Review of the Legal Profession Act Final Report: Professional Indemnity Insurance
CHAPTER 11: PROFESSIONAL INDEMNITY INSURANCE AND FIDELITY FUND COVER
Solicitors and barristers are required to hold a professional indemnity insurance policy which has been approved by the Attorney General. Solicitors are also required to contribute to the Fidelity Fund. The purpose of the Fidelity Fund is to compensate a person who suffers a loss as a result of a failure to account or a dishonest default. Some practitioners, such as government lawyers, do not need to comply with these requirements.
Solicitors are the only category of professionals required to hold both categories of cover. The cost of insurance and fidelity cover is passed on to clients and may be regarded as inhibiting competition between lawyers and comparable service providers. However, insurance and Fidelity Fund cover protect the public from incompetent or dishonest practitioners and provide an obvious public benefit.
Currently only one insurer has been approved as a provider of professional indemnity cover for solicitors and barristers. If other insurers were to enter the market, the cost of insurance could fall and practitioners could choose between insurers. However, issues such as risk weighting and the provision of insurance cover for lawyers who had ceased to practise would need to be addressed.
1. Compulsory professional indemnity insurance and fidelity fund cover
A majority of respondents to the review who addressed this issue agreed that compulsory professional indemnity insurance on terms approved by the Attorney General was a necessary safeguard to legal practice and was in the public interest.
A majority of respondents supported the continuation of compulsory fidelity cover against defalcations, because solicitors hold money on behalf of clients. However, Mr Cutler was of the view that it was debatable that the public should be protected against defalcation.
However, the Law Society suggested that both professional indemnity insurance and membership of the Fidelity Fund might be made voluntary if the market was deregulated, provided that disclosures were made to clients.
2. Deregulation of professional indemnity insurance: a choice of insurers?
Willis Corroun Professional Services Limited indicated that its experience as the agent of insurers entering the market in the Australian Capital Territory was that competition led to broader cover, cheaper premiums and a higher level of service. Practitioners were now more conscious of risk management, because of risk rating. Willis Corroun was of the view that the interests of the public could be protected in a deregulated market and described three different schemes, and the advantages and disadvantages of each. Its view was that it was in the best interests of the profession and the public for the market to be deregulated. NCOSS and Mr Cutler shared this view.
The Bar Association pointed out that the insurance market for barristers has already been deregulated. Its policy has been negotiated with brokers who offered the bulk of professional indemnity insurance to the Bar. There are two providers of insurance to barristers and there is price competition. The Bar Association stated that it had no objection to any insurer having a different policy approved, as long as the principles of the current approved policy were recognised in considering any proposal.
The Bar Association indicated that the threat to clients posed by an insurer ceasing to operate was more apparent than real and rejected the suggestion made in the issues paper that insurers should be required to comply with higher standards such as capital adequacy and reinsurance, than those set for other insurers. The Bar Association stated that to its knowledge no barrister had been refused cover as a bad risk and believed that any barrister would probably obtain cover, at a higher premium.
The Law Society noted that the benefits of LawCover’s policy include cover against almost all civil liability, cover for an unlimited number of claims (but subject to a ceiling on the total cost of claims), cover provided for whole firms including non solicitor employees, the absence of a disclosure requirement as a condition of indemnity, protection for innocent partners and run-off.
The Law Society’s position was that the market should be deregulated only if cheaper premiums could be provided by insurers who provided the same conditions as LawCover. In particular, the Law Society was concerned that insurance might exclude solicitors from the market, and deter solicitors from practising in high risk areas of practice. Accordingly, the Law Society suggested that competing insurers be required to set premiums within defined ranges and to accept any proposal.
The ACCC stated that solicitors and barristers should be free to choose their insurers as long as minimum standards were met. The ACCC expressed doubt that some solicitors would be unable to obtain insurance in a fully deregulated market, as suggested by the Law Society. The ACCC argued that the insurance market is large enough to accommodate any practitioner and that in any case, the threat of losing insurance would provide an incentive to solicitors to provide better customer service.
However, the position of the ACCC does not address the concern expressed by the Law Society as to the price of insurance for practitioners working in high risk areas. An offer of insurance will not assist a practitioner if the premium is too high to make the practice profitable. The consequence of expensive insurance in practical terms may be the same as a refusal. NCOSS argued that the protection of the public is promoted by risk weighting by insurers and the refusal of cover would assist in consumer protection.
