Peace of Mind: The Prompt Reporting of an Insurance Claim

By Michael Krasner and Anthony Colavita

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In 2004, the Nassau County District Attorney learned of the embezzlement and opened an investigation, supplemented with an investigation by the New York State Controller. When the superintendent learned of these investigations, he convinced the school district’s outside accountant to change data in the district’s computer system and then provide false documents to the investigators.

Three years often the school board’s decision not to report the embezzlement, the administrator, the superintendent, and the accountant have pled guilty to various crimes, and other district employees have been implicated in a widespread larceny and cover-up that has exceeded $11 million. The board’s decision not to disclose the loss in 2002 has also compromised the district’s ability to collect from its insurance companies; several insurers have denied coverage for the loss because they were not promptly notified of the loss. Meanwhile, a new school board has sued the former board members as well as the district’s former attorneys and auditors. [See “Failure to File Timely Insurance Claim May Cost Plundered School System Millions, by alison Cowan, New York Times, December 5, 2005].

Ironically, late notification also caused the denial of claims under the directors and officers liability insurance coverage for the former board members being sued by their successors. Forced to spend thousands of dollars for their own legal defense, the former board members have stated that they are being unfairly punished for having relied on the professionals who advised them not to report the embezzlement in the first place. Additionally, when the district had to renew its liability insurance program, the submitted applications were silent about the embezzlement, and this opened the district to policy rescission based upon misrepresentation [New York Insurance Law section 3105 and Process Plants Corp. v. Beneficial National Life Insurance Co., 385 N.Y.S.2d 308 (1st Dept. 1976), affd, N.Y.S.2d 1007 (1977)]. Rescission is an insurer’s remedy for policyholder misrepresentation in the application for insurance, and, upon return of premium, acts to void the policy and relieve the insurer of all obligations under the policy. Simply stated, if a court orders rescission, it is as if the policy never existed.

Some view late claim reporting as merely a “technical” or “nonmaterial” breach of the timely notice provision in the insurance contract. Others see it as a potential form of collusion with fraud perpetrators, and recognize the insurer’s need at an early time to investigate, set reserves, and control the defense. Either way, the ability of insurers to deny coverage because of untimely notice can be a catastrophe for the insured.

New York Law of Claim Notification

An essential condition precedent to coverage under a professional liability policy is strict adherence to the notification provisions. According to Security Mutual Insurance Company of New York v. Acker-Fitzsimons Corp. [340 N.Y.S.2d 902 (1972)], under New York law, an insurer is not obligated to provide coverage in the absence of timely notice in accordance with the policy terms. Because the consequence of untimely notice for the policyholder is the forfeiture of any defense and indemnity obligations on an otherwise covered claim, the importance of policy notice provisions cannot be overstated. What triggers the notice requirement varies, as shown by these examples, taken from professional liability policies:

Notice of Claims. As a condition precedent to the right to the protection afforded by this insurance, the Insured shall, as soon as practicable, give to the Company written notice of any claim made against the Insured. In the event suit is brought against the Insured, the Insured shall immediately forward to the Company every demand, notice, summons or other process received directly or by the Insured’s representatives.

Notice of Claim or Suit. Upon the insured becoming aware of any act or omission which might reasonably be expected to be the basis of a claim or suit covered thereby, written notice shall be given by or on behalf of the insured to the company or any of its authorized agents as soon as practicable, together with the fullest information obtainable. If claim is made or suit is brought against the insured, the insured shall immediately forward to the company every demand, notice, summons or other process received by him or his representative.

Both notice provisions require notification of a “claim” that is generally defined as a demand received by the insured for money or services [Evanston Insurance Co. v. GAB Business Services, 521 N.Y.S.2d 692 (1st Dept., 1987)]. The notice provision in the second example, however, also requires notification when the policyholder becomes aware of a potential claim, or of circumstances that may result in a future claim.

