Claims made insurance – a snapshot

Policies written on a ‘claims made’ basis intend that the policy in place at the time an insured first becomes aware of (a) facts and circumstances giving rise to a claim (“circumstances”); or (b) receives a written demand for compensation alleging a wrongful act against it (“claim”), is the policy in which the insured must notify the insurer of the circumstances or claim and also the policy in which indemnity will be assessed for the circumstances or claim.

If an insured fails to notify “circumstances” or a “claim” during the currency of a policy; or the policy is not renewed and there is no “run-off cover” or “discovery period” in place; then there will be no cover even if the conduct giving rise to the claim happened during the currency of any lapsed policy previously held by the insured.
Retroactive date

Conduct giving rise to “circumstances” or any “claim”, must have been provided by the insured after the “retroactive date” specified in a ‘claims made’ policy.

If the “retroactive date” is “unlimited”, then the policy will cover any “circumstances” or “claim” regardless of when the conduct giving rise to the “circumstance” or “claim” occurred. If there is a specified “retroactive date” then the policy will only cover any “circumstances” or “claim” relating to conduct after the date so specified. If the “retroactive date” is “inception” or “policy inception” that means the policy will only cover any “circumstances” or “claim” relating to conduct after the date the policy commenced.

Statutory protection

Most policies define a “claim” as a “written demand for compensation alleging a wrongful act against the insured”. The requirement of ‘claims made’ policies is that a “claim” is made against the insured notified during the policy period. Where specific “circumstances” will most likely manifest into a “claim” after expiry of the policy period and where the renewal policy will contain a “prior known claims” exclusion, Section 40(3) of the Insurance Contracts Act 1984 (Cth) will protect the insured.

Prior known claims

A “prior known claims” exclusion relieves an insurer to indemnify an insured for any “circumstances” or “claims” that an insured knew about prior to the inception of a ‘claims made’ policy. This is to prevent aggregation of indemnity limits across policy years, but more so, to prevent ‘moral risk’ issues – specifically the purchase of insurance to cover a loss already known to exist.

Failure to disclose known circumstances or claims

When an insured applies (completes a proposal) for a ‘claims made’ policy they must disclose any known “circumstances” or “claims” to the insurer. If the insured does not notify any known “circumstances” or “claims”, then they will be in breach of s21 of the Insurance Contracts Act 1984 (Cth). In the event of non-disclosure, insurers are permitted to reduce their liability (in whole or in part, s28 of the Act) for “circumstances” which may materialise into a future “claim” which the insured failed to disclose.

“Run off” cover or “discovery period”
“Run-off cover” or a “discovery period” is an endorsement to a ‘claims made’ policy which states that the policy will not cover any “conduct” giving rise to a “claim” after a ‘certain date’. This provides the insured with additional time to notify “circumstances” or “claims” following a “transaction”, cancellation or non-renewal by an insurer.

A “transaction” could involve a merger, acquisition, divestiture or other substantial change to the nature of the business. A company, its directors and employed professionals, may be liable for conduct, and claims may be brought against them after a “transaction”.

Limitation periods vary depending on the nature of a cause of action. A useful guide to limitation periods is provided by LawCover [1]. A common and widely accepted “run-off” or “discovery period” – specified under most professional services contracts, deeds of access and indemnity, or otherwise share sale or merger agreements - is 7 years.
The cost for the “run-off” or “discovery period” for the first year is ordinarily the same as the premium for the most recent policy period. For extended coverage periods there are multipliers applied. These multipliers vary and the cost reduces for the later years. That said, premium is ascribed in a lumpsum at commencement of the period for the total period of cover sought. It is very difficult to obtain extensions of the run-off period. In most circumstances, the policy limit of indemnity for the “run-off” or “discovery” period is stretched. That means all covered loss arising from “circumstances” or “claims” notified during the period are subject to the policy limit purchased.

[1] https://www.lawcover.com.au/schedule-of-limitation-periods