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Disciplinary defence costs

The LSB has approved proposals to scrap the right of solicitors to claim defence costs through their insurance when faced with disciplinary…

The Legal Services Board recently approved the SRA’s proposals to scrap the right of solicitors to claim defence costs through their insurance when faced with disciplinary proceedings. The Minimum Terms and Conditions of Professional Indemnity Insurance for Solicitors have been amended so that with effect from 1 October 2010, insurers will not be obliged to provide cover for defence costs in these circumstances.

The SRA’s reasons for the removal of such cover are varied:

  1. The cover was not provided previously under the SIF arrangements;
  2. It is not an area which justifies compulsory insurance in the interests of the consumer;
  3. Having compulsory cover could result in a situation where there may be grounds for declining cover for a particular claim (for example a dishonest sole practitioner) but where an insurer would still be obliged to defend the insured in disciplinary proceedings against the very allegations the insurer is relying on to decline cover for the claim;
  4. Defence costs for disciplinary proceedings can be substantial and insurers seek to recover such costs through increased premiums. The changes will remove pressure on premiums and increase availability of cover for some practices;
  5. Insurers can write the cover back into their policies if they so choose (albeit that this is likely only on a firm by firm basis, with presumably only those firms who can evidence good risk management and compliance being offered it).

Insurers have for some time been lobbying the SRA to relax the minimum terms (no other professional indemnity insurance has the same extensive mandatory cover as solicitors) and undoubtedly this change has been brought about to try to ease the pressure on the market. Interestingly, however, whilst the ABI’s report “Protection and Sustainability: ABI Proposals on Solicitors Professional Indemnity Insurance” issued in May 2010 made a number of suggestions for change to the minimum terms, the removal of cover for disciplinary proceedings does not feature in it.

The Law Society has criticised the move not least because there was no consultation with the profession before the proposal was submitted to the LSB for approval. It also considers it “unfortunate for solicitors facing very burdensome regulation to have no defence scheme”. 

So how drastic a change is this in reality?

To understand the potential implications, it is worth setting out the actual wording of the minimum terms:

Clause1.1 of the minimum terms provides that the “Insurance must indemnify each insured against civil liability to the extent that it arises from private Legal practice in connection with the insured firm’s practice, provided that a claim in respect of such liability

a)  is first made against the insured during the period of insurance; or

b)  is made against an insured during or after the Period of Insurance and arising from circumstances first notified to the Insurer during the period of Insurance”

Section 1.2 of the minimum terms now provides that “the insurance must also indemnify the Insured against Defence costs in relation to…c) any investigation, or inquiry (save in respect of any disciplinary proceeding under the authority of the Law Society of England and Wales (including without limitation, the Solicitors Regulation Authority and the Solicitors Disciplinary Tribunal) during or after the Period of Insurance arising from any claim referred to in clause 1.1, 1.4 [prior practice] or 1.6 [successor practices]”

“Claim” is defined as “a demand for, or an assertion of a right to, civil compensation or civil damages or an intimation or an intention to seek such compensation or damages……..”

So, even prior to the amendment, the minimum terms did not require insurers to cover the defence costs of all disciplinary proceedings, but only those associated with a claim on the policy, i.e. where there was a demand for civil compensation or damages. The SRA website is full of reported investigations resulting in regulatory settlement agreements and/or SDT decisions where there may have been a finding of breach of the Code of Conduct but where one would struggle to identify any potential claim for compensation. The changes made have no impact on such situations and firms are no worse off in respect of such investigations because they would not have been entitled to defence costs cover under the old terms in any event.

On the other hand, where there is an SRA investigation arising from any claim, insurers will no longer be obliged to cover the defence costs unless written into the policy. However, and as the Law Society has argued, there may be situations where it could be in insurers’ best interests to cover such proceedings in order to potentially reduce insurers’ exposure to a claim(s).

Furthermore, the definition of “claim” as stated above goes on to say as follows:

“For these purposes, an obligation on an Insured Firm and/or any insured to remedy a breach of the Solicitors’ Accounts Rules 1998 (as amended from time to time), or any rules which replace the Solicitors’ Accounts Rules in whole or in part, shall be treated as a Claim, and the obligation to remedy such breach shall be treated as a civil liability for the purposes of clause 1, whether or not any person makes a demand for, or an assertion of a right to, civil compensation or civil damages or an intention to seek such compensation or damages as a result of such breach…………”

So, for those firms who are investigated for breaches of the SARs, the removal of defence costs cover in this situation is a significant change.

The SRA considers it to be a “relatively minor” change but firms will understandably be concerned that the safety net is being pulled from under them. Even firms with good track records in risk management and compliance can find themselves embroiled in an SRA investigation. If firms are able to negotiate additional cover, they should be ok (at least as far as funding the representation is concerned) but it is not too difficult to see situations arising where a firm without cover is unable to afford to defend itself. Given the changes to the SRA’s approach to regulation and the uncertainties and potential inconsistencies which the introduction of Outcomes-Focussed Regulation (OFR) is expected to produce (at least in the early stages), this could have serious implications for many firms.

Whichever view is taken, there appears to be a general acceptance that the issue needs to be looked at in more depth. The LSB, whilst approving the changes for this indemnity year, has asked that the changes be included in the “root and branch” review into client financial protection which the SRA is to carry out by October 2011. With the introduction of OFR and Alternative Business Structures in the same timescale, the SRA will certainly have its work cut out!

Michelle Garlick, Partner – 0161 233 7426

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