The New York courts have wrestled with the concept of timely notice and generally focus on whether notice is provided “as soon as practicable.” In the landmark case of Mighty Midgets v. Centennial Insurance Company [416 N.Y.S.2d 559 (1979)], the New York Court of Appeals had an opportunity to interpret this critical policy term:

It is well settled that the phrase “as soon as practicable” is an elastic one, not to be defined in a vacuum. By no means does it connote an ironbound requirement that notice be “immediate” or even “prompt,” relative as even those concepts often are: “soon,” a term close to each of these in common parlance, is expressly qualified in the policy here by the word “practicable.” Nor was compliance with the insurance policy’s temporal requirement to be measured simply by how long it was before written notification came forth. More crucial was [that] the reason be given “as soon as practicable” called for a determination of what was within a reasonable time in the light of the facts and circumstances of the case at hand.

The courts have carved out several exceptions to this condition precedent to coverage, so that delay or failure to give timely notice may be excused if the insured had reasonable belief of no liability for the claimant’s injuries [Paramount Insurance Co. v. Rosedale Gardens, Inc., 743 N.Y.S.2d 59 (1st Dept. 2002, citing 875 Forest Corp. v. Aetna Casualty & Surety Co., 322 N.Y.S.2d 53 (1st Dept. 1971), aff’d 332 N.Y.S.2d 896 (1972)] or that no claim arising out of the wrongful act would be made [SSBSS Realty v. Public Service Mutual Insurance Co., 677 N.Y.S.2d 136 (1st Dept. 1998), citing White v. New York, 598 N.Y.S.2d 759 (1993)]. Generally, the question of whether the delay in providing notice is excusable is a question of fact for the jury, but a delay may be unreasonable as a matter of law when either no excuse is advanced or the excuse is meritless. As the Second Circuit Court of Appeals in Olin v. Insurance Co. of North America [996 F.2d 718 (2d Cir. 1992)] explained:

In assessing an insurer’s claim of an untimely notice of occurrence, “The test for determining whether the notice provision has been triggered is whether the circumstances known to the insured at that time would have suggested to a reasonable person the possibility of a claim.” Moreover, a policy stating that notice of an occurrence be given “as soon as practicable … requires that notice be given within a reasonable time under all the circumstances.” In some cases, even short delays will render a notice untimely.

Seemingly inconsequential delays of less than 30 days have been found to preclude coverage: 10 days in Haas Tobacco Co. v. American Fidelity Co. [226 N.Y.343 (1919)], 22 days in Rushing v. Commercial Casualty Insurance Co. [251 N.Y.302 (1929)]. The following reasons were given by New York courts for upholding strict compliance with policy notice provisions: protecting the insurer against fraud or collusion; giving the insurer an opportunity to investigate claims while evidence is fresh; allowing the insurer to make an early estimate of potential exposure and establish adequate reserve; and giving the insurer an opportunity to exercise early control of claims [see Unigard Security Insurance Co. v. North River Insurance Co., 584 N.Y.S.2d 290 (1992)].

The upholding of policy provisions on timely notice is so fundamental in New York that, unlike in most jurisdictions, an insurer can disclaim coverage without having to show that it was prejudiced by the delay [Argo Corp. v. Greater New York Mutual Insurance Co., 794 N.Y.S.2d 704 (2005)]. While this can be viewed as inequitable and contrary to modern contract interpretation, the New York Court of Appeals upheld this rule in 2005, and thus it remains the established law in New York.

Taking Action

Prompt notification must be provided to an insurance company of any incident that may result in a claim. There is simply no benefit to the policyholder or the insurance carrier from delaying notification. Certain insurers take a proactive approach to risk management and encourage policyholders to call early with their questions, concerns, and problems while an issue is still manageable.

The earlier an insurer knows about a professional error or omission, the easier it is for it to take corrective actions, negotiate a resolution, or prepare a defense. The potential loss of time, money, and reputation in dealing with a lawsuit can all be minimized with timely notice. Conversely, late reporting makes it more difficult to take proactive measures to prevent or mitigate a claim.

Some insurers agree so strongly in early intervention to avoid or mitigate claims that they have taken several steps to encourage early reporting. For example, insurers have reduced the policyholder’s deductible by 50% for any potential claim that is reported before the claim is made; absorbed attorney fees to policyholders in pre-claim situations; and have not imposed any surcharges because a matter was reported before it became a claim, or even because of claim reporting.

There is no reason why a professional should not promptly report a claim as required under professional liability policies. This will avoid potential forfeiture of insurance benefits for an otherwise covered claim.