Understanding your Malpractice Policy – Beware the "Hammer Clause"

(Still as relevant as ever.  Originally published June, 2009)

I’ve recently been investigating legal malpractice policies for something I’m working on.  As I no longer practice I’ve really had very little reason to stay overly current on the fine print of malpractice policies and this is why, in the course of my research, I was struck by the terminology the ‘Hammer Clause.’  Who was getting hammered?

Well, it’s very interesting. When I was practicing I always knew to get a policy which gave me final say on settlement or litigation should I be sued for legal malpractice.  It never happened, thankfully, but I understood its value after reading a horror story with a local brain surgeon.  He wanted to go to trial, wanted to exonerate his good name after the press splashed his name and pending litigation for malpractice across the newspapers.  With his name destroyed and the only means for exoneration a trial which would find him innocent of medical malpractice, he wanted to salvage his reputation.  However, his medical malpractice policy did not give him final consent.  The insurer settled rather than incur the cost of litigation and potentially risk losing.  So, the insured lost his livelihood instead.

This was a powerful lesson.  Many insureds don’t really read or understand their policies.  This is especially true for new solos as they are often forced to shop on price while getting started and insanely scared to ‘go bare’ if their states do not mandate insurance.

‘Going bare’ I believe should always remain a lawyer’s choice (don’t make that sentence into something it’s not).  If they are willing to take on the risk, however ill-advised, that should remain their right.  When states force lawyers to have malpractice insurance it is because they don’t want to bear the costs themselves of an uninsured professional who commits malpractice.  But isn’t that part of the reason why I’m paying into the client security fund?  Why should I have to pay twice? But that’s a rant for another day.

Anyway, since many a lawyer shops on price but ultimately wants control over the end result of any action brought against them,  a new ‘hybrid’ has been born and it lives between a ‘no consent to settle’ policy and a ‘consent to settle policy.’  It’s called the ‘Hammer Clause’ but that’s not the term you will see in your policy.

Beware the Hammer Clause

“The most important words in any document are the words that follow ‘however.’”

This advice…..applies well to the hammer clause. The clause, tucked away in the jargon of many policies, sounds very similar to consent to settle… until those important words following “however.”

The inclusion of the hammer clause may mean a less expensive premium, but it could cost a (lawyer) greatly.

“The Insurer shall not settle any claim without the consent of the Insured. If, however, the Insured refuses to consent to any settlement recommended by the Insurer and elects to contest or continue the legal proceedings in connection with such claim, the Insurer’s liability for the claim shall not exceed the amount for which the claim could have been settled plus legal expenses incurred up to the date of such refusal.”

What does this mean?

The hammer clause means that if an insured withholds consent to settle, the insured will have to pay out of their own pocket any judgment in excess of the proposed settlement amount. This saves the insurance company money by cutting short the litigation process and reducing the insured’s ability to veto a settlement. *

For example, consider a (lawyer) facing a $200,000 settlement who has a $2 million limit on his policy. If the (lawyer’s) liability policy contains a “hammer clause,” the insurance company can invoke the clause for that settlement, in essence reducing the $2 million limit to $200,000 and forcing the (lawyer) to decide: either settle the claim on those terms or risk paying his own money. Many (lawyers) are not aware of this risk.

“(Lawyers) need to read their policies carefully regarding how much input they have in the litigation process,” said Tracy. “In exchange for a less expensive policy, they give an insurance company a little more leverage in the litigation process. And because the vast majority of claims are settled claims, the hammer clause can have a significant impact.”

The inclusion of the hammer clause may mean a less expensive premium, but it could cost a (lawyer) greatly.

“A (lawyer) motivated purely by price may end up with a policy provision he or she doesn’t fully understand, and it can have a significant impact on their personal financial situation.”.

This is an example of another ‘hammer clause’:

WE have the exclusive right to investigate, negotiate and defend CLAIMS seeking DAMAGES against the INSURED for which this policy provides coverage.  The INSURED may not negotiate or agree to a settlement of any CLAIM without OUR prior consent.  There is no coverage under this policy to pay any part of a settlement of a CLAIM made without our consent.

WE will not settle a CLAIM without the written consent of the INSURED.  If the INSURED refuses to consent to any settlement recommended by US and elects to contest the CLAIM or continue legal proceedings, then OUR liability for the CLAIM will not exceed the amount for which the CLAIM could have been settled within the applicable limit including CLAIM EXPENSE incurred with OUR consent to the date of such refusal.  The INSURED must cooperate with US in the investigation and defense without charge by the INSURED or reimbursement of the INSURED’s expenses, subject to the Supplementary Payment provision of the policy.

After WE have paid the limit of liability or resolved all CLAIMS covered by the policy WE will not:

(1) pay any CLAIM, judgment or expense.

(2) undertake or contine the defense or investigation of any CLAIM or suit.

I also think it is fair to say that attorneys don’t necessarily read and understand what they are actually getting.  (Now, don’t jump on my case about this.  When was the last time you read your insurance policy or the addendum that came in the mail after you’ve just renewed?  You file it away and say, ‘I’m insured.’  It took me years to finally read them on my homeowner’s policy.)

