PII special: overview

When it comes to professional indemnity insurance, things are looking good for solicitors.

There is plenty of capacity in the market, with two new entrants into the Law Society’s insurer list this year – Pelican and Pen. And following Elite’s announcement in February that it is leaving the solicitors’ PII market, while Alpha is no longer writing new policies, capacity is now almost entirely provided by rated insurers.

Miller broker Richard Brown says: ‘The overriding message is that the market is going to be benign. There seems to be plenty of capacity from good A-rated insurers… Cover is pretty plentiful, but there are still some issues around the type of work. If you are doing conveyancing, for example, there are a good number of options, but not as many as for other areas of work.’

Brown adds that insurers are also becoming more cautious where firms are doing commercial work, and also probate. A potential rise in probate claims is being driven by social change and a rise in people with second or third families.

With benign conditions having prevailed for several years, some experts feel that insurers are becoming more assertive in trying to recoup losses from solicitors where they have paid out on a claim.

Frank Maher, a partner at niche law firm Legal Risk, says: ‘At present firms get quite broad cover, but we are seeing more coverage disputes. The insurer has to cover the claim, but will then see if it should have been notified earlier, or if the previous insurer should have been notified, and it can then recoup what it has paid out.’

Maher explains that he is seeing more of these disputes; he is advising on one involving a four-partner conveyancing practice which is facing a potential liability of £400,000.

‘The client bought a property, and the neighbour then said the buyer did not have access to it,’ Maher says. ‘It has involved going through deeds dating back decades and getting witness evidence on the use of the property. But ultimately the right of access did not exist, so then there was a claim against the firm.

‘The insurers say that the firm should have notified them straight away, and it could then have bought an alternative access for far less than being asked to pay £400,000.

‘This is a fairly typical claim and we are seeing quite a lot of this now. It is partly due to insurance being relatively cheap for a number of years; so insurers are trying to protect themselves and be more vigorous in recovering losses from breaches by insureds. There is certainly more of that on the horizon.’

One particular area of dispute with insurers – and one that recently made its way to the Court of Appeal – is the issue of aggregation. A solicitor’s insurance policy will cover up to the limit of indemnity for each and every claim. As Maher explains: ‘So if you have cover of £3m, and you have 30 claims worth £3m each, you are covered for all of them. The insurers have infinite liability, which is something that you do not get elsewhere, for example in the US.’

But there is one restriction on this, known as the aggregation clause, for claims that arise from the same incident. So if, taking Maher’s example above, all 30 of the £3m claims stemmed from negligent advice in relation to the same investment scheme, then the insurer’s liability would be limited to £3m. For insurers, an awful lot of money rests on how aggregation clauses are applied. This issue was brought before the courts in AIG Europe v OC320301 LLP and others [2016] EWCA Civ 367.

In AIG, a law firm had acted for a UK property development company which had attempted to create two developments, in Turkey and Morocco, which attracted more than 200 investors. Both property schemes failed and investors lost out because the law firm had released monies from escrow, allegedly in breach of the arrangement that had been set up to protect them.

The key issue was whether the investors’ claims could be aggregated and treated as a single claim. The insurers argued that this was possible because the claims were related and stemmed from similar acts or omissions.

At first instance, the judge found against the insurers on the basis that the investors’ claims were not ‘interdependent’. But the Court of Appeal said the judge had been ‘wrong to say that the matters or transactions had to be dependent on each other’.

Disappointingly for many, however, the appeal court declined to actually decide the case, and instead sent it back down to the Commercial Court ‘to determine it in accordance with the guidance given in this judgment’.

Maher says: ‘Everyone has been left wondering. But we have got a number of cases where this is an issue; for example, rogue partners who have stolen money from a lot of estates, or investment schemes where things were not properly set up.’

Alan Radford, chair of the Law Society’s PII committee, describes the Court of Appeal ruling as ‘a fudge that everyone likes’. He adds: ‘It is not too clear, and all fact-specific. It enables everybody to argue either way, depending on what side of the fence you are on.’

Radford believes that, had the judgment made it too difficult for insurers to argue that claims should be aggregated, this may have had a detrimental impact on the PII market. ‘The insurers would not want to write the business and would have run away,’ he says. ‘A fudge is much better for everyone.’

James Jack, head of professional indemnity, bond and specialty insurance at insurer Travelers, observes: ‘The aggregation wording continues to be a challenge to the market. The Court of Appeal’s ruling was welcome, but we expect to see the vast majority of these issues being resolved by arbitration or agreement – as has been the case in the past.’

