NZ liability insurance: policies explained

by Crossley Gates, Keegan Alexander, New Zealand

Underwriters have historically separated liability insurance into several well-known products.

Each addresses a specific basket of ways an insured can become legally liable to a third party.

The three best known are public liability (broadform liability), professional indemnity and directors & officers’ liability.

Ideally, they should all work together so the cover across them is seamless, with no overlaps or gaps. However, there is room for underwriters to improve this.

Public liability

Liability in connection with property damage

In this era of the Accident Compensation Commission’s (ACC) statutory cover for bodily injury in NZ, a public liability (PL) policy is focused on indemnifying the insured for their liability for damage to a third party’s property.

However, there is a major limitation. There is no cover for liability for property damage to an item the insured has sold to, or worked on for, the third party beforehand (called a product). The cover is only for liability for property damage to other property resulting from the initial property damage to the product. Sometimes there is no resultant property damage, meaning there is no cover under the policy. Insureds generally don’t understand this, leading to unnecessary disputes.

The nature of the insured’s business can greatly affect the potential scope of the cover. For example, for a business selling agricultural equipment, the scope of cover is narrower because the policy will only cover liability for damage to other property resulting from damage to the agricultural equipment itself (the product).

However, for a commercial electrician, the scope of cover is wider. As an electrician often only works on the switchboard and wiring in discrete areas of a building (the product), a PL policy will cover liability for resultant damage beyond those areas to the rest of the building if, say, a fire occurs.
This limitation is a well-recognised underwriting demarcation between the greater risk of property damage to the product, and the lesser risk of that damage causing resultant property damage beyond the product. A product guarantee policy covers the former risk (expensive and generally only available in NZ from overseas underwriters), whereas a

PL policy covers the latter risk.

PL underwriters should make this limitation more explicit when they refer to their product. Any description of the cover should refer to liability for property damage resulting from damage to the insured’s product. Brokers should always bring this limitation to their clients’ attention.

Bodily injury to employees

A PL policy always excludes liability for bodily injury to an employee. The reason is historical and relates to stopping the cover overlapping with a workers’ compensation policy in the days before ACC.

Despite the ACC statutory cover, there is a narrow window of injuries not covered by it for which common law liability is still possible.

Where this liability arises outside the third party’s employment, the main insuring clause of a PL policy will cover it. However, where it arises during the third party’s employment, the exclusion applies – hence the need for a separate employer’s liability policy to plug the gap.

Broadform liability

Historically, a standard PL policy provided narrow cover.

In the 1990s, a liability underwriter at NZI, Karl Kemp, decided he wanted to adopt a PL policy that incorporated all the common extensions as standard. The Americans had a policy like that called a broadform liability policy.

Typically, the American version had just one broad insuring clause, followed by a lengthy list of exclusions. That made the extent of the cover hard to fathom, as an insured had to digest all the exclusions first before the cover could be determined.

The NZI version instead put all the insuring clauses of the common extensions together into the policy, making the categories easier to navigate.

Broadform liability is now the dominant type of PL product in NZ.

Liability in connection with advice

A key exclusion in a PL policy is liability in connection with advice given by the insured to a third party. This exclusion creates the key underwriting demarcation between a

PL policy and a PI policy, which does not have that exclusion.

In Timtech Chemicals Ltd v QBE Insurance (International) Ltd, CA 219/2011, the Court of Appeal considered what amounted to advice. The insured manufactured industrial equipment used to treat freshly sawn timber in a kiln. The process needed the precise setting of ‘set points’ in the equipment. The insured made a mistake in the settings, resulting in the third party incorrectly treating a large amount of timber, making it unsaleable.

The insured held a PI policy, but not a PL policy. It tried to argue the mistake it made was advice. The Court of Appeal rejected that, finding it is an essential element of any advice that information is communicated to the third party, otherwise it is not advice at all.

