You presented a prospect with a premium quote of $12,000. Coverage was bound, but it was later discovered that the account was rated using payroll rather than gross sales. The corrected premium is $52,000 and the carrier has billed the insured for an additional $40,000. The insured refuses to pay, saying he has a binding contract with his consideration being $12,000, and he is prepared to file suit. Who's responsible for this clerical error? Must the insured pay or does the carrier have to eat the 40 grand?
Below, we'll present some considerations, but be forewarned that there are no clear answers to this question. The proper and legal course of action may be governed by statutes, contracts or case law in different jurisdictions. In an attempt to identify case law, we were only able to find one court case that considered this issue.
In 1990, the Minnesota Workers' Compensation Insurers Association, Inc. notified its member companies and employers in the state that a computer programming error had resulted in the inaccurate calculation of experience mods. The department of insurance issued an opinion about an insurer's right to correct the premium erroneously calculated using an incorrect mod.
To make a long story short, a class action suit was filed for damages arising out of attempts to collect additional premiums. The suit was settled by all insurers except Western National Mutual Insurance Company. Western lost the lawsuit and the ruling was upheld by the Minnesota Court of Appeals in the case of D.J.'s Upholstery, Inc. v. Western National Mutual Life Insurance Company, 505 N.W.2d 379 (1993).
The court ruled that employers could not have their premiums retroactively increased to compensate for a "clerical" error on the part of the carrier that resulted in the employers being undercharged. The court noted that the insurer's use of erroneous experience modification factors was a unilateral mistake and it had to bear the resulting monetary loss.
In the court's opinion, the mods were an integral part of each insurance policy and nothing in the policies permitted the insurer to unilaterally modify the factors and increase the premiums. It should be noted that, while there may be exceptions, most policies are also silent on this issue.
Below are some comments from our faculty and we also solicit your feedback. As more information becomes available, we'll be updating this article.
Back in the rating bureau days, ISO's predecessors typically had large audit departments that examined insurer property policies on a quality control basis. If an error was found, the bureau issued a "crit" and the agent/insurer/insured were subject to the corrected amount whether it be up or down. I'd be interested to hear from agents and companies in some of the remaining "independent bureau" states (e.g., HI, ID, LA, MS, WA) if they still audit. Keep in mind, too, that some accounts are auditable, so the contract might permit corrections when the premium is adjusted.
This is a problem that has different answers depending on a few circumstances, including:
Controlled Pricing Lines. This issue just came up in the downfall of a large federal crop insurer. A misplaced decimal sent the policies out the door at about 10% of the federal rates. The policies held, but a federal and state investigation is currently underway. In controlled pricing states, the bureau may require the policy to be reissued with the correct rates.
Market Pricing Lines. The insurer will usually be required to live with the policy issued. This is a unilateral mistake and contract law has provisions discussing the treatment of unilateral mistakes.
Now, the kicker...if the issued pricing violates the filed rates of the insurer, you could end up with an investigation and enforcement action upon the insurer.
I'm not sure we'll resolve anything here, other than examining market practices, since this is a legal, contractual issue unless there is a state law or regulation (or perhaps case law) that governs. Go to a good search engine like Google and search for "contract enforcement and unilateral mistakes" and variations on these terms and you'll find a lot of legal discussion (I got a good Yale law school article on the subject) that basically says "it depends." Contract reformation might be an option, though that's usually reserved for mutual mistakes.
What do you think?
Have you had experience with this? We know that in many (probably most) cases, the insured just pays the additional premium. But, have you had situations where the insured refused? We're interested in your opinions and experiences, so please send them Bill.Wilson@iiaba.net and we'll post them below.
Interesting article. I will tell you that if the insured accepts the quote, then in my opinion and experience, the rate stays and the agent/MGA/ insurance company eat the difference. There is a market conduct issue as well at pricing business at less than the rates filed so such cases can get the insurance carrier in trouble quickly.
But with acceptance of a quote also can come rejection. In most states and on most policies the insurance carrier can get off coverage in the first 60 days for any reason. After that they are stuck so if the rating error is discovered late, the insurance company is stuck and "oops" is not in the cancellation code of any state.
We see a carrier or the agent eating the pro-rated error and getting off coverage as fast as possible. The insured loses and there is nothing illegal about an insurance company quitting in the first 60 days for any reason. One man's view.
There are three issues here. What did the application say on which the insurer based their quote? [If this was clearly their error, then they just live with it for the coming policy term.]