The type of insurance you buy will be based upon your risk aversion, personal circumstances and state requirements.  There is nothing inherently right or wrong with ‘no consent’, consent with a ‘hammer clause’ or consent without a hammer clause. The hammer clause is not the devil.  The devil is your lack of understanding about the coverage you are receiving based upon the price you are willing to, or can currently afford to, pay.

Most interesting to me in the first quoted section was this – if you can’t afford the premium for full consent without restriction, do you need to pay an increased premium for $2 million dollar limits:

  • if the majority of cases settle and
  • you have a hammer clause in your policy which will in effect negate the high limit on your policy?

If you are a new attorney, do you need to pay a premium that first or second year for any consent whatsoever when your premiums are their lowest because insurances companies have deemed you the least likely to commit malpractice?

Bottom line:  Understand what you are buying based upon what you can afford.  You can always upgrade later.

This entry was posted in Solo & Small Firm Practice. Bookmark the permalink.

Enjoy our blog posts with lunch! Enter your email address and we'll send you an email each time a new blog post is published.

Want your free copy of Business Call is Back and Attorney Guide to Virtual Receptionists? Subscribe by email below and you will be able to download them immediately.

6 comments on “Understanding your Malpractice Policy – Beware the "Hammer Clause"

  • Although this wasn’t the main point of your post, I’m commenting on your statement that states require malpractice insurance because they don’t want to pay the costs of lawyers’ malpractice out of the client security fund. First, only one state (Oregon) requires lawyers to carry malpractice coverage. Almost half the states have adopted rules that require lawyers to report (either to the bar or licensing board or directly to the client) whether they carry insurance or not, which is different.

    Client security funds generally consider claims filed by victims of lawyer theft from trust accounts, not attorney malpractice. Lawyers who steal money from their trust accounts may not be covered by insurance because of the intentional act (if they have insurance at all) and typically do not have assets against which the victim can pursue recovery (if assets are available, restitution will often be required by the lawyer discipline or criminal justice system). Hence, client security funds have been set up to provide some compensation to such victims. Many have caps on the maximum recovery per victim, regardless of he amount lost, so as not to exhaust the funds over the long term. Allegations of malpractice, which often do not involve any dishonesty on the part of the lawyer, are generally left to the civil court system; even prevailing malpractice claims would not likely be entitled to recovery from client security funds.

    • Eric, thanks for visiting. Yes, client security fund is generally for theft not covered by malpractice. And I have strong opinions about mandated malpractice insurance, anyway. But most interesting to me is the majority of states which mandate reporting of an attorney having it or not. This is the bar’s version of the ‘hammer clause’ – you don’t have to have but you have to let everyone know implying failure to have will be costly to you in business. This forces an attorney’s hand and is disproportionately impactful on new attorneys or solos…the very same people who are finding it harder to find decent coverage at a reasonable rate which doesn’t rob them of their right to consent to settle, the same right, when not available can impact an attorney’s professional future.

  • Thanks for the insurance article. I’m right now getting quotes from a recommended agent for malpractice insurance. I had no thought about the settlement issue or hammer clause but now I do and will ask him.

    Here’s a question for you. I just received an email from the agent explaining a proposed policy from ARCH Insurance Company, the State Bar of CA approved insurer:

    “IMPORTANT: The claims made & reported professional liability insurance policy requires that all claims and / or potential claims (those acts, errors or omissions which could reasonably be expected to be the basis of a future Claim) shall be reported DIRECTLY to the insurer DURING the policy period in which you become aware of such claim(s) and/or potential claims. Failure to tender to the insurer during the policy period will likely negate your coverage.”

    Is that a common provision? It seems to my lawyer mind a way for the ins co to refuse any claim for which an incident wasn’t reported ahead of time by the lawyer. I would think that if the lawyer knew better, he/she wouldn’t have made the mistake in the first place. What do you think of that clause?

    • Malcolm,

      I don’t know if it is a common provision, but if it has become a common provision it is because of practitioners being fearful of notifying a potential claim until it’s gotten more costly for the insurer. When I was practicing, the common (and common sense) practice WAS to notify the carrier immediately so they could give guidance.

      Also, if you understand insurance, insurance companies allocate funds for potential claims. If they have no opportunity to allocate resources this is an issue for them and they are protecting themselves.

      I’m not sure I would be alarmed by this provision. But I would ask the agent to clarify completely because at what point is it too late? If you’ve never been sued how do you know if you are likely? Is a grievance the trigger? Is your own knowledge you may have messed up the trigger? They need to be more specific with past examples of what qualified and what caused negation of coverage.

      If common practice has now become mandated language, it doesn’t surprise me. But, again, I have not reviewed policies in a long time.

  • Thanks, Susan. I heard back from the agent and yes, that provision is in all policies according to this agent, as is a “hammer” clause. It seems that we don’t have a choice these days.

    • Malcolm, That is not true. The ‘hammer clause’ is not in all policies. It is in those policies where you don’t pay a premium to have full consent to settle without condition. You do have choices. The choice is made with your checkbook and by shopping around for insurance. Please don’t be hasty. I’m not liking the statement, ‘that provision is in all policies according to this agent’.

Comments are closed automatically 60 days after the post is published.