What Every Physician Must Know About Medical Malpractice Insurance

Presented By Eric S. Poe, Esq., CPAVice President of Marketing and Business Development

Direct line: (609) 520-3067Email: epoe@njpure.com

AgendaPart I: Overview of the Industry• What makes insurance profits different• Inherent pitfalls of medical malpractice insurance industry• Important terms to evaluate the financial condition of an

insurance carrier• The importance of A.M. Best Ratings

Part II: Common Mistakes Made By Physicians• The differences of the occurrence-type and claims-made

policy forms • Prevailing case law that affects NJ physicians• Why the “crisis” may not be over• Why you need to shop yourself: rate increases can vary

• Premiums

• Incurred Losses (a.k.a. Loss Reserves)

• Expenses

• Profit / Net Income

Background on Insurance:Basic Accounting Is Different

Illustration of Typical Income Statement

Premiums $100

Less:

Loss reserves ($70)

Expenses ($35)

Underwriting Income (Loss) ($ 5)

Investment Income $10

Net Income (Loss) $ 5

Impact of Under-Reserving on Income Statement

Premiums $100

Less:

Loss reserves ($70) ($50)

Expenses ($35)

Underwriting Income (Loss) ($ 5) $15

Investment Income $10

Net Income (Loss) $ 5 $25

Inherent Pitfalls With MedicalMalpractice Insurance Industry

1. Industry Dominated by Regional Insurers

As a result of medical malpractice crisis environments, many medical societies or hospital associations created insurance vehicles to solve their availability problems. These “stop-gap” solutions grew into industry giants.

The recent largest insurers to go insolvent or placed under rehabilitation for medical malpractice have been PHICO and MIIX. MLMIC is current largest med mal insurance company in the world (created by NYMS)

Inherent Pitfalls With MedicalMalpractice Insurance Industry

2. Short term profitability can be achieved by mere under-reserving or “aggressive” reserving

Due to the differences in accounting, proper reserving is the largest driver of profitability in the financial statements

Inherent Pitfalls With MedicalMalpractice Insurance Industry

3. “Long-tailed” insurance line

Malpractice has the longest average time from a claim being made to paid loss. Therefore, determining and verifying reserve adequacy (mistakes) takes longer than other lines of insurance

Inherent Pitfalls With MedicalMalpractice Insurance Industry

4. When significant under-reserving occurs the results only cause additional problems

Rate increases are the first request when reserves develop. However, rate increases can risk non-renewal and political rejection. Therefore, management cuts expenses – typically reinsurance. This only means more exposure to the company.

Furthermore, when the past reserves are developing, often companies will then under-reserve current year claims to offset it. These all cause rapid sudden declines.

Therefore Bigger Isn’t Necessarily Better

• Last insurers in med mal to go out of business:

MIIX, PHICO, Reliance – all top 10 largest in U.S.

• $Premiums simply means taking more risk• Assets are always large due to long-tail line• Less reinsurance required• Smaller insurers are actually required to secure

reinsurance at lower levels.

Important Terms To Understand in Evaluating Financial Condition• Surplus (can be known as “Total Adjusted

Capital”)

• Reserve Development

• Reinsurance

• A.M. Best Rating

Surplus

• The excess capital an insurance company maintains that currently has no allocated use. The surplus is maintained in order to act as a “cushion” in case the premiums collected are not adequate to pay for the losses

• NOTE: The $ of surplus is not as important as the ratio of premium to surplus

Reserve Development

• Any adjustment (increase or decrease) in reserves that an insurer sets aside to pay for expected ultimate losses

• “Reserve strengthening” is not a positive term (this should be viewed similar to “Oops! We estimated incorrectly”)

Reinsurance

• Insurance for insurance companies

• Attachment points (ask this question)

• Remember: history tells us that one of the first expenses to be reduced when an insurance carrier is in financial distress is the expense of comprehensive reinsurance

Importance of A.M. Best Ratings• Oldest rating bureau in the world

• Evaluates insurance carriers based on their financial results

• Carriers must be in business for five years to quality for an A.M. Best Rating

MIIX Case Study

Date Rating Event Summary

9/1/2000 A- Downgrade from A rating by A.M. Best

9/28/2001 A- Under review notation published by A.M. Best

2/21/2002 B- Downgrade from A- rating published by A.M. Best

3/22/2002 C+ Downgrade from B- rating published by A.M. Best

5/9/2002 NR-4 Rating not published at MIIX's Request

8/31/2002 NR-4 MIIX non-renews NJ physician policyholders

9/1/2002 NR-4 MIIX Advantage is licensed with 8 of 14 Board Members from MIIX

Under Regulatory Supervision

Reportedly $306 Million deficient to pay claim loss reserves10/31/2004 E

MIIX A.M. Best Rating History

Occurrence-type

• Covers Losses That Occurred While the Physician was Insured with the Carrier, Even if the Claim is Made After Termination of the Policy

Claims-made• Covers claims only if two conditions are met: (1) You had a policy in-effect at the time of the

incident AND (2) you have a policy in-effect at the time that the claim is made against you.• You can be covered for claims after you terminate coverage if you pay for a “tail” endorsement at

termination of policy which is usually equal to 200+% of expiring premium• Common mistake by physicians: free tail conditions – and the effect rate increases • BOTTOM LINE: Accountability

2 Types of Policy Forms

Cost Comparison of Policy Forms*Claims-made Versus Occurrence-type

Without Claims-made Tail Purchase

$0

$2,000

$4,000

$6,000

$8,000

$10,000

$12,000

Year 1 Year 2 Year 3 Year 4 Year 5

Claims-made

Occurrence-type

*For comparisonpurposes only;based on a $10Kmature rate; rateincreases are not included.

