other individual insured for the purposes of determining if coverage is available.” Moreover, the company can negotiate language that only the knowledge of certain executives, such as the CEO or CFO, can be imputed to the company. Such robust severability language can help protect innocent directors and officers, where an insurer attempts to rescind or deny coverage, even if another officer misrepresents material information on the application.
In light of the numerous issues that can arise long after applying for coverage, companies should also consider the following questions when evaluating an application or warranty:
- Who is signing the application or warranty?
- If there is no separate warranty, does the application contain warranty language?
- What insurers specialize in your company’s business?
- What is the applicable state law?
Because of the importance of professional liability insurance and the hazards of making a misstep in the application and warranty statement process, companies should not “go it alone.” They should work closely with coverage counsel and brokers throughout the insurance application or renewal process.