In insurance, hard markets present hard choices. Policyholders often face sharply higher rates and tighter terms and conditions at renewal, along with exclusions their expiring liability coverage did not impose. In these situations, incumbent carriers may offer an extended reporting period (ERP), which lets insureds file claims after the original policy’s expiration date. Buying an ERP, however, has significant risks that insureds and their agents should consider.
An ERP provides tail coverage, typically for one year or up to six years, under the expiring terms and conditions of the original policy. The extended reporting period is only available or needed on claims-made policies and is most commonly seen utilized on directors’ and officers’ liability, professional liability and employment practices liability policies.
A strategy that insureds might use to temporarily preserve broader coverage in a tightening market is to purchase an ERP on their expiring policy and buy a new policy for future claims. This dual-policy approach in theory lets an insured tap coverage for claims that developed during the expiring policy period. The new policy would apply to claims filed after the old policy’s expiration date but might exclude coverage that was available under the old policy.
For example, Widget Manufacturing Company has employment practices liability (EPL) coverage but had to lay off workers in 2020 as demand for its products falls during the pandemic. Its insurance carrier agrees to renew the EPL coverage but insists on an exclusion for layoffs and terminations, as do other EPL insurers issuing quotes. Widget Manufacturing anticipates it will face lawsuits following the workforce reduction. One option is to buy a one-year ERP on the expiring EPL coverage, which does not exclude coverage for layoffs/terminations and therefore could respond to claims arising from the layoffs. The ERP allows coverage of past acts, i.e. the layoffs. To protect against its new or going- forward EPL exposures, Widget Manufacturing decides to buy a new policy, which it knows won’t cover past acts but will respond to acts after the policy renewal date.
Coverage for claims through an ERP and a new set of policy limits for future EPL claims may sound like a good solution. What could possibly go wrong? As it turns out, quite a lot.
DOWNSIDES OF AN ERP
Extended reporting periods have several downsides for insureds, including:
Expense. A one-year ERP typically costs 100% of the expiring premium. A longer ERP will cost even more. Some carriers will not set terms and price an ERP until an insured requests one, and because it’s a one-time purchase, a carrier can opportunistically charge more.
No additional limit. An ERP only extends the time to file claims. It does not provide additional limits, so an insured that has already filed a claim against its expiring policy will have less coverage to work with for the duration of the reporting period. If a pending claim grows, it can erode most or all of the remaining coverage, after the insured has already paid for the ERP.
Conditional availability. Some carriers will only offer an ERP as one-way tail coverage, meaning the reporting period is available on the condition that the carrier must first cancel or non-renew the policy. A two-way tail means the policyholder may opt for an ERP without conditional cancellation or non-renewal. This might not seem significant, except that future insurance coverage applications likely will require insureds to disclose whether their previous coverage was canceled or non-renewed. Could that fact, through no fault of the insured, prejudice other underwriters? It might.
Market dynamics. Because ERPs come into play during hard markets, they essentially are an attempt to prolong expiring policies until insureds can obtain more favorable coverage. However, there is no guarantee that market conditions will soften or that carriers will relax terms and conditions after an ERP ends. Historically, hard markets have not lasted more than a few years, but such cycles are tough to predict.
The most challenging issue with an ERP happens to be the biggest risk: the possibility that the carrier will deny coverage for claims. If the insured’s new policy offers no coverage for prior acts or has exclusions the old policy does not, it’s very possible for coverage gaps to arise.
Most policies provide insureds the option to notify their insurers of potential claims, through wordings such as an “awareness” provision or “notice of potential claim” provision. An alternative to an ERP is for insureds to provide a laundry list of potential claims. But that approach might be a minefield in itself. The devil is quite literally in the details, because carriers require specific details about potential claims. In addition, it’s impossible to predict every claim. An insured could make a good-faith report of potential claims and still face liability it didn’t foresee, in which case the carrier might deny coverage because that particular incident had not been reported.
Under most liability policies, a claim is defined as “a demand for damages.” A letter from a claimant’s attorney, a lawsuit or some other written demand, are clear examples. A verbal threat of litigation might not meet the carrier’s threshold for potential claims. In any case, the plaintiff might sue for reasons other than those implied in the verbal threat. Either way, the carrier might deny coverage, citing lack of notice.
WHAT RETAILERS CAN DO
Retail agents have an important role to play in helping insureds maintain continuous protection, regardless of market conditions. Sometimes an extended reporting period may appear to be an insured’s best or only option, but it takes expert advice to discern and choose the most appropriate course of action.
To find the broadest and best available coverage in a difficult marketplace, clear communication and ample time are essential. When markets harden, processes tend to slow down. Retailers should therefore initiate renewal discussions earlier and involve wholesale specialists sooner.
Extended reporting periods in liability policies can provide temporary solutions in tight insurance markets, but they come with risks for insureds. To assess whether an ERP makes sense and to obtain the best available risk management solutions, retail agents and their insureds should begin the renewal process earlier than usual and seek the advice of wholesale specialists with experience in navigating hard market cycles.
For more information contact your CRC Group producer.
- Mike Robison is a Senior Broker in CRC’s Dallas office and ExecPro National Practice Leader.
- Linda Caruthers is Vice President, Director in CRC’s Minneapolis and active member of the ExecPro Practice Group.
- “Pandemic Roiling D&O Market,” CRC Group, April 16, 2020; https://www.crcgroup.com/Tools-Intel/post/pandemic-roiling-d-o-marketplace
- “As COVID-19 Spreads, Beware of EPL Risks,” CRC Group, April 3, 2020; https://www.crcgroup.com/Tools-Intel/post/as-covid-19-spreads-beware-of-epl-risks
- “2020 State of the Market at a Glance,” CRC Group, March 16, 2020; https://www.crcgroup.com/Tools-Intel/post/2020-state-of-the-market-at-a-glance-casualty-construction-execpro- healthcare-and-property