Will A Physician Receive aFree Tail?• In order to receive a free tail the physician must be deceased,

completely disabled, or meet the following three requirements: be 55, 60, or 65 years of age (depending on the carrier), retire from practice and never see a patient again, and be insured with the carrier for five consecutive years. Most doctors never meet these requirements.

• According to ProNational’s (Claims-made policies only) financial statements, only 2.9% of their physician policyholders will receive a free tail each year.

• KEY TO REMEMBER: NOT A UNILATERAL CHOICE BY THE PHYSICIAN

• If the physician’s carrier decides to non-renew the policy the physician will not receive a free tail.

• If the physician’s carrier discontinues writing business in NJ the physician will not receive a free tail.

Important Case Law That AffectsNJ Physicians

• This legal case upheld that when an insurance carrier becomes insolvent the personal assets of the insured are at risk to pay for claims in excess of the $300,000 provided by the PLIGA fund.

• Lesson to Physicians: Be aware of medical malpractice insurance carrier’s financial condition. MIIX can happen to them.

• Physicians NEED independent research – Remember it is the physician’s assets that are at risk, and there are few physicians without a financial interest in their decision.

Johnson v. Braddy Case Study (2006)

Carter Lincoln-Mercury v. Emar Group Inc. (1994)

• Insurance agents and brokers, when acting on behalf of an insured, owe the insured a duty of due care

• Broker’s and Agent’s have a duty to investigate the financial security of a carrier for which it places the insured

• Foreseeability - a duty of care is also owed to foreseeable parties injured by the broker’s or agent’s negligence. (ex. patient)

Important case law that helpsanswer the question, " How muchinsurance should I buy?”

• 1974 Rova Farms case is the single most cited case for NJ plaintiff attorneys

• Established “bad faith” when an insurance carrier fails to reasonably settle a claim and exposes insured

• Bad law for insurance companies, but provides protection for insured physicians

• “Consent to Settle” clauses can expose physicians if exercised

Rova Farms (1974)– Bad Faith and Its Impact on Consent to Settle Clause

“Crisis” may not be over

Worse before it becomes better for two reasons:• MIIX reported -$306 million in surplus as of 3rd Quarter

of 2004, stating it had $542 million remaining, while over $848 million in liabilities paid out at a rate of $27 million/month in verdicts in 2004, but slowing at a rate of $41 million paid from 9/04 to 12/04. Estimated that a maximum of 40 months before assets deplete.

• MLMIC (Princeton’s Parent Company) recently reported -$457 Million in Total Adjusted Capital. This is $750 Million shy of the “seizure” requirement guideline set by the NAIC Model Act.

Cumulative Rate Increases Since January 1, 2003

10%

39.5%

52.3%

67%

0%

10%

20%

30%

40%

50%

60%

70%

NJPURE Conventus PrincetonInsuranceCompany

MDAdvantage

Sources: Perr & Knight. Rate filings based on A.M. Best and N.J. Department of Banking and Insurance Rate Filing Information.

Risk Retention Groups (RRG’s)

• 1981 – Products Liability Risk Retention Act • 1986 – RRG’s allowed to write insurance in all 50 states

• BUT Notable Differences of an RRG:– Less regulatory oversight – no forms or rates requiring approval– Less regulatory oversight in non-chartering state for financial condition– No PLIGA (Property and Liability Insurance Guaranty Association)

Protection

• What you may find in an RRG Policy:– Assessable Policy Clauses– Non-Binding Arbitrations Clauses– Physician Responsibility to Pay Defense Attorney Fees

Carrier ComparisonInsurance New Business A.M. Best Use of Agents & Brokers Rate Increases

Carrier Policies Offered Rating For Marketing? Since January 1, 2003

ProMutual Occurrence-Type and Claims-Made A- Yes 93.4%

Conventus Claims-Made Only NR-2* Yes 39.5%

ProNational Claims-Made Only A- Yes 103.9%

MD Advantage Occurrence-Type and Claims-Made NR-2* Yes 67.0%

Princeton Insurance Company Occurrence-Type and Claims-Made

NR-5**: No longer followed at Company

Request Yes 52.3%

NJ PURE Occurrence-Type and Claims-Made NR-2* No 10.0%

*Insurance companies must write business for 5 years to be rated by A.M. Best.

**Less than 0.5% of insurance companies in the United States voluntarity choose not to publish their A.M. Best Rating.