Should not the agency have caught this error before making the proposal? [The quote should have been checked carefully against the application. Also, was this the incumbent agent? Surely they would know if there had been a $40k error.]
Someone goofed here and it wasn't the client - perhaps some negotiation can occur if the client's premium last year was substantially higher and they were fully aware that they had gotten a "steal" of a deal. [Most business people are fair - If they clearly are aware that this premium was "perhaps a mistake" then they might consider participating in the additional premium due.]
Hopefully the situation could be resolved fairly for all parties before the courts get involved.
This issue is quite common, as you know. I do think there are some “right answers,” but the answers which are “right” depend upon the situation, state, etc. Here are my comments.
Insurance polices are considered by most jurisdiction as contracts, imposing many of the same rules of contract formation and that would apply to any other type of contract.
In order to form a contract, there must be a valid offer and an acceptance. In the case where an insurer offers coverage for $12,000, the acceptance by the insured forms an agreement. If the agreement is coupled with valuable consideration (the insured’s premium and the insurer’s promise to pay in limited situations are the consideration), is with legally competent parties, there is genuine assent, and is for a legal purpose, there is a valid contract enforceable by the policyholder.
Whether or not the change in premium from $12,000 to $52,000 is a unilateral mistake on the part of the insurer is a question of fact and should not be presumed (the insurer may have intentionally offered the $12,000 to induce the insured to enter the contract in order to obtain the greater premium during the policy term - this is usually considered fraud and is against state’s unfair and deceptive practices acts).
The insurer also may argue there was not genuine assent because of the mistake. Genuine assent is not literally a “meeting of the minds” as many believe, but is measured by what a reasonable person would believe is being agreed upon based on the facts in the case. An offeree’s subjective belief as to what is being agreed upon is not the measure of genuine assent. The other side of the genuine assent argument is that if a reasonable insured should have recognized the premium was a mistake (example – all prior policies and all other quotes are for a premium of around $120,000 and an insurer mistakenly offers $12,000 for the same coverage), the law may have considered the insured to be on notice of the mistake –now there is no genuine assent and the policy may be void.
Presuming that all of the elements of the contract have been agreed upon (as above), one party cannot unilaterally change the terms of the contract. Any attempt to do so is not enforceable. This includes attempts to correct unilateral mistakes, in part due to the possibility of fraud or simply to avoid allowing a party to evade their contractual obligations. This also would include an insurer attempting to add restrictive coverage endorsements to the policy after the fact – such endorsements are generally not enforceable.
Therefore, the insurer cannot require the additional premium be paid on the existing contract. All of that said, and the reason that the insureds often pay the additional premium, is that the insurer does have a very simple remedy – as allowed by most policies (and many states), the insurer simply issues notice of cancellation (possibly 30 day notice) to the insured. The insurer is well within their rights (if permitted by state cancellation statute) to cancel the policy and offer the same coverage at a premium of $52,000. I have seen this occur when an insurer became unhappy with a multi-year policy that contains a “rate guarantee.”
One point that is also worth making – all of the above are based on an existing contract. An insurer has a right to change their offer any time prior to acceptance by the insured. In other words, if the original offer is $12,000 for the premium, the insurer catches their mistake, withdraws their original offer and now offers the same coverage at a $52,000 premium BEFORE THE INSURED HAS ACCEPTED (AND COMMUNICATED THE ACCEPTANCE) OF THE OFFER, the insurer cannot be forced to use the original offer – the new offer can either be accepted or rejected (or counter offered – which is rejection) by the insured.
The rules of contract formation apply equally to errors made by an authorized agent of the insurer – a clerical mistake made by the agent (not the insurer) that is accepted by the insured still binds the insurer exactly as above. However, the insurer has recourse against the agent for any loss the insurer suffers due to the agent’s error.
If an insurer’s “mistake” puts them in violation of their rate filings (which is often not the case), the insurance department may make them re-rate the policy. However, whether they can actually charge the premium to the insured at that point is a question of law – an argument may be made that the contract does not meet legal requirements and is therefore void (meaning it never existed). The remedy would be to issue another policy – not add premium to the existing policy (if this is the argument given by the insurer) and they must return all of the insured’s premium paid to the insurer for that policy – a prospect most insurers do not relish. It also means that there is no coverage for any claims that occurred. It is my view that insurance departments should think twice before they take this position. This argument also violates a legal principle that will not allow a party to use their on wrongdoing to avoid a contract.
This is a fairly long commentary, but there are many aspects of this issue. In short, the principles of contract law generally will provide a clear answer to the question. Unfortunately, such principles are often not understood or observed by the insurer.