Risk Management: Caveat Emptor

Risk Management

by Ed Schirick

According to the Legal Information Institute, caveat emptor is a Latin
phrase for “let the buyer beware.” This phrase projects the
idea that buyers should take responsibility for the condition of items
they purchase and should examine them before purchase. This has always
been a good principle for every insurance buyer to follow, but is especially
valuable advice during difficult insurance markets, like the one we are

Camp underwriters are continuing the refinement of their risk appetites
and operations. Some of these refinements are driven internally. External
underwriting partners (reinsurers) have imposed other changes and adjustments
on insurance companies, because they are no longer willing to support
the underwriting of certain risks. The reasoning behind these decisions
and changes may be actual — or anticipated — poor results
or may be attributable to the perceptions of key decision makers. The
sum of all the changes and fears in the insurance business these days
equals continuing uncertainty and instability for the insurance buyer
regardless of which insurance company accepts your insurance risk transfer

At times like these, nontraditional insurance solutions may be offered,
which seem to be good on the surface. Under these circumstances, remember
that not all insurance policies are alike. Just because a policy is labeled
“General Liability,” doesn’t mean it offers equivalent
coverage to the policy you have with the same name from another insurance
company. “Let the buyer beware” — in the current insurance
environment — requires a more thorough approach than simply taking
the policy from the company with the lowest cost, for example.

Non-traditional insurance solutions include claims-made liability insurance
policies, risk purchasing group programs, captive and rent-a-captive insurance
arrangements, and excess and surplus lines insurance placements. All of
these insurance solutions may be legitimate in their own right, but may
simply not be the right solution for your insurance needs. Many of the
issues surrounding these nontraditional insurance arrangements can be
quite confusing, even for insurance professionals. Some of these insurance
products may result in incomplete risk transfers, which could cost your
camp money and threaten your assets. Be aware and informed.

Claims-madeLiability Insurance

Let’s take claims-made liability insurance, for example. Claims-made
insurance policies are not new. They have historically been reserved for
risks, such as product liability and professional liability (medical malpractice
and errors and omissions), in which the claim patterns develop over long
periods of time (long tail). However, in the last couple of years claims-made
liability insurance provisions have appeared in some insurance policies
being sold to camps.

One of the key questions for insurance buyers to ask about claims-made
liability insurance is how long the supplemental extended reporting period
is and how much will it cost? The cost issue may be overlooked in the
comparison of claims-made insurance with other occurrence-based insurance
options. There are no standard responses.

The question points to one of the fundamental differences between claims-made
liability insurance and its occurrence cousin. Claims-made insurance policies
respond to claims made in writing during the policy period, which occurs
after the retroactive date. As long as your camp maintains continuous
claims-made liability insurance and the retroactive date is not changed,
a claim made in 2010 for injuries sustained in the summer of 2003 will
be covered.

Furthermore, the difference between claims-made policies and the more
traditional occurrence policy is underscored by the fact that under the
claims-made insurance in this scenario the policy and the limits in force
in 2010 will respond to the claim. In the same scenario with an occurrence-based
liability policy, the policy and limits in force at the time the claim
occurred (2003) responds no matter when the claim is made in the future.

A problem may develop when the limits in your claims-made policy in
2010 are lower than the limits carried in the claims-made policy in 2003.
No insurance buyer would willingly reduce limits if the inherent risks
in this situation were recognized, but suppose the limits you need and
want are simply not available? Another problem may develop when the camp
liability insurance carrier is changed. Claims-made insurance underwriters
may be unwilling to keep the same retroactive date, which is usually the
same as the date of the first claims-made liability policy. Moving the
retroactive date forward could leave your camp exposed if claims are brought
in the future from events occurring before the revised retroactive date.

Another problem may occur following the termination of claims-made liability
insurance. Under these circumstances, the policyholder has the right to
buy an extension of time to report claims. This extension is known as
a supplemental extended reporting period. These extended reporting periods
are usually offered for a limited time and for an additional cost. You
should know the cost of these extended reporting periods in your claims-made
policy, as well as how long the extended reporting period lasts before
you buy claims-made insurance. There is little standardization when it
comes to this issue. The problem from a risk management perspective is
that if a claim is made after the extended reporting period expires, there
might be no coverage (gap in the risk transfer plan). Under these circumstances
the camp’s assets may be at risk, and you may be forced to defend
and/or pay a claim. Caveat emptor!

