February 05, 2019
Confused by the question of cost when looking for better professional liability protection? That's understandable, since the process of pricing legal malpractice insurance has many pieces.
To understand how insurance companies arrive at your premium, first it's important to know who is responsible for setting premiums. You'll also need a basic understanding of rating terminology. Finally, it can be useful to see an example of how this process might look for a sample law firm.
Read on, and you'll find all three pieces of the pricing puzzle in my article below.
For insurance companies admitted by the state, the rating manual that governs premiums is public record and is available online in most states.
Individual State Insurance departments are responsible for the oversight of insurance premiums charged. All but a handful of states subscribe to the National Association of Insurance Commissioners (NAIC) System for Electronic Rate and Form Filing Access interface known as ‘SERFF’… THE SYSTEM FOR ELECTRONIC RATES & FORMS FILING. The SERFF system interface provides the general public access to rates and forms on file and approved by participating state insurance departments.
Participating SERFF states can be found here: https://www.serff.com/serff_filing_access.htm. SERFF filings can be accessed from any participating state insurance department’s website.
In any browser enter the state of residence for the policyholder plus “SERFF”. Once inside the Data Base for the state desired, choose the applicable Business Type of Insurance from a drop down list. Professional Liability or E & O insurance belongs to the Property and Casualty (P&C) group.
Next, enter the name of the insurance company that writes your policy. This can be tricky, with all of the branding these days so refer to your policy’s Declaration Page for the formal name of your insurer. Here are several: Continental Casualty, Professional Solutions, Berkley, United States Fire, National Liability and Casualty.
For example, take a look at the SERFF system for the Iowa Department of Insurance.
Here is a typical list of rate-making components that insurance companies use to calculate a Lawyers Professional Liability (LPL) insurance premium:
The base rate is usually the cost for a single lawyer at minimum limits of $100,000/$300,000 and a $1000 deductible. Insurance companies typically show the base rate as the first year insured on a no prior acts basis. Some, however, prefer to start with a mature base rate representing the cost on a full prior acts basis and then discount that premium for reduced prior acts exposure.
Short for prior acts step factor, this is an incremental multiplier applied to the base rate representing the number of years of previous practice exposure to be insured. The base rate is multiplied by the applicable step factor for that year until the maximum or mature prior acts step factor is reached. The multipliers increase on average 20% per year although most stagger the increase so they get more in the first several years and less later. The base rate typically assumes a full prior acts rate and discounts for reduced prior acts coverage like this: No priors in year 1: (.4470); year 2: (.6075); year 3: (.7590); year 4: (.8730); year 5: (.9340); 6th and each subsequent year thereafter @(1.0000).
The prior acts step factor applied to your overall premium tracks with the policy’s prior acts date and will impact your annual premium payment for four to six years until all of the lawyers are rated at the mature step factor. Averaging each attorney’s step factor to consolidate the factor into one firm-wide multiplier is common, and can actually benefit the maturely rated attorneys when newer attorneys, with fewer years of prior acts exposure are averaged in.
For a new practice, be sure to anticipate the annual premium increases due to step factors into your malpractice insurance budgeting.
Area of Practice Factor
A significant portion of any LPL application is a chart requesting the percentages of gross annual revenue derived from the following area of practice categories. The areas of law listed are modeled from those recognized by the American Bar Association with some editorial changes over the years. Each company has their own area of practice listing, but the common ones that you would expect are: Family Law, Real Estate, Business/Commercial, Corporate, Personal Injury Plaintiff or Defendant, Estates/Probate/Trusts, Criminal, Collection, Bankruptcy, Immigration. Etc.
Area of Practice debits or credits make up a substantial portion of the premium. Here is an example of the swing in surcharge percentages for Personal Injury and Real Estate in a typical filing:
Personal Injury/Prop Dam - Defense | -50% to 0%
Personal Injury / Property Damage - Plaintiff | +5% to +70%
Real Estate / Title - Commercial | +45% to +70%
Real Estate / Title - Residential | +5% to 70%
Increase Limit Factors
The Base Rate contemplates the lowest limit and deductible offered by the insurance company: $100,000 per claim not to exceed $300,000 for all claims during the policy year and subject to a $1000 deductible each claim. However, that limit is far from adequate for most valid claims, because the cost to defend (legal fees) are part of and reduce the limit available to pay an actual judgment or settlement. Also, all lawyers share the limit of liability, so higher limits are needed for multiple lawyer firms.
