Notice/Prejudice and the Role of State Law

In last month's newsletter, we began discussion of claims-made-and-reported medical malpractice insurance policies and of how most states are strict in requiring insureds to notify their insurers of claims within their policies' designated reporting periods. However, the recent Maryland case we continue to discuss here ' Sherwood Brands Inc. v. Great American Ins. Co., —A.3d —, 2011 WL 657014 (Md., 2/24/11) ' shows that state law sometimes may trump a policy's reporting requirements.

Development of Maryland Statutory and Case Law

The evolution of Maryland law with regard to notice/prejudice began with a 1960s case, Watson v. U.S. Fidelity and Guaranty Co., 231 Md. 266 (1963). In Watson, a man involved in an auto accident notified his insurance company about a month after it occurred. The court sided with the insurer, denying him coverage because he failed, in contravention of the terms of the insurance policy, to notify the insurer “as soon as practicable.”

In response to the harsh result in Watson, Maryland's legislature in 1966 passed legislation requiring insurers asserting late notice of claims as a basis for denying coverage to make a showing of prejudice suffered because of the tardy notice if they wanted to disclaim responsiblity. Maryland Code (1957, 1972 Repl.Vol.), Article 48A, ' 482. Section 482, virtually unchanged, later became the basis for Maryland Code (1997, 2006 Repl.Vol.), Insurance Article ' 19-110 (“Disclaimers of coverage on liability policies”), which now provides in pertinent part: “An insurer may disclaim coverage on a liability insurance policy on the ground that the insured … has breached the policy … by not giving the insurer required notice only if the insurer establishes … that the lack of … notice has resulted in actual prejudice to the insurer.”

The next case that strongly influenced Maryland law on this issue was a medical malpractice case, St. Paul Fire and Marine Ins. Co. v. House, 315 Md. 328 (1989). In an unusual twist, while the majority decided the case on a basis not germane to the notice/prejudice issue here, the more important portion of the opinion was contained in the dissent, written by Chief Judge Robert C. Murphy. As explained by the Sherwood court, Chief Judge Murphy's dissent's “holdings” were these:

First: In a “pure” claims-made policy, a claim is “made” when a claim (typically a lawsuit) is brought against the insured during the policy period. Second: In a “reporting-type” claims-made policy, a claim is “made” when, in addition to a claim being brought against the insured during the policy period, the insured reports or notifies the insurer of the claim made against the insured. Third: In a claims-made policy, there can be no breach of the policy where a claim is “made” after the policy's expiration (whether by (1) the insured having a claim filed against it during the policy period, as in a “pure” claims-made policy, or, (2) the insured having reported or notified the claim lodged against the insured to the insurer, as in a 'reporting-type' claims-made policy) as one cannot “breach” a policy that is no longer in existence. Fourth: In a claims-made policy, then, where a claim is “made” after the policy expiration,
' 482 does not apply to require the insurer to show prejudice, as the statute, on its face, applies only when an “insured has breached the policy.

Four years after House, Maryland's Supreme Court handed down one of the primary decisions cited by Great American in support of its attempt to disclaim liability in Sherwood. T.H.E. Insurance Co. v. P.T.P. Inc., 331 Md. 406 (1993), concerned a go-kart track, owned by P.T.P. and insured by T.H.E. The insurance policy stated that “[a] claim … seeking damages will be considered to have been made when written notice of such claim is received and recorded by [T.H.E.].” A patron was injured on the track but did not sue T.H.E. until the policy period and extended reporting period had ended. When T.H.E. sought defense and indemnification, the insurer refused and P.T.P. brought suit. The trial court, citing ' 482, required T.H.E. to show it had been prejudiced by the late-delivered claim; it was unable to do so. On appeal, Maryland's Supreme Court reversed, finding that the reporting period under the policy had expired by the time T.H.E. gave notice to the insurer. The court there stated, “The original policy had come to an end with respect to newly reported claims. Section 482 could no more revive the original policy to cover the ' claim than ' 482 could reopen an occurrence policy to embrace a claim based on an accident that happened after the end of the policy period.” The court also noted that “the original policy had expired before a claim was asserted against P.T.P. That expiration resulted from the terms of coverage and is not attributed to a 'breach by P.T.P.' The problem at which ' 482 is directed is not presented.” The dissent in T.H.E. (joined by a judge who is now Chief Justice of the Maryland Supreme Court) took issue with the majority's failure to distinguish a case like T.H.E. where the claim was not presented to the