Does the Discovery Provision Apply During the Extended Reporting Period?
March 2002
This article examines an often-overlooked
but critical variation in claims-made policies: whether the policy’s discovery
provision is operative during the time period covered by the ERP.
by
Robert A. Bregman
IRMI
There is wide variation in the scope of coverage provided by extended reporting
period (ERP) endorsements within claims-made policies. One often-overlooked
but critical variation is whether the policy's discovery provision is operative
during the time period covered by the ERP. (One key clarification before moving
ahead: under some insurers' policy forms, the term "discovery provision" is
used to refer to a provision that functions exactly like an ERP.)
A discovery provision in a claims-made policy allows an insured to report
to the insurer "circumstances" or "incidents" that have taken place during the
term of the policy, if such circumstances are likely to, but have not yet, given
rise to a "formal" claim against an insured (i.e., receipt of a summons and
complaint). If, after the claims-made policy has expired, those circumstances
later give rise to a claim, coverage will apply regardless of how far in the
future a "formal" claim is actually made against the insured.
Under a majority of the extended reporting period endorsements offered under
claims-made policies, the discovery provision of the policy applies. However,
this is not the case with a significant minority of insurers' policy forms.
The purpose of this article is to explain why this distinction is critical.
A Claim Scenario Involving an Extended Reporting Endorsement
An employment practices liability policy expires on January 1, 2002, at which
time the organization buys a 1-year ERP. On July 1, 2002, the organization first
becomes aware of a wrongful act that took place while the policy was in force,
which will probably, but has not yet, materialized into a formal claim. The
insured reports these circumstances to its insurer the next day.
Under the wording of some insurers' ERP endorsements, the reporting of such
circumstances would trigger coverage. However, under other insurers' ERP wording,
no coverage would apply until the organization had a formal claim made against
it. This difference is illustrated in Figure 1.
Figure 1
In Scenario #2, the insured would be compelled to continue purchasing ERPs
until the incident developed into a formal claim. However, under most claims-made
forms, an insured is permitted to buy only a single 1-year ERP. Given this constraint,
the advantage of purchasing an ERP in which the policy's discovery provision
is operative, is apparent.
The actual policy wording of these two approaches is illustrated in Figure
2.
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Discovery Provision Operative during ERP
|
The INSURER shall pay on behalf of the DIRECTORS
and OFFICERS any and all sums which they shall become legally obligated
to pay as ULTIMATE NET LOSS … by reason of any WRONGFUL ACT which takes
place during the COVERAGE PERIOD and is actually or allegedly caused,
committed or attempted by the DIRECTORS or OFFICERS while acting in
their respective capacities as DIRECTORS or OFFICERS, provided such
ULTIMATE NET LOSS arises from a CLAIM first made against the DIRECTORS
or OFFICERS during the POLICY PERIOD or during the DISCOVERY PERIOD,
if purchased.
- CLAIM: The term "CLAIM" shall mean…
(2) written notice to the INSURER during the POLICY PERIOD or
during the DISCOVERY PERIOD, if purchased, by the DIRECTORS, OFFICERS
and/or the COMPANY, describing with the specificity set forth in
Condition (C) hereof, circumstances of which they are aware involving
an identifiable WRONGFUL ACT … which circumstances are likely to
give rise to a demand, suit or proceeding being made against such
DIRECTORS and/or OFFICERS.
Source: Associated Electric & Gas Insurance Services
(AEGIS) Limited; Directors and Officers Liability Insurance; 6100 (1/2000)
|
|
Discovery Provision Not Operative during ERP
|
This Policy shall pay the Loss of each and every
Director or Officer of the Company arising from any Claim first made
against the Directors or Officers during the Policy Period or the Extended
Reporting Period (if applicable) for any actual or alleged Wrongful
Act.…
- "Claim" means:
- a written demand for monetary or non-monetary relief, or
- a civil, criminal, administrative or arbitration proceeding
for monetary or non-monetary relief which is commenced by:
- service of a complaint or similar pleading, or
- return of an indictment (in the case of a criminal proceeding),
or
- receipt or filing of a notice of charges.
Source: Carolina Casualty Insurance Company; Directors'
and Officers' and Corporate Liability Insurance Policy; DO 21200 (07-96)
|
A Key Caveat: No Coverage for Wrongful Acts Taking Place during the ERP
There is one key caveat associated with the operation of discovery provisions
during ERPs: coverage does not apply if the wrongful act that gave rise to the
claim, took place during the ERP, even if the incident is also reported to the
insurer during the ERP. (Note the language in the AEGIS policy, above, indicating
that for coverage to apply, the wrongful act must take place during the "coverage
period.") Rather, under all ERPs, the wrongful act must always take place during
the term of the expired or canceled policy. This is illustrated in Figure 3.
Figure 3
Conclusion
By now, it should be apparent that an insured benefits significantly when
a claims-made policy's discovery clause is operative during the term of an ERP
provision. Accordingly, an ERP provision of this kind should always be insisted
upon prior to the inception of a policy. On the other hand, assume that an insured
has a policy in which the discovery provision is not operative during the ERP.
Attempting to modify that policy so that its discovery provision will be applicable—but
after that policy has expired or been canceled—is extremely difficult. Unfortunately,
at this juncture, the insured has little or no negotiating leverage.
Opinions expressed in Expert Commentary articles are those of the author and are
not necessarily held by the author’s employer or IRMI. This article does not purport
to provide legal, accounting, or other professional advice or opinion. If such advice
is needed, consult with your attorney, accountant, or other qualified adviser.