The cost of buying higher limits of liability vary by insurance company depending on the company’s nationwide loss experience and the attachment level and cost of reinsurance. Here are representative factors for typical higher limits of liability:
Solo, mature practices typically carry a $1,000,000 per claim limit these days. If Claim Expenses are paid in addition to the limit (usually for an additional cost), it may be acceptable to consider a lower limit of liability such as $500,000, but be careful to ask for the actual amount of the Claim Expense (paid) Outside of the Limit or CEOL. Typical CEOL options will cap at (or are limited to) the amount of the per claim limit - or $1,000,000 - whichever is less. An insurer that offers full claim expense in addition to the limit with no cap, is rare.
As limits increase, insurance companies demand more skin in the game. Usually minimum deductibles by limit apply, influenced by the number of lawyers insured, the area of practice, and loss experience of the firm. Here are typical deductible credit factors usually subtracted from the increase limit factor to produce a combined ILF/Ded Credit multiplier. Using the chart below and the increase limit factor for $2,000,000 from above, the combined ILF/Ded Cr for a $2,000,000 limit and a $10,000 deductible is: 2.038 - .16 or 1.878.
Staff Size Credit
The Staff Size Credit in Lawyers Professional Liability, or SSC developed from the idea that multiple lawyers share the same limit of liability under the policy. (This is polar opposite to Medical Malpractice groups where each doctor within the group is provided a separate limit of liability.)
So, not unexpected, staff size credit factors vary by insurance company. Some insurance companies even apply debits to firms of size 1 – 3. This is another method of getting more premium for the usually claim prone small law firms while not impacting the larger firms as would increasing the base rate.
In general, the Experience Rating is a calculation that looks at the number of claims with incurred** amounts of $5,000 or greater, made against the law firm in each of the last five years modified by the average prior acts years of the lawyers and size of firm. For simplicity sake, say the factor can range from -5% to +25%.
Miscellaneous Credit/Debit Factor
The Miscellaneous Credit/Debit Factor looks at multiple risk considerations and allows for a subjective application of a credit or debit that usually is limited by the insurance departments to more than -25% to +25%. The chart below is a typical example.
For illustrative purposes only. Refer to your specific insurance company for actual premiums.
The factors are multiplicative like this:
(Base Rate) (ILF/ Ded Cr) (Number of lawyers) (Average Prior acts step factor) (Area of practice factor) (Staff size credit) (Experience Factor) (Miscellaneous Factor)
Our firm is comprised of 3 lawyers, all of which have been in private practice for at least 8 years, claim free, practice revenue is: 15% Personal Injury Plaintiff, 35% Wills/ Estates/Trust, 40% Residential Real Estate, 10% commercial Business. The firm is claim free and well established so they qualify for the minimum on the surcharge range for Area of Practice. Systems and staff are all excellent for a full Miscellaneous Credit of 25%.
Base Rate is $1491
Limit is 2,000,000 = 2.38 ILF
Deductible is $5,000 = -.09
Staff Size Credit for 3 = 1.00
Miscellaneous Factor = .75
Experience Factor = .90
Prior Acts Factor = 1.00
Area of Practice (AOP):
Residential Real Estate – .05 X .40 = +.02
Personal Injury Plaintiff - .05 X .15 = +.01
Wills/Estate/Probate – 0 X .35 = 0
Commercial Business - .26 X .10 = +.026
Total AOP debit = +.056 X 100 = +5.6% or 1.056
(Base Rate) (ILF - Ded Cr) (Number of lawyers) (Average Prior acts step factor)
($1491) (2.38 - .09 = 2.29) (3) (1.0)
(Area of practice factor) (Staff size credit) (Experience Factor) (Misc. Factor)
(1.056) (1.00) (.95) (.75) = $7707
So…how much is in your wallet? While some insurance companies mimic other companies rate filings, they all can vary based upon underwriting appetite, national experience, reinsurance and the individual judgment of the underwriter reviewing your application. A broker’s job is to help you navigate the underwriting nuances by company, help you to present yourself in the most favorable light, promote your strengths and show that you recognize and have actively addressed any weaknesses.
In this age of Artificial Intelligence, I don’t see the underwriting criteria for Lawyers Malpractice Insurance becoming a mechanical process. Each risk is different. Details are too complex and there are a ton of insurance companies pushing to write your coverage. Underwriters need to know a good risk versus a marginal one and price accordingly to win the business.
Do your bottom line a favor…find a qualified independent insurance broker to shop your malpractice insurance this year. What you don’t know can be costing you.
The Premium Calculation
*State insurance departments usually allow P & C insurance companies the flexibility to not divulge rating factors for the top tier of limits and deductibles offered so that pricing flexibility can be used on a risk by risk basis. This allows the insurer to charge more or less for a higher limit of liability depending on the overall risk characteristics of the firm.
**The sum of loss payments plus defense costs.
Editors Note: This post was originally published in August 2016 and has been completely revamped and updated for accuracy and comprehensiveness.