Insurance buyer: beware.

Got insurance? Think you're covered? Look again.

Many associations spend hundreds of hours and thousands of dollars comparing insurance policies. When these associations finally make a decision, they think their travail is over because they are insured. Actually, the difficulties and uncertainties of buying insurance may be trivial compared to what the association faces if it ever has to file a claim. It is not at all uncommon for an insured to have to sue its own insurance company to get the company to defend the insured or pay a judgment.

To help your association get the coverage it needs, you must put two parts of an insurance policy under the microscope.

1. Definitions. A definition may be worded in such a way that what you think is covered really isn't. Take a simple example: Suppose the policy says that employment discrimination and wrongful discharge claims are covered. Suppose further that the definitions of discrimination and wrongful discharge exclude "intentional or willful" acts. Well, there goes your coverage, because 99 percent of the discrimination charges that associations face involve what the law defines as "intentional" discrimination. And if a plaintiff alleges a wrongful discharge claim based on a contract or "public policy" theory, that too will involve intentional wrongdoing, thus precluding coverage.

2. Exclusions. Exclusions can be equally confusing, ambiguous, and misleading. As a buyer, you must be wary, of two clauses in particular.

* One clause may say, "This is a claims made policy." This means that you are covered only for claims made while that policy is in effect. Other types of policies say that they are "occurrence based." This means that the insurance company will cover any claims that arose while the policy was in effect. It is important to understand the time reference here: The policy refers back to when the injury occurred or when the cause of action arose, not when a claim or lawsuit was actually filed. Sometimes disputes can arise about when an insurable event "occurred." There can also possibly be gaps in coverage if one goes from one type of policy to another - for example, from a "claims-based" policy to an "occurrence" policy.

* The second clause to be especially careful of is the indemnification clause. An insurance company may undertake two types of duties on behalf of its insured: either a "duty to defend" obligation or an "indemnification" obligation. There are advantages and disadvantages to each.

The advantages to an indemnification clause are that the insured association can use its own lawyer and be in control of the litigation. But the big disadvantage to an indemnification policy is that the insurance company will not pay your legal bills as they are incurred. Given that litigation can cost tens or even hundreds of thousands of dollars and drag on for years, an association could be bankrupt, forced to settle, or forced to accept inferior legal representation because it cannot afford to finance the litigation and the insurance company has no obligation to pay anything until the litigation is over.

On the other hand, with a "duty to defend" policy, the insurance company will pay defense costs as they are incurred, but the insured may have little, if any, control over who represents the insured and how the litigation is conducted. The insurance company may insist on using its own counsel and handling the litigation as it sees fit. The insured will be little more than an observer. The premium for such insurance may be higher, too.

Examine and reexamine policies

Before you purchase any type of errors and omissions or directors and officers insurance, try your best to pin down as precisely as you can what is covered, what is not, and the terms and conditions of coverage. Another example of a nasty surprise that may be in store for the unsuspecting insured is this: The policy will contain a clause requiring you to notify the insurance carrier as soon as you become aware of an actual, pending, threatened, or even potential claim. While it is certainly easy enough to recognize an actual claim, how is one supposed to know whether something is a potential claim or simply a lot of noise?

To illustrate, consider an exhibitor who is turned away and threatens an antitrust suit or a member who is disciplined and threatens a defamation suit. Are these potential claims that must be reported to the insurance company, or are they just disappointed individuals blowing off steam?

If you guess wrong and these situations turn into claims and you haven't alerted the insurance company, you may be out of luck. When you do notify the insurance carrier, you will get a letter from its lawyers advising you that you may have forfeited coverage because you failed to comply with the notice provisions.

On the other hand, some policies only require notice when a suit has been filed; however, nuances in these policies, too, can be maddening. For example, an association is served with a charge of discrimination from the Equal Employment Opportunity Commission and notifies the insurance carrier. The carrier writes back and says that the company only covers claims filed in court, not administrative charges filed with an agency. In such a case, the carrier may also refuse to pay for any of the costs of defending the charge before it gets to court.

As mentioned, an insured will sometimes have to resort to litigation to force its insurance company to pay a claim. A recent example of this is Vienna Family Medical Associates, Inc. v. Allstate Insurance Co. While the plaintiffs were two doctors and the policy was a general liability one, there is nothing in the case that could not happen to an association under a directors and officers liability policy.

A former employee of the medical practice sued the practice and two of its doctors on several claims: hostile work environment, constructive discharge, breach of contract, retaliatory discharge, violation of the state antidiscrimination and wage and hour law, and tortious interference with contractual relations. The insurance company refused to defend the doctors or the practice. The doctors settled the suit with the former employee and then sued the insurance company. The court ruled in the doctors' favor and declared that the insurance company had to pay the amount paid to the former employee to settle her suit and the medical practice's costs of litigation.

An important point to keep in mind with directors and officers liability insurance is that the policy pays only monetary damages. It does not pay for other forms of judicial relief, such as injunctive relief (a court order for a party to stop or start doing something), punitive damages or fines, or so-called equitable relief (for example, ordering an association to print a retraction of a statement that allegedly defamed a member).

Pose examples

No matter how many policies you review and how many questions you ask, your association will always run the risk that, upon filing a claim, the insurance company will claim it has no duty to defend the association. The risk is always there because no one can anticipate every situation that can arise, the insurance company will most often be reluctant - or refuse outright - to put things in writing beyond the policy terms, and what the salesperson says in response to questions cannot be relied on to prove a claim in court.

The most important thing to do before buying an insurance policy is to have it reviewed by experts. Definitions and terms of coverage and exclusions must be studied most carefully. Then make sure that you understand the policy by asking questions and posing examples so that the insurance company can explain how the policy works in practice.

George D. Webster is general counsel to ASAE and a partner in Webster, Chamberlain & Bean. This Washington, D.C., law firm is counsel to more than 200 nonprofit organizations.