Cybercrime

In April this year, insurer QBE estimated that £85m had been stolen across the legal market by cyber-criminals in the previous 18 months. The insurer said its data indicated that 150 successful raids had been made on client accounts during that time, with at least 1,500 failed attempts. Elite cited concern over cybercrime as its reason for leaving the market in February.

Understandably, cybercrime is one of the most pressing concerns for PII insurers right now. Often dubbed ‘Friday afternoon fraud’, conveyancers can be particularly at risk, as they hold large sums in their client account which are then transferred on completion.

In one high-profile case, a sole practitioner was fooled by a fraudster who called up claiming to be from the bank RBS, telling her that her client account had been compromised, a new account had been set up, and that everything needed to be transferred over.

‘Even the big firms are getting deluged with attacks. There is huge concern about where this is going and how you stop it,’ Maher says.

He adds: ‘Clients have been receiving an endless barrage of fake emails. You get an email seemingly from the client, when you’re going to send them £1m on Friday, saying please send to this new account. It is a fraudulent interception of the client’s emails and apparently there are robots that intercept emails looking for a six-figure sort code and account number, and substitute these payment details.’

Mark Carver, professional indemnity specialist at Chancery Pii, adds: ‘Insurers are certainly asking more questions on the cybercrime issue. By the time you realise what the scam is, it has moved on – the latest one has been the interception of emails. But this is actually one of the most preventable issues that we face. The simple solution is that [before sending any payment] you verify – through the bank, by telephone with the client, or through documentation.’

There is no doubt that solicitors need to start taking extra steps whenever a client seeks to change their banking details. But in, for example, the conveyancing sector – where solicitors act for clients up and down the country and do not know the client personally – how can that verification safely be achieved? As Maher points out: ‘If you don’t know your client from Adam, then a telephone call doesn’t confirm anything.’

Where clients are long-distance, there is no easy solution. But for more local clients, in future it may become routine for solicitors to insist in their terms and conditions that a client who changes their bank account details during a transaction must present again in person, with identification.

Although it is dubbed ‘cybercrime’, where it succeeds, the breach can usually be traced back to human error – and there lies the key to stopping it.

‘The answer to this is care,’ Brown says. ‘People need to become more aware of this issue and they need to look at the security of their data. A lot of it is down to education and the human aspect.’

Jack adds that Travelers is providing case studies to its policyholder law firms to make sure they are aware of emerging risks. He says: ‘We are encouraging our firms to see cybersecurity as part and parcel of good risk management at the practice, rather than a separate issue. Investment in IT systems is important – but nothing is more important than training and supervising all staff to increase their awareness of how they can keep their business cyber-safe.’

Will losses from scams always be covered by insurers? Radford explains: ‘Scams that involve impersonation, or theft of client money, will be covered by the minimum terms and conditions [that insurers must provide] – and to be fair to insurers, in 99% of these cases they act very promptly to remedy default on the client account.’

But with cybercrime where hackers are able to obtain confidential data or achieve the ability to disable systems, not everything will necessarily fall within the insurance policy. ‘Where there is cybercrime involving theft of data and confidential information, and a hacker then tries to blackmail [the solicitor] – that would be outside the minimum terms. Some things fall within, some without,’ Radford says, adding that the Law Society is currently looking at this issue.

Changing regulators

In April the Solicitors Regulation Authority published a consultation on relaxing PII rules to make it easier for solicitors to change regulators.

The consultation seeks to take away the double burden where a solicitor has to buy six years’ run-off cover, even though they are also taking out replacement PII cover for their future business, which will also cover them for claims arising from the past six years. The SRA proposes that the run-off requirement should not be activated where the firm is moving to another approved regulator.

The SRA says the changes are intended to ‘facilitate an open and liberal market by removing unnecessary restrictions and maintaining appropriate consumer protection, recognising that the PII arrangements of all approved regulators are subject to the oversight of the Legal Services Board’.

At the same time, the Council for Licensed Conveyancers has introduced changes that came into force at the start of this month, after receiving approval from the Legal Services Board. Scrapping its current ‘master’ policy, it has moved to the open market, like solicitors. But unlike in the solicitors’ profession – where lawyers must pay for run-off cover – under the CLC rules, run-off will be provided by insurers ‘at no cost’.

