The bigger the better

Professional indemnity insurance in the coming year will likely be more of a headache for the smaller firms, but the bigger players should have an easier time of it, says Sandra Neilson-Moore

From 2000 through to 2002 the market for solicitors’ professional indemnity insurance had the following characteristics: intense insurer competition and lower insurance premiums for all firms.

From 2002 to 2004 the market ­hardened following 9/11 and premiums increased for all firms. From 2004 to 2008 the market saw continuously decreasing premiums; however, 2008 was also the year the market hardened for smaller firms.

Reduced competition, tougher underwriting, increased premiums, fewer options – the market remained soft for larger firms, with brisk competition and continuing ­reductions in rates and premiums.

During this time, 47 primary qualifying insurers have been involved and there are 20 or so participating now. However, this is deceptive, because the market is both ­highly segmented and heavily concentrated.

For example, one insurer writes primary coverage for a handful of the largest firms, while other insurers prefer firms outside the top 20 and others underwrite only small firms and sole practitioners.

Over 80 per cent of the premium applicable to the qualifying coverage is underwritten by six insurers. Some 75 per cent of the ­qualifying insurers reduced their market shares last year, particularly in the small firm and sole practitioner area. This was taken up largely by one insurer, new to the market in 2006, which underwrote 2,000 firms (£10m of premium) in 2007 and 4,000 firms (£22m of premium) in 2008.

The market resembles a diamond, with the largest firms at the top, firms with between two and three partners in the ­middle and sole practitioners at the bottom. At the top and bottom only a few primary insurers participate, while for those firms in the middle there is more choice.

Claims activity

The major qualifying insurers say that ­recession-related claims are on the increase. They cite an ‘uptick’ in claims arising from mortgage fraud and general dishonesty, ­particularly relating to smaller firms.

For medium-sized firms, cancelled ­property developments are resulting in the threat of claims. Several firms have said that some of their big property developer clients have hired new solicitors and are asking for all their files. Clearly, the new solicitors are going to trawl through these files looking
for ways to come after the law firm for ­negligence.

Even in the best firms there has been ‘sloppy work’ on transactions both large and small. The sheer press of work has ­contributed to ‘corner cutting’ that may come back to haunt some firms.

Counterclaims for negligence, following actions for recovery of unpaid fees, are also on the increase. Invariably, if an action is taken against non-payers they will bring a counterclaim for negligence. Even if there is no liability, these may be costly and ­embarrassing.

Insurers believe that eventually the larger firms will see claims against them ­connected with investment scams and collateralised debt obligation spiral, not least because they carry considerable levels of insurance on a very broad form. However, there is as yet no sign of this and large law firms do not see an exposure to themselves here.

2009 market conditions

The market is still very competitive for ­larger firms. We expect to see flat premiums or 5-10 per cent increases at most. ­Conversely, many insurers will seek to reduce further their ­participation with smaller firms, where they see frequency of claims, very broad cover, very low premiums and small returns.

The terms and conditions of the qualifying insurance are exceptionally broad. Even if there has been material misrepresentation, or fraud, or the firm cannot pay the excess, the insurer must pay the claim and try to recover from the firm afterwards.

Then there is the automatic six-year runoff coverage granted if a firm ceases without a successor. If there is a premium due for this, and the firm cannot pay it, the insurer still has to provide the cover and can only seek to recover this as a creditor of the firm.

In today’s difficult economic climate, sole practitioners and smaller firms are seen by insurers as more dangerous to insure than their larger counterparts.

The future

Insurers will be hoping to charge higher premiums to fund the increased claims they expect to see. This will come as unwelcome news to firms that are struggling to cut costs. Competition, where available, will come into play as brokers resist insurers’ desire for premium increases.

The negotiation season has begun. For smaller firms, the belief is that the market trends will be:

  • rate increases and a reduction in ­available alternatives;
  • insurers continuing to purge their books of firms they do not want and seeking increased rates for the rest; and
  • an increase in the number of firms forced into the assigned risk pool.
  • And for larger firms:
  • small increases or flat premiums (the big claims that insurers fear have so far not materialised and there is still considerable competition among insurers); and
  • firms making buying decisions early (insurers may close their books early and it will not be prudent to hold out to the last minute in the hope of better terms).

Sandra Neilson-Moore is practice leader for law firms at insurer Marsh in London