The Fidelity Fund
The Law Society indicated that the question of fidelity cover and whether it should be mandatory is being considered by the profession on a national basis. The Law Society indicated that that it would settle its views after the policy had been finalised. The Law Society also indicated that the Chief Executive Officers of Law Societies have decided to undertake a survey of public opinion to ascertain public awareness of fidelity cover.
The Law Society also indicated that there should be exemptions from the Fidelity Fund, such as money deposited in solicitors’ mortgage practices, and that as a substitute for the Fidelity Fund, insurance could be arranged for solicitors who operate trust accounts.
There appears to be general support for the deregulation of the professional indemnity insurance market for solicitors. The provision of a choice of insurers for solicitors would be likely to engender competition in the market for professional indemnity insurance, reducing the costs of legal practice. However, risk and practice management is another important means of costs containment, and it is suggested that training in risk and practice management is an essential component of legal practice. In order to ensure that solicitors are aware of risk and practice management strategies and to encourage them to implement those strategies in their practice, it is recommended that a percentage from the premiums paid by solicitors and barrister be paid to the Law Society and Bar Association respectively, to be used by the regulatory bodies for developing and providing risk and practice management training. Each of the regulatory bodies would be required to account for the funds in the annual reports.
It appears that, apart from the Australian Capital Territory, no jurisdiction is likely to deregulate its insurance market in the near future, and the position of the current insurers in each jurisdiction is strong. If New South Wales were to deregulate in this environment, the result might be that insurers form other jurisdictions would be able to use their stable ‘home’ client base to provide capital to compete in the New South Wales market. The Law Society has expressed concern that such competition may affect the market position of LawCover. However, this issue might be addressed if the scheme ensured that LawCover was not the insurer of last resort, and was treated on the same basis as other insurers.
11.1 Are the advantages of the insurance scheme and Fidelity Fund operated by the Law Society outweighed by the benefits of deregulation to the public and the profession?
Deregulation of the market for professional indemnity insurance for solicitors should take place, subject to appropriate protection for clients being addressed, through minimum standards for policies, run-off and indemnity.
However, the concerns of the Law Society concerting the possible impact of deregulation on the position of LawCover will need to be considered.
There is no reason in principle that the Fidelity Fund should not be replaced by fidelity insurance.
11.2 Would a deregulated insurance market offer adequate protection to the public?
A deregulated market would provide adequate protection to the public provided that adequate safeguards were developed dealing with the minimum terms and standards, consistent with the terms of the policy now offered by LawCover.
In particular, insurers would be required to offer run-off cover and to accept claims even if no disclosure had been made by the solicitors. Consideration would need to be given to arrangements to be made between insurers in the event that an insurer ceased to operate.
11.3 If a competitive market is established, should insurers be free to adopt risk weighting and to refuse cover?
Should there be limits on the price differentials between policies and an obligation on insurers to accept any proposal?
A competitive market will not be established unless insurers are able to adopt risk weighting. Risk weighting is essential to avoid undue distortion of the insurance market through cross subsidisation.
Arrangements will need to be made for the insurance of solicitors who are poor risks. Such arrangements may be an ‘assigned risk pool’, where all insurers are required to accept a certain number of high cost practitioners, or a maximum differential between the minimum and maximum premiums which could be set. A limit on the price differential between policies would ensure that solicitors continue to accept instructions in high risk areas of practice. Any limit should be struck having regard to the relative costs of claims against practitioners with poor claims records and the profits of practices in that category. Insurers should be required to accept any proposal.
The implementation of a deregulated market should be accompanied by compulsory and continuing risk and practice management education for insurable solicitors and barristers. Percentage of each premium paid by solicitors and barristers should be paid into a fund to be administered by the Law Society and Bar Association, and used to provide risk and practice management training. The regulatory bodies would be required to report on the use of the funds in their annual reports.
11.4 Should prudential standards be set for insurance companies offering professional indemnity insurance for lawyers, or should licensing by the Insurance and Superannuation Commission (now the Australian Prudential Regulation Authority) (APRA) be sufficient?
Compliance with the standards set by insurers by APRA should suffice.
11.5 Are there grounds for limiting the number of insurers permitted to enter the market?
There does not appear to be justification for limiting the number of insurers in the market. However, no other Australian jurisdiction has approved policies offered by more than two insurers because of concerns about the need to ensure a viable market share. It is therefore recommended that a maximum of three insurers be permitted to offer policies for a trial period until the market is established.