One of the most important responsibilities of a Board of Directors is purchasing insurance. Premiums can be very high and so decisions about what coverage to buy have significant impact on budgeting and fiscal responsibilities. Nonetheless, it is important to insure that the community’s property and liability exposure is adequately covered. The governing documents will usually have a requirement that the association purchase insurance, and may list specific types of coverage or certain risks that must be insured. More often than not, the language in governing documents is generalized and the provisions can quickly become outdated as insurance products change. The uncertainty is compounded by policy language that can be difficult to comprehend and definitions and exclusions that may have taken on special meaning through years of interpretation disputes. To compound the issue, most Directors and Officers’ Liability insurance policies won’t cover the Board’s failure to purchase the right types or amounts of insurance coverage.
As a result, Board Members and Managers depend heavily on insurance industry representatives to help select the right coverages. In doing so, it is critical that the Board understand and define that relationship so that reliance on an agent’s advice is warranted. The first question to ask your insurance professional is who they represent and how they are compensated. Some make the distinction between a broker (as a representative of the insured) and an agent (as a representative of a particular insurance company) but really your professional is an intermediary that needs to learn what risks the association is obligated to protect against, and an insurance company that will agree to accept that risk. Compensation information can provide some valuable insight. Some independent brokers charge a fee, some charge and “waive” a fee, and most all are also compensated by the carriers on a commission basis.
In late 2004, the Attorney General for the State of New York filed a suit bringing charges of fraud and antitrust violations, alleging that in some instances clients were illegally steered to insurers that paid the highest commissions, and rigged bids for insurance contracts were solicited. Along with the brokerage, several major insurance companies were named in the lawsuit, and some insurance executives pled guilty to criminal charges in connection. As a result of the suit the brokerage agreed to pay $850 million in restitution to clients nationwide, including $8 million to Oregon clients.
Following the scandal, the Insurance Division for the State of Oregon passed an administrative rule governing compensation of insurance professionals, which became effective in January 2006. In sum, the rule prohibits an insurance consultant that receives any compensation from a prospective insured, from also then receiving compensation from the insurance company without full disclosure and written acknowledgment from the prospective insured.
So here’s what to do: First, understand what the governing documents require the association to insure. That means asking for an interpretation from your association attorney. Second, prepare a bid specification document specifically describing the requirements and the risks of loss to be insured. Include descriptions of the general types of insurance policies, i.e, commercial general liability, property insurance, directors and officers’ liability and fidelity insurance. Then specify important coverage options within each type of policy. For example, a D&O policy should cover committee members and managers as additional insureds and should also include a duty to defend suits, not just pay any resulting liabilities. Property Insurance should cover replacement value and also include building code/ordinance upgrade coverage, in case there is additional cost to bring a building up to current code after a loss. It should also cover demolition and debris removal, and unpaid or uncollected assessments resulting from a covered property loss. Go through each type of policy and familiarize yourself with the optional coverages and the differences between the same policies offered by different carriers.
Once you have a well-defined bid document, meet with your insurance professional and obtain the required disclosures. You should also request a loss history, since insurers will use that information in determining the premium charged. Go over the governing documents and your bid specs with your insurance professional. Request a proposal that demonstrates that the products they recommend meet your requirements. Don’t be afraid to shop or to switch representatives or insurers, but be careful to ask about gaps in coverage, particularly on D&O policies where it is important to make sure the new policy covers acts prior to the coverage period. Once you have received a proposal that addresses each of the items in your bid spec, you will have enough information to intelligently make a recommendation to purchase certain coverages.
Taking these steps will help in a number of ways: First, you will make sure that the association has adequately protected itself and the community property. Second, you will have made adequate investigation into the coverages the association is purchasing so that your reliance on your insurance professional is reasonable. Finally, you have done your homework in justifying the substantial expense, or at least maximized the coverage you can work into your budget. Insurance purchasing can be difficult, but a well planned purchase is well worth the effort in the event of a loss.
Tom M. Johnson
Attorney at Law