Underwriting Public Liability Insurance (Professional Liability Insurance)
Evolution of Professional Liability Insurance
Professional Liability Insurance is available to all types of professionals such as Doctors & Medical Practitioners, Chartered Accountants, Financial or Management Consultants, Barristers & Advocates, Engineers & Architects, Builders, IT Professionals, Estate Agents, Surveyors, Valuers, Stockbrokers, Insurance brokers etc. A Professional Indemnity Policy is a contract between the insured professional and the insurer, whereby the insurer agrees to indemnify the insured (professional) against claim, if made by his clients or persons affected by the negligent acts, errors or omissions in the professional’s service.
In PII contract the clients of a professionals and persons affected by the professional’s activity are collectively called Third Parties while the insured and the insurer are the First and Second Parties respectively in the insurance contract. Like any other liability policy, a Professional Indemnity Insurance also covers the legal liability of the insured persons for damages caused to third parties by the insured professionals.
The need of Professional Indemnity Insurance has gained special significance after the landmark decisions in Hedley Byrne & Co. Ltd (1963) which acted as prime movers for the phenomenal development of market for this insurance cover in the western world first and then followed by the rest of the world.
Though the legal cases and judgments on professional negligence liability were traced fairly early in the society as per law reports, the fear of moral hazards caused delay in arrival of Professional indemnity insurance in the insurance market and even in the advanced London market of liability insurance.
However the decisions in Hedley Byrne & Co. Ltd (1963) followed by similar decisions in host of court cases in many countries afterwards in respect of liability of professionals for negligence in various fields like medical, law, accountancy, engineering, management consultancy and so on have not only widened the market for professional indemnity insurance but also made this insurance compulsory for certain professionals in many countries. For example lawyers’ indemnity insurance is compulsory in the countries like England & Wales, Denmark, Australia, Belgium, Finland, Germany, Ireland, Liechtenstein, Luxemburg, Netherlands, Norway, New Guinea, Scotland, Singapore, South Africa, Sweden, Canada, USA.
As mentioned above, the concept of professional ethics and liability has been changed after the landmark decision in the case of Hedley Byrne & Co Ltd v Heller & Partners Ltd in 1964, which has made almost every type of professional to think and take a professional indemnity policy to protect his liability to third party due to negligence or unintentional mistakes. Before this decision, professionals were liable for mistakes to others only under contractual relationship.
The idea or principle that a party owe onto another a duty of care for his professional advice or statements relied upon, had not been accepted by law and professionals before this landmark judgment. The only remedy for compensation for damages caused by professionals was in contract law, provided that a contract was in place. For example in Candler v. Crane Christmas & Co case, where at the request of the Managing director of a company, a Chartered Accountant had prepared accounts of the company for the plaintiff’s investment decision in the company.
The plaintiff invested in the equity shares of the company concerned having relied upon the accounts certified by the Chartered Accountant. But the company went into liquidation within short span of time and the plaintiff suffered huge economic loss. The investor plaintiff filed suit against the chartered accountant for the misstatement. But it was held by the court that there was no contractual relation between the plaintiff and the defendant. So the defendant was not held liable to the third party.
But this principle and ruling was rejected in Hedley Byrne & Co Ltd v Heller & Partners Ltd in 1964 with a landmark judgment on the professional’s liability in case of negligence irrespective of the existence of any contract between the professionals and the third party. Hedley Byrne & Co Ltd v Heller & Partners Ltd (1964) is an English tort law case concerning pure economic loss of third party, resulting from a negligent misstatement of a professional.
Here the House of Lords overruled the previous position, and recognized liability for pure economic loss even not arising from a contractual relationship, introducing the concept of “assumption of responsibility”.
Case in Brief
Hedley Byrne was a firm of advertising agents. Their client, Easipower Ltd, put in a large order. Hedley Byrne wanted to verify their financial position and credit-worthiness through a banker, and accordingly asked their bank, National Provincial Bank, which got a report from Easipower’s bank, Heller & Partners Ltd., who reported positively about the credit worthiness of the party in a letter that was headed, “without responsibility on the part of this bank”.
Subsequently, Easipower went into liquidation and Hedley Byrne lost £17,000 on the contracts. Hedley Byrne sued Heller & Partners Ltd. for negligence, claiming that the information it had provided was given negligently and was misleading. Heller & Partners Ltd. argued there was no duty of care owed regarding the statements, and in any case liability was excluded.
