Risk Managers Will Benefit by Sharing Insurance Policies with Inside Lawyers
In most American companies, the insurance procurement and management function resides in the finance division, reporting up through the treasurer’s office and, ultimately, to the CFO. The legal department is normally not involved in the process, with the usual exception of the D&O liability insurance (because that particular policy often draws the interest of the CEO, board and CFO, who ask for legal review).
This characteristic is unfortunate. When management takes a step back to examine this isolation of insurance matters within the finance function, a few important questions emerge. Why are these complicated legal contracts not provided legal review, when countless other supply chain contracts, involving much less money, receive such review? If the legal function is expected to manage liabilities when they “arrive”, shouldn’t it be at the table when liability insurance terms are agreed to? What possible downside is there to more collaboration between the risk management and legal groups?
Interestingly, the separation of these two functions is pretty much an American fact that is not shared globally. In Europe, for example, (where the business insurance industry and profession is rooted in places like England, Switzerland, Germany and, more recently, Ireland), it is much more customary for the company legal department to manage and purchase insurance for the enterprise.
We do not suggest that companies should move the insurance management function lock-stock-and-barrel to the legal department. There is no “one and only” group that is uniquely suited for the role. But we do believe that all companies would benefit from increased collaboration between the risk management and legal functions; that the benefits can be large in terms of contract terms more favorable to the company and in correctly understanding as an enterprise what is and what is not covered by the contracts; and that there is no downside in any event to increasing the collaboration.
Just One Example: Treatment of Defense Costs in the General Liability Insurance Program
Even in large companies that ask us for an independent review of their insurance terms and program structures, we often find surprisingly adverse terms in the liability insurance as to who bears the burden of high defense costs in litigation matters. Too frequently, the legal group is under the impression that the risk management group has purchased insurance with a “duty to defend” the company, and that therefore the insurer will be handling the defense of cases by hiring law firms to represent the company, and paying them for their work. This is an understandable assumption. It is also nearly always wrong, unless there has been collaboration between the two groups in securing the liability insurance.
Where there has not been collaboration, we normally find that the contract terms require the company to pay all legal expenses and other defense costs in nearly all cases that are likely to occur, in addition to the expected “self insured retention” or deductible that applies to each and every loss, judgment, or settlement.
On the other hand, where there has been collaboration, affording the legal department the opportunity to negotiate with the broker and the insurance company, there will usually be much more favorable terms. For example, the expenses paid by the company for legal defense will often be applied toward the SIR or deductible, so that the company at least enjoys that benefit in return for paying them.
Take a case that settles for $250,000 after legal expenses of another $250,000. If the policy contains an SIR of $250K, and the insured must pay legal costs in addition to the SIR, the outcome is: company’s total loss=$500K; insurer’s loss= $-0-. But if the policy states that legal expenses paid by the policyholder apply towards the SIR, the outcome would be: company’s total loss $250K; insurer’s loss=also, $250K.
Given the chance to see this in advance, a law department will see the significance of this difference in a New York minute. And, clearly, the insurance producing the second outcome is much more valuable than that producing the first outcome.
In our experience, good insurance companies (and nearly all of them are reputable and well-run) welcome the involvement of the customer’s legal group in reviewing and understanding their insurance products. Like any other producer, insurers believe they are offering value, through many options, and they want their customers to properly understand what they are buying, and what they have chosen not to buy.
If your company is one of the many with a wall running between risk management and the law department, consider poking a hole through it and building a gateway. You won’t regret it.