Risk Purchase Groups

Risk purchasing groups (RPG’s) are also not new. RPG’s are
the result of the Federal Risk Retention Act of 1984, which permitted
similar groups of insurance buyers to join together in associations to
purchase liability insurance. While federal law spawned the group buying
approach, RPG’s are not insurance companies and can only sell insurance
through established insurance companies. Various states regulate this
process, but there is — once again — little standardization
in the insurance products offered.

For example, RPGs may issue a policy or, in lieu of a policy, issue
a certificate. If you only receive a certificate as evidence of your insurance
coverage, you may be participating in a master policy. This always needs
clarification. One question in this situation is whether you have your
own limits of liability or share the limits with all the participants
of the RPG.

Deductibles may apply to each claim and certain coverage may be limited.
For example, we have seen liability insurance offered to camps through
risk purchasing groups with limits of liability for sexual abuse and molestation
as low as $25,000.

Other concerns involve the use of non-standard clauses in RPG insurance
policies, which require a fuller examination. This may be impossible for
you to determine if you only receive a certificate as evidence of your
insurance coverage. Some buyers choose to work directly with the program
managers of these RPGs and under these circumstances, perhaps without
realizing, may be ill prepared to ask the right questions. Caveat emptor!

Captive and Rent-a-captive Insurance

Captive and rent-a-captive insurance products are considered alternative
risk funding approaches to insurance. They are very nontraditional. They
often use a traditional insurance company to work with them as a “front.”
The term sounds indelicate, but the practice is quite legitimate.

Captive and rent-a-captive insurance arrangements often require some
type of capital contribution from each policyholder to the working capital
of the insurance entity. The capital contribution is usually a percentage
of the insurance premium. Capital contributions may — or may not
— be refundable and may be forfeited if the policyholder cancels
or does not renew the insurance. Being asked to make such a capital contribution
is a tip-off that some type of captive insurance organization is in use.

There should be a document, which governs the payment of the capital
contribution and establishes the terms. However, we’ve seen one
arrangement recently for recreation businesses where there was none. Concerns
about legal issues like this are in addition to the insurance and business
risk issues inherent in captive insurance company transactions. For example,
how well capitalized is the company? Who is managing it? How long have
they been in business? What happens if operations result in a loss? Can
your business be assessed a percentage of the operating loss? What happens
and who is liable if the captive company fails? Choosing to buy insurance
through a captive insurance mechanism requires knowledge and a thorough
investigation. It also requires a long-term commitment. Ask questions
and if you aren’t sure which questions to ask get someone involved
who can be an advisor. Caveat emptor!

Excess and Surplus Lines

The excess and surplus lines marketplace plays an important role in
the delivery of insurance products and services to businesses. It is the
most firmly established of the alternative, nontraditional approaches
to insurance we’ve identified.

Since it is a free and open marketplace specializing in unusual, difficult,
and hard- to-place types of insurance, proposals from various underwriters
can vary greatly. You can usually tell that your insurance has been placed
in the excess and surplus lines market when you are asked to pay premium
taxes in addition to your premium. Fees are also a usual part of this
marketplace for inspections and other reasons.

This marketplace is also known as the nonadmitted marketplace, because
the insurance companies who participate are most often not licensed by
each state. This doesn’t mean they are less financially viable,
necessarily, but it does mean that if one becomes insolvent there is no
backup support from any state insurance guaranty fund to help pay for
your existing or future claims. Caveat emptor!

Be aware and prepared!

Ed Schirick is president of Schirick and Associates
Insurance Brokers in Rock Hill, New York, where he specializes in providing
risk management advice and in arranging insurance coverage for camps.
Schirick is a chartered property casualty underwriter and a certified
insurance counselor. He can be reached at 845-794-3113.


Originally published in the 2000 July/August
issue of Camping Magazine.