Posted by Brian Boehmer, a partner in the UK Professions team at Legal Futures Associate Lockton
Boehmer: Severity of claims has increased dramatically
Since the abolition of the Solicitors Indemnity Fund, the October professional indemnity insurance (PII) renewal season has always been a challenge. Many law firms have had fluctuations in premium, but it has been a number of years since a renewal season has had such a significant financial impact on the profession.
Despite the freedom of renewal date, there are still two main renewal periods: spring and late summer. The latter season just past resulted in a vast number of practices paying more for their insurance.
However, some firm will have bucked this trend, seeing unchanged or even lower premiums. But these will have been quite few and far between.
We have found that more practices are falling into the extended indemnity period than ever before. An analysis of the new business enquiries seen since 1 October indicates a plethora of reasons for this, including insurer exits and a change in risk appetite from participating insurers, but also, worryingly, that many practices are simply leaving their insurance to the last minute.
The first part of this blog looks at the market conditions that influenced this renewal season and the second part, published next week, will detail what we saw.
Market conditions
The PII market has been incredibly competitive for a number of years, awash with capital finding its way into the insurance market, resulting in an increased appetite and hunger from insurers often looking to achieve top-line growth.
Whilst the claims environment was previously quite benign, this would seem perfectly logical. The problem is that professional indemnity is long-tail liability insurance, meaning it can take months but more often years before claims crystallise. As such, insurers will have to wait for many years to establish whether they have turned a profit in any given insurance year.
With an increase in both claims frequency and severity impacting insurers, a change in market conditions was coming, but no one could quite predict when. A key catalyst for the change in market conditions was the 2018 Lloyd’s of London review, which painted quite a dim picture of the PII marketplace.
The review highlighted significant losses within Lloyd’s of more than £500m, with numerous known claims yet to crystallise.
Lloyd’s took dramatic steps, forcing those syndicates operating within its framework to make significant changes to their business plans with the aim of returning this class to profitability.
Some syndicates did not have to change much, if at all, whereas others had to change quite dramatically. This limited the amount of business they could write and those syndicates where the change was too great were forced to close or made the decision not to continue in the class.
Lloyd’s doesn’t operate in a bubble; insurers and syndicates operating inside of Lloyd’s compete on a daily basis with those insurers outside of it. Therefore, if the results of Lloyd’s are poor, then it is quite feasible for the results outside of Lloyd’s share similar characteristics.
The attention caused by the Lloyd’s results and well-publicised remedial action seemed to create a greater focus on underwriting performance across the insurance market. Insurers were looking to review their portfolio in greater detail, including review of their risk exposures, which naturally has led to a change in appetite for business from certain insurers, along with some insurer casualties too.
Looking specifically at the legal profession, we have seen a steady rise in the frequency of claims, whereas the severity of claims has increased dramatically, meaning that the number of claims breaching the compulsory primary layer of indemnity and impacting on the layers above has reached unprecedented levels.
Annually, there has always been a minority of claims that have impacted on these higher layers, but we have never seen such a volume of losses since the open market began in 2000. And to think that, just over a year ago, the Solicitors Regulation Authority was consulting on reducing the mandatory limit of cover for practices to £500,000.
No practice area seems to be immune from claims activity, even those that are traditionally considered to be low risk.
The largest losses experienced by the profession have come from multiple areas of practice but most notably from commercial and conveyancing work (both residential and commercial).
Probate claims have become increasingly costly too – with contentious probate a growth area for a number of practices, this stands to reason. Cyber-related claims remain particularly prevalent and costly too, as do claims emanating from pension trustee work. If solicitors get it wrong in this area, then the claims can be vast.
Considering the claims environment, and the breadth of coverage afforded under the minimum terms and conditions, it is quite understandable that co-insurance is becoming increasingly common, as insurers look to reduce any potential volatility in their portfolio by sharing both risk and reward.
This has been the case for some larger practices for some time and now it has become more common for smaller practices too. This is particularly true if a practice is involved in complex areas or are involved in high-value transactions, or if they undertake work for large PLCs or global enterprises and ultra-high net-worth individuals.
The market for the additional layer of insurance experienced further rate increases, in part due to the claims environment but also through a distinct lack of choice. This led to very few willing insurers wishing to deploy their capital at the first attachment point above the compulsory limit of indemnity.
This may be driven by insurers’ actuaries looking at claims performance, or it could have been forced on them as a requirement under their reinsurance treaty. This effectively does not permit insurers to attach below a certain level – a common minimum attachment point appears to be £10m – due to the claims activity in the first excess layer above the compulsory limit.
Underwriters are traditionally quite inquisitive characters, and in light of the market conditions, even more questions were being posed than they have been in recent years. Notably excess layer insurers required a lot more information than they have ever requested before.
Insurers were generally holding firm on rate. In recent times, economies of scale were often achieved when a firm had experienced fee growth. Discounts would be applied so the overall premium may not have changed, but the fee income had increased, hence the rate decreasing as a result.
During this renewal window, however, many insurers took a different approach: if fees had grown by 10%, the proposed premium would often increase by the same amount.
It is widely expected that market conditions will get worse before they get better. As such, insurers were often charging an additional premium to provide an extended period of insurance.
In the recent past, some insurers even incentivised practices to take longer-term deals, but this year they either were not offering any long-term arrangement or were charging practices for the privilege.
The second part of this blog will be published next week
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