The minimum amount of cover for CLC-regulated firms is £2m – the equivalent of the SRA’s £2m minimum cover requirement for sole practitioners and partnerships, but lower than the £3m minimum cover that the solicitors’ regulator demands for alternative business structures and limited liability partnerships.

Maher points out that the difference in minimum cover means that in some cases ‘there could be a loss of client protection’.

Jack adds: ‘We have been working with the SRA, as firms consider changing regulators. We’re expecting the pattern of firms adopting the ABS structure to continue, and the greater choice of regulator will have an impact on cover – this is an ongoing conversation with the SRA.

‘Some firms will go for the lowest cost and least interventionist option that works for their business. The ramifications of that have yet to be worked through for PII insurance.’

Phoney war

As well as the SRA’s current consultation on changing regulators, it is widely understood that the authority would also like to see further, more far-reaching changes to the rules governing solicitors’ PII.

As Radford explains: ‘It is a phoney war at the moment. Two years ago, the SRA came out with some half-thought-through changes for PII, in particular reducing the minimum cover from £2m or £3m down to £500,000, and reducing the compulsory run-off period from six years to three. The idea of this is that it would increase competition and reduce cost. This was given the bum’s rush at the time [because it was not based on adequate data] but we all know this is what they would still like to do. Now the SRA is trying to get evidence [from insurers] to put the arguments more cerebrally.’

If the minimum cover were to be dropped to £500,000, what would the impact be?

Jeremy Riley, a partner at Kennedys, suggests that the move could be positive for some firms. He says: ‘It would be a good thing for the solicitors’ market, on the basis that you may have a small firm that does not need that much cover, because it does not deal with the kind of matters that give rise to a £2m claim. For example, a small conveyancer – depending on the kind of housing they are dealing with – is probably unlikely to crystalise a loss of £2m.’

But others in the market disagree. Jack says: ‘The Legal Services Board previously rejected the SRA’s proposal to reduce the minimum limit to £500,000, so the SRA has sought to gather better evidence to support it. As an underwriter in the solicitors’ PI market, we contributed fully to the data-gathering exercise. But our view, which is shared by others in the market, is that a reduced minimum limit of £500,000 would have little impact on premiums – as for the majority of solicitor practices, there is little exposure above £500,000.’

Carver agrees: ‘You have to look at what is the driver behind reducing the minimum cover. At the time [of the SRA’s first consultation] the driver was price. But it will create a two-tier market and will put more pressure on the small firms. The banks are not going to accept a limit of indemnity below what law firms currently purchase.’

Brown adds that for a firm that does, for example, crime work, then minimum cover of £500,000 may well be adequate. But in reality, firms of this profile already receive lower premiums to reflect the fact that they are less likely to suffer claims against them.

Brown also notes that some insurers are concerned that, if the level of minimum cover is reduced, this may come back to bite the insurer. For instance, if there is a large claim against a law firm that goes over the indemnity limit and the firm goes bust, the insurer will then find itself on the hook for the run-off cover.

Run-off issues

Another reform which has previously been mooted by the SRA, and which is still on the regulator’s wishlist, is a reduction in the length of run-off cover that insurers must provide to firms that close, from six years to three. The logic is that most claims are actually brought within three years.

When a firm closes, its current insurer must offer six years’ run-off cover, normally priced at two-and-a-half to three times their last premium. For many, this represents a very large sum to be paid – and it can be a barrier to retirement. But in terms of the price paid for the cover received, it is a good deal. Radford says: ‘In the solicitors’ profession, there is a quarter of a billion of premium being spent every year. So the SRA has used its negotiating power to require insurers to provide six years of cover – it is actually very good value.’

Other professionals such as accountants or surveyors will typically only be able to buy two years’ cover at a time; and if they then want to purchase more, they are subject to the vagaries of the market at that time.

Radford suggests that the SRA seems to be working on an assumption that ‘if you want run-off cover, you can just go and buy it – but it’s not like going and buying car insurance’.

He says run-off cover will be ‘a really big issue going forward’.

For Carver, when it comes to PII reform, the best immediate change that could happen is actually very straighforward. He says: ‘We would be very happy not to provide run-off for six years; after all, it is the only profession that has that automatic right, even with non-payment of premium.

‘But I would like to see more simple reform – make run-off apply only where the premium is actually paid.’

Conditions look calm for this October’s renewal; but there is much movement under the surface. Change will come – it is a question of when, not if.

• For more help and information, contact the Law Society PII helpline, tel: 020 7320 9545, or see the Law Society website