All liability policies were once drafted as occurrence-based policies i.e. they insured liability arising from bodily injury or property damage that occurred during the policy period.This formula for triggering cover under a policy can create headaches for liability insurers if there is a delay between the occurrence of the bodily injury or the property damage, and the discovery of it. One of the worst examples was the discovery last century of just how harmful asbestos is to humans. Although workers’ lungs were being injured at the time of their exposure to asbestos, the first symptoms of their injuries took decades to appear. In jurisdictions like the U.S.A. where there is no ACC and where bodily injury litigation is common, employees were suing their employers decades after their lungs were first injured. Employers were then notifying their liability insurers for the first time in relation to policies that had expired decades earlier.This meant that insurers had to raise reserves on policies they had long closed off in their accounts. In the insurance industry, this problem is referred to as the long tail of liability insurance. Another example in New Zealand has been the leaky building claims. While not as extreme as the asbestos example, insurers were being notified of claims for policy periods up to 10 years earlier.Reserving is a serious business for insurers. When a claim is notified, insurers set aside in their accounts the best estimate available of the cost of the claim. This way an insurer can assess its solvency reasonably accurately on a day-to-day basis. Insurers have reserving committees and actuaries reviewing their reserves on a regular basis. When the Australian insurer HIH collapsed some years ago, one of the reasons given for its insolvency was incorrect reserving.Claims-made and notified policies
The answer to the long tail of liability insurance was the creation of the claims-made and notified liability policy. By changing the trigger for cover from when the damage occurred to when the insured is first notified of being held liable for the damage (or first becomes aware of that likelihood), a line could be drawn under the insurer’s exposure to claims when a policy year expires. This enhanced the accuracy of reserving.Section 9 Insurance Law Reform Act 1977
All was well in New Zealand until 1995 when the Court of Appeal held that section 9 of New Zealand’s Insurance Law Reform Act 1977 applied to claims-made and notified policies also. Section 9 is a remedial section restricting an insurer’s right under an occurrence-based wording to decline a claim simply because it wasn’t notified within an arbitrary period (often 30 days). Section 9 prohibits an insurer from taking this point unless it is so prejudiced by the delay, it would be unfair if it had to meet the claim. However, if the delay causes an escalation in the claim payment, the insurer is relieved of paying the extra amount. Section 9 was never intended to apply to claims-made and notified policies. In the Law Commission’s report in May 1998, it referred to the Court of Appeal decision and said:
The Law Commission considers that this is an unsatisfactory outcome and one that changes the bargain in a way that is unfair to insurers.”It is particularly unfair to PI and D&O insurers, which often face claims for pure economic loss. They cannot avail themselves of the provision relieving insurers from paying the extra cost of ‘repairing, replacing, or reinstating the property’. The fact that the section doesn’t foresee claims for pure economic loss adds weight to the argument that it was never intended to apply to claims-made and notified policies.Minister of Education and others v McKee Fehl Constructors Limited and others
… the test is an objective one, requiring notice when a reasonable person in the insured’s position would consider that there was a reasonable possibility of a claim. Notice is not required if the possibility of a claim is remote or unlikely. However, providing there is a real or definite risk of a claim, notice is required even if the claim is not probable.”The court noted that this required two key questions to be answered:
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