The court found that the relationship between the parties was “sufficiently proximate” as to create a duty of care. It was reasonable for them to have known that the information that they had given would be likely to have been relied upon for entering into a contract of some sort. This would give rise, the court said, to a “special relationship” between the parties, in which the defendant would have to take appropriate care in providing the professional advice in order to avoid liability for negligence.
The professionals are responsible to third party for the professional knowledge, skills, standards and ethics irrespective of contractual relationship. However in the particular case, the disclaimer of the professional concerned was found to be sufficient to discharge any duty created by Heller’s actions. Because there was an express disclaimer of responsibility, there was therefore no liability. This case established the doctrine of negligent misrepresentation, but in this particular case, the disclaimer effectively barred the claim. The matter was appealed but was dismissed.
This legal decision, which has never been challenged afterwards anywhere, signifies that any person, including a third-party, can sue another person or organization for a breach of their duty of care following negligent advice and for the recovery of any economic loss which flows from that breach, even though there may have been no contractual relationship between a third-party and any professional. This very important ruling has transformed the concept and principle of professional liability and has created huge landscape for the market of professional indemnity insurance since 1964 over the world.
Importance of Professional Indemnity Insurance
When professionals purchase this insurance cover they transfer their negligence risk to the insurance companies selling the cover. Without the cover, professionals would be exposed to third party liability claims for negligence in a variety of situation and circumstances. Again even claims under any legal action that have no merit need to be defended in the court which involves significant legal expenses. Such expenses are covered by this sort of policy. So all professionals, irrespective of how they view the risks in the professional practice, should seek to protect themselves. This is why, in many countries it is compulsory for professional practitioners to carry professional indemnity cover. In our country, the insurance broker is under compulsion to purchase Professional Indemnity Policy as per IRDAI directives.
Scope & Importance:
The purpose of the policy is to protect a professional person against his legal liability to pay damages to persons who have sustained loss or damages arising out of his own professional negligence or that of his employees in the conduct of the profession. The policy offers indemnity strictly on legal liability but not on moral liability. The basis of this legal liability is a breach of contract or duty by the professional to take reasonable care and skill and standard of competence in the performance of his duty to his clients or the third party. The implied conditions for Professional Legal Liability are as under:
Existence of a Contractual Relationship for duty and care
Breach of duty to exercise care, competence and skill
Breach of duty or negligence has caused loss/damage to the client.
As mentioned earlier insurance companies generally issue Professional Indemnity Insurance (PII) policies to the following group of professionals;
1) Doctors and medical practitioners- PII for these group of professionals covers legal liability of registered medical practitioners like physicians, surgeons, cardiologists, antitheists pathologists for the damages including death and bodily injury of patients due to negligence of these professionals. This policy covers also defense Costs in addition to the amount of award as per policy terms and conditions.
2) Medical establishments- Here PII covers the legal liability falling on the medical establishment such as hospitals and nursing homes, as a result of error or omission committed by any named professional or qualified assistants engaged by the medical establishment. Since public awareness of medical negligence in India is growing very fast and trend of high award by courts is also rising everywhere, Hospital managements are increasingly facing complaints and litigations in respect of medical negligence, facilities, standards of professional competence and the appropriateness of their therapeutic and diagnostic methods.
With the increased awareness about awards of courts and consumer forums for medical negligence many patients have been filing legal cases against doctors, as well as Medical establishments. So these establishment are now in the need of such policies to meet the legal liability of third parties and patients.
Let me give you one example on legal action on medical establishment.
In the case of V.Krishan Rao Vs Nikhil Super Speciality Hospital 2010, Krishna Rao, an officer in malaria department filed a complaint against the hospital for negligent conduct in treating his wife. His wife was wrongly treated for typhoid fever instead of malaria fever. Finally, the verdict was given and Rao was awarded a compensation of Rs.2 lakhs. In this case, the principle of res ipsaloquitor (thing speak for itself) was applied and the compensation was given to the plaintiff.
3) Engineers, architects and interior decorators- Here PII covers the legal liability falling on such group of professionals for Death, injury & Construction Damage due to negligence, errors and omissions of the professionals and the employees working under them. Defense Costs are also covered by the policy.
In Dodds & Dodds V. Millmann (1964) decision was taken fixing the liability of builder’s agent for his misstatement for the loss suffered by the plaintiff who relied upon the agent’s statement for his purchase. In another case Clay v. A.J. Crump and Sons (1963) an architect was held responsible (together with the contractors) for personal injuries caused by a collapsing wall.