Insured parties

A PL policy primarily insures the legal entity conducting the insured business, whether it is a sole trader, partnership, incorporated company, or other incorporated entity.
The cover is commonly extended to include partners, directors and employees of that legal entity.

Professional indemnity

Liability in connection with advice

PI policies were originally aimed at the traditional professions. The need was obvious. The traditional professions generally sell advice, not products. As the PL policy excludes liability in connection with advice, a policy covering advice was needed.

It is therefore perhaps surprising that the only indication this is the main purpose of the policy is the absence of the advice exclusion found in the PL policy. The significance of that absence is not obvious to a casual reader of the policy.

Description of business activity in the schedule crucial

Historically, the policy has often been triggered by a ‘wrongful act’ in connection with the insured’s business. The definition of ‘wrongful act’ had many failings, many of them torts, and usually included any ‘act or omission’ by the insured. Given those words apply to almost any situation, the rest of the definition achieve little.

More recently, policies have abandoned the definition of ‘wrongful act’ and simply cover any act or omission of the insured in connection with the insured’s professional services as described in the schedule. That makes that description especially important.

Brokers take note: ensure the definition is comprehensive and all-encompassing of the insured’s business activities. Using the adjective ‘professional’ in policies does not limit the cover anymore, despite it still being used heavily by underwriters. The business skills the underwriter agreed to cover in that description are what counts in terms of the nature of the business activities covered.

Liability for property damage

Broadly, there are two types of advisers: those whose negligent advice will result in the third party suffering economic loss (eg, lawyers, accountants, and financial advisers), and those whose financial advice will result in property damage, or both (eg, architects and engineers).

It is important to consider which category a client falls into. Some PI policies are aimed at the first category only and have an exclusion for liability for damage to property. That is of little use to an architect or an engineer.

Some businesses involve both giving advice and selling a product. In that situation, the policy often just excludes liability for the insured selling products. That retains cover for the advice element but excludes product liability for resultant damage that a PL policy covers.

Insured parties

A PI policy primarily insures the legal entity conducting the insured business, whether it is a sole trader, partnership, incorporated company, or some other incorporated entity.
The cover under the policy is also commonly extended to include partners, directors and employees of that legal entity.

Directors and officers’ liability

Liability as a director

The primary purpose of a D&O policy is to address the liability exposure of the directors of a company under the NZ Companies Act 1993.

A company is a legal entity that requires its own PL or PI policy, or both. In certain circumstances company directors can be sued personally, either separately or in addition to the company, and need their own liability policy to address that separate liability exposure. A D&O policy achieves this; it is a separate type of PI policy for the directors.

Many companies indemnify their directors for breaches of their duties as directors out of company funds, short of an intentional or fraudulent breach by them. A D&O policy recompenses the company for this payment instead of the directors. This is the second limb of the policy.

Some D&O policies have a third limb that provides liability insurance for the company itself. However, this is just the same as providing a separate PI policy to the company.

The two products are being combined under the one policy.

Cover under both a PL and a PI policy is extended to include the directors of an insured company. How is the intended cover under a D&O policy kept separate from this? The usual way is to limit the D&O policy cover to directors whose alleged liability is in their capacity as directors only.

We are unaware of any case law that has determined the boundaries of this capacity.

The name of a D&O policy includes the word ‘officer’. Under the Companies Act 1993, there is no legal standing for this title, so it is redundant.

However, a D&O policy also covers company employees, which is often forgotten. It is unclear whether this cover is meant to overlap with the cover for employees under a PL or PI policy or be separate from it.

Summary

A business selling, constructing or repairing goods needs a PL policy that covers liability to a third party for damage to its property resulting from a fault in those goods.
A business selling advice needs a PI policy that covers liability to a third party for its economic loss arising from any fault in that advice. Depending on the subject matter of the advice, that also may need to extend to liability for property damage.
Directors of companies (and managers of other incorporated entities) need a D&O policy that covers directors’ faulty management of the company contrary to the Companies Act.
Employees have separate cover under all three types of policy.