Determining if D&O Insurance Is Your Boards Best Policy
By Scott Simmonds
Many nonprofits wonder if directors and officers liability insurance is a must-have, just like bylaws or a conflict-of-interest policy, especially as even the smallest organization will have to pay upward of $1,200 per year for it.
Directors and officers liability insuranceknown as D&O insuranceis protection against a breach of duty by the directors and officers. D&O pays for what the policy calls wrongful acts: "Any actual or alleged act or omission, error, misstatement, misleading statement, neglect or breach of duty by an insured person in the discharge of his/her duties."
Examples of claims under D&O include:
D&O does not pay for bodily injury or property damage. Buy auto insurance, workers' compensation, and general liability to cover such claims.
- Employment-related issues such as discrimination, harassment, and wrongful termination
- Failure to provide service
- Mismanagement of assets.
D&O vs. Personal Insurance
In my presentations to nonprofit boards, people often ask about using a homeowners policy or personal umbrella liability policy for protection for board activities.
Personal liability insuranceeither homeowners or an umbrellacovers bodily injury and property damage for which the insured is liable. Business endeavors are excluded. Volunteer activities are covered, but only for bodily injury and property damage.
Directors and officers insurance covers damage resulting from wrong decisions but not bodily injury or property damage. Board members should not depend on personal liability to protect them from their actions as a board member. Similarly, they should not depend on D&O insurance to protect them from liability for bodily injury and property damage.
Volunteer Immunity Laws
There are state and federal immunity laws protecting volunteers, which can also provide protection to board members. However, many federal laws, such as civil rights laws and employment laws, are exempted from the immunity statutes. In general, immunity laws are not broad enough to take care of all of your potential liabilities while serving on a board.
No Standard Policies
As there are no standard D&O policies, each policy and proposal must be evaluated on its own merits. Its part of the challenge of this line of insurance. Here are some of the factors to weigh:
Claims-Made Coverage: Most liability insurance policies (general liability, automobile, workers' compensation) pay for events that occur during the policy period. For example, an auto insurance policy will pay for an accident that occurs while the policy is in force.
D&O policies, however, pay for lawsuits filed during the policy period; the wrongful act could have occurred years before. Claims-made policies respond only when a suit is filed, or when a strong threat of a suit exists.
Therefore, a claims-made policy pays based on the date of the lawsuit. An occurrence policy pays based on the date of the accident or occurrence.
The downside of a claims-made policy comes if the policy is canceled. For example, a D&O policy is put in force in 2008 and is renewed in 2009 and 2010. In 2011, however, the organization decides to end the coverage because the premium has increased. Six months later, a letter from an attorney announces a lawsuit for discrimination that occurred in 2010. No coverage: Although the policy was in force at the time of the alleged discrimination, the policy was not in force when the suit was filed. The solution to this problem, if you decide to cancel the insurance, is the extended reporting period found in most.
Extended Reporting Period/Tail Issues: Most D&O policies only provide protection for lawsuits and actions brought during the policy period. In the event that coverage is replaced or cancelled, protection may be desired for events that took place prior to expiration/cancellation but for which no claim has yet been filed. This coverage is called a "tail" or "extended reporting period" (ERP).
Policy Limit: What amount of coverage is provided by your policy? What's the total amount of protection offered for all claims during the covered time frame (also known as an "aggregate limit")? Multiple claims can, in effect, use up the limit of coverage.
Defense within Limit: Most D&O policies include the cost of defending a claim (attorneys' fees, etc.) within the policy limit of liability. That means that the amount of coverage purchased must be enough to cover the awards and the defense costs of all claims. This can be an issue when considering the amount of coverage to buy.
Retroactive Date: Claims-made policies respond to claims brought during the policy period. Many policies include a date after which a claim must occur in order for the policy to respond a retroactive date. When changing insurance companies, it is vital to understand the new policys retroactive date. The use of a "Tail" may be necessary if the retroactive date is not sufficiently in the past.
Employment-Related Practices Issue: The most common claim for a nonprofit is for employment-related practices wrongful discharge, harassment, discrimination, etc. Check the policy's definition of "wrongful employment act." Does it include only certain acts, such as sexual harassment? Or is the coverage broad, including workplace harassment, for example? Does it cover discrimination suits brought by third parties?
By including employment practices claims in your organization's D&O policy, you could affect the limit of liability available for other claims.
Scott Simmonds, CPCU, ARM, CMC, consults on insurance for business, municipalities, and nonprofits. He can be reached at Scott@ScottSimmonds.com or at 207-284-0085.