The architect, instead of going to look at the wall himself, spoke to the demolition contractor who in turn took the opinion of the foreman. The architect was held to be negligent for failing to exercise adequate supervision; he delegated to others duties he was under an obligation to perform himself.
4) Lawyers, advocates, solicitors and counsels- PII here covers the legal liability for financial loss and damage of clients and third parties due to negligence, errors and omissions of professionals and their employees. Following legal case study will make this aspect more clear.
In Ross v. Caunters (1979) it was held that lawyers owe a duty of care both to their clients and to third parties who suffer loss or damage. In this case, the solicitors failed to prevent a beneficiary from attesting the will. They admitted negligence but denied that they were liable to the claimant with pleas that (i) a solicitor was liable only to his client and then only in contract, but not in tort and thus he could not be liable in tort to a third party, (ii) that for reasons of policy, a solicitor ought not to be liable in negligence to anyone except his client, and (iii) that in any event, the Plaintiff had no cause of action in negligence because the damage suffered was purely financial.
Applying the principles of decisions in Hedley Byrne & Co Ltd v Heller & Partners Ltd (1964) and Donoghue v Stevenson (1932) a solicitor who is instructed by a client to carry out a transaction that will confer a benefit on a third party owes a duty of care towards the third party in carrying out that transaction. This principle and ruling was confirmed in White v Jones (1995).
5) Chartered accountants, financial accountants- Here also PII covers the legal liability for financial loss and damage of clients and third parties due to negligence, errors and omissions of professionals and their employees. The accountant’s job is one of great responsibility. Most of investors, lenders, shareholders, financiers, creditors, revenue authority, regulators employees and other interest groups take many financial decisions and carry out many transactions with business entities and firms on the basis audited financial statements.
The chartered accountants are professionally under obligation to take care of the financial interests of all stakeholders of the business firms even though there is no contractual relationship between the stakeholders and the professional accountants. So the chartered accountants owe a duty of care both to their clients and to third parties being the stakeholders of the business firms.
To discharge his duty of care towards the third parties and stakeholders of the business firms a chartered is required to carry out audit and certification work as per standards on auditing and statutory requirements. But with carrying out audit and certifications as per laws, regulations and standards, there may be possibilities of making mistakes, errors and omissions, which may cause financial loss or damage to the clients and third parties. If the third parties and clients as a result of negligence of the chartered accountants, they will be held liable.
The Satyam Scam, India’s largest corporate accounting frauds of 2009 where Satyam Accounts were inflated and window-dressed by more than Rs.7000-crores under the connivance and guidance of the chartered accountants is the most glaring example of auditors’ liability in falsification and manipulation of the corporate accounts. In this case former PWC auditors, Surbramani Gopalkrishnan and T Srinivas were convicted along with 9 others with 7 years jail and & fine of Rs.50-lacs.
Pertinently, in this case Professional Indemnity Insurance would not come to rescue the chartered accounts since they were convicted for criminal offence. Professional Indemnity Insurance covers only civil wrongs and negligence, but not any criminal offence in any case.
There are many possible grounds for a claim for professional negligence where the PII may come to help the chartered accountants to a large extent if such negligence is not intentional one or not a criminal offence as mentioned in the Satyam Case. Following are the few examples of accountancy negligence:
Negligent tax advice
Failure to submit documents on time
Failure to register for VAT
Failure to detect
Failure to detect inconsistencies
Negligent calculation of figures
Failure to complete a tax return
Failure to detect misappropriation of funds
Negligent Valuation of stocks including work in progress
Negligent or wrongful valuation of investments
Valuation and status of other assets and liabilities such as assessment of status of sundry debtors, Creditors, loans, Provision for liabilities.
6) Management consultants, Brokers, Valuers- PII here covers the legal liability for financial loss and damage of clients and third parties due to negligence, errors and omissions of professionals and their employees. Following legal case studies deserve special mention in this regard:
1. Cherry Ltd. v. Allied Insurance Brokers, Ltd., (1978): The brokers failed to tell their clients that an insurance policy was no longer in force and following a serious fire they were held liable for damages.
2. Bell Hotels Ltd., v. Motion & Anr (1952): A firm of valuers said that the value of premises was approximately £16,000 and that brewery companies would not be interested. Plaintiffs sold for £25,000 to a brewery company. It was held that the defendants had not exercised reasonable skill and care, and damages were assessed at £5000.
Elements of Risks of Negligence for the professional:
A professional Indemnity policy may define the risks to be covered or the subject matter of insurance using any or all of the following elements:
In relation to the Professional activity or service.
In relation to the causes of action against professionals by the third party
In relation to a claim made by the third party against the professionals
Generally a professional indemnity policy defines the risks elements using each of these elements in various ways, forms and clauses. The policy cover also makes the use of the words like “Loss”, “Liability” or “Claim” to define the risk elements.
Professional Activity/ Service: This basic element of risks is defined or dealt with in number of ways like:
Activity of a named profession.
Activity in the conduct of business/ profession
Advice in the professional capacity
Drafting of documents in the professional capacity.
Agency or representation in the professional capacity (auctioneers /estate agents)
Important Underwriting Considerations:
The policy offers a benefit of Retroactive period on continuous renewal of policy whereby claims reported in subsequent renewal but pertaining to earlier period after first inception of the policy, also become payable. As mentioned earlier at present only claim made policies are issued. Group policies can also be issued covering members of one profession. Group discount in premium is available depending upon the number of members covered.
Selection of Sum-insured:
In Professional Indemnity Policy, the sum insured is referred to as Limit of Indemnity. This limit is fixed per accident and per policy period which is called Any One Accident (AOA) limit and Any One Year (AOY) limit respectively. The ratio of AOA limit to AOY limit can be chosen from the following:
a) 1:1, b) 1:2, c) 1:3 and d) 1:4
The AOA limit, which is the maximum amount payable for each accident, should be fixed taking into account the nature of activity of the insured and the maximum number of people who could be affected and maximum property damage that could occur, in the worst possible accident.
In the case of Professional Indemnity policy issued to engineers, architects, interior decorators, lawyers, advocates, solicitors, counsels, chartered accountants, financial accountants and management consultants, the Any One Accident (AOA) limit is restricted to 25% of the Any One Year (AOY) limit.
Calculation of premium – Important Considerations;
Apart from AOY and AOA limit and ratio, certain important aspects are considered for deciding the rate of premium. For this purpose CASE study of the proposed liability risks is required to be made in the manner described in earlier issue. However the following are the important considerations in this regard:
- Claims history
- Nature and categories of work performed by your firm
- Volume of activity and turnover or revenue
- Number of principals and employees and their qualification, experience, code of conduct
- Existing line of practice and areas of practice
- Security arrangement
- Areas of practice
- Disciplinary and regulatory issues
- Expertise and laid-down professional ethics, if any
- Risk management practices
- Next new projects and events
Important Considerations for settlement of Claims
1. In case of any event likely to give rise to a liability claim as described above, insurance company should be informed immediately. In case any legal notice or summons is received, it should be sent to the insurance company. The company has the option of arranging the defence of the case.
2. The event giving rise to the claim should have occurred during the period of insurance or retroactive period and the claim first made in writing against the insured during the policy period. The maximum amount payable including defence cost will be the AOA limit selected. The Any One Year limit will get reduced by the amount of claim or indemnity paid for any one accident. Any number of such claims made during the policy period will be covered subject to the total indemnity not exceeding the Any One Year limit.
3. The policy will not pay for claims arising out of contractual liability, intentional non-compliance of any statutory provision, loss of goodwill, slander, fines, penalties, libel, false arrest, defamation, mental injury etc.
4. The insurer’s promise to indemnify is limited to the defined causes of action by the third party against the insured. The policy provides that the cause of action must be for the breach of duty of the professional due to his negligent act, error or omission.
Duty of the insured persons in the event of claims occurred or accident reported:
- Immediately notify any claim or circumstance to the insurer as soon as the insured becomes aware of the claim or the circumstances which may give rise to claim.
- Ensure notification is made during the period of the policy during which the insured becomes aware of the claim or circumstance.
- Take action in consultation with the insurer to defend the legal action with all possible grounds.
- Maintain client confidentiality and privilege while notifying circumstances to insurer.
- Do not make any admission of liability or any offer of settlement to any third party without specific consent from the insurers.
- Do not disclose the involvement of insurers beyond the extent that the insured is required.
- Once summon or notification is received, ensure full co-operation with insurers to defend the case in the court of law.
Liability and its interpretation for the purpose of taking defence in the court:
The term “liability” means responsibility and “legal liability” means responsibilities which can be enforced by law. Legal Liability may be classified into Criminal Liability and Civil Liability. As mentioned earlier only Civil Liability claims are payable, but no Criminal Liability.
Civil Liability claims will arise if there is prima facie evidence of negligence by the insured resulting in injury or death to any third party or resulting in damage to property belonging to a person other than insured.
Negligence will be proved only when following conditions are satisfied:
1. Existence of duty of care
2. Breach of this duty
3. Injury suffered by a person or property damaged as a result of that breach.
Policy Wording and Clauses
i. Operative Clause: The basis of this policy is the written proposal form, declaration and the premium paid as consideration for or on account of such indemnity for the insured named in the schedule of the policy.
“Now this policy witnesses that subject to the terms, exceptions and conditions contained herein or endorsed hereon, the company will indemnify the insured against legal liability for damages and claimant’s costs fees and expenses anywhere in India in accordance with Indian Law in respect of any claim for breach of professional duty against the insured and notified to the company during the period of insurance by reason of neglect, error and omission committed in good faith in connection with the profession on the part of the insured or the predecessor in the profession or any employee of the insured or the predecessors in the profession”.
ii. Indemnity Clause:
It provides that indemnity applies only to claims arising out of damages during the period of insurance first made in writing against the insured during policy period.
The insured is indemnified in accordance with the operative clause for the breach of professional duty by reason of any negligent act, error or omission committed during the period of insurance by the following:
- The insured as stated in the policy
- The predecessors in the business of the firm
- An employee of the insured or the predecessors.
This clause also provides that there shall be no liability for any act committed prior to the retroactive date stated in the policy schedule.
iii. Limit of Indemnity Clause: Provides that irrespective of the number of persons mentioned as insured in the schedule the total liability of the company for damages inclusive of defense costs in respect of all claims made against the insured shall not exceed the limit of indemnity for the policy period stated in the schedule. In other words the total of all claims against the insured, qualified and unqualified staff, nurses covered in the policy will not exceed the overall limit of indemnity with a proviso that per accident (AOA) indemnity is limited to 25% of the AOY limit.
iv. Claim Series Clause: Provides that where a series of losses / injuries / deaths are attributable directly to the same cause/error or omission in the discharge of the professional service or act all such claims are added together and treated as one claim and such claim shall be deemed to have been made at the point of time when the first of the claims was made in writing. Any claim from the same cause made 3 years after the first claim of the series will not be covered.
i) Compulsory Excess:
Professionals Compulsory. Excess
1 Doctors/Medical Practitioners NIL
2 Medical Establishments 0.25% of AOY Limit & Min.Rs.1000/-
3 Architect, Engineers, Interior
Decorators 0.50% of AOY Limit & Min.Rs.5000/-
4. Chartered Accountants -DO-
5 Lawyers, Barristers etc -DO-
ii) Voluntary Excess: The insured may opt for voluntary Excess which shall be applicable to each and every claim, in addition to the compulsory excess to enjoy certain discounts.
- Contractual liability
- Liability for any act in violation of any law.
- Services rendered under influence of intoxicants
- Pure financial loss i.e. loss of market or goodwill
- Personal Injuries like Libel, Slander etc.
- Fines, penalties etc.
- War and nuclear perils
- Employer’s Liability
- Injury/damage occurred before retroactive date
- Deliberate disregard of insured’s staff to duty & care
- Third Party Public Liability
- Criminal act or act in violation of law/ordinance
- Services rendered under influence of intoxicating liquor or drugs
- partnership disputes – for example, any actual or alleged breach of partnership or shareholder agreements
- Employment breaches, discrimination, wrongful dismissal etc.
- Personal debts and trading liabilities or guarantees, indemnities or undertakes which directly or indirectly benefit an insured
- Fines, penalties, in the investigation into the professional conduct of the insured
- Directors’ or Officers’ liability
Possible Defences available against legal action against professionals:
In order to win a negligence case, the plaintiff (the person injured) must prove the following four elements to prove that the defendant (the person allegedly at fault) acted negligently;
1. Duty – The defendant owed a legal duty to the plaintiff under the circumstances. When assessing a negligence claim, the first step is to look to see whether or not the defendant owed the plaintiff a duty of care legally. As explained earlier the relationship between the plaintiff and defendant might create a legal duty. For instance, a doctor owes a patient a legal duty to provide him or her with competent medical care.
2. Breach – The defendant breached that legal duty by acting or failing to act in a certain way. The court may examine whether the defendant breached this duty by doing (or not doing something) that a reasonably prudent person would do under similar circumstances.
3. Causation- It was the defendant’s actions (or inaction) that actually caused the plaintiff’s injury. This is the third element requires that the plaintiff shall prove that the defendant’s negligence actually caused financial loss or injury to him.
4. Damages – The plaintiff was harmed or injured as a result of the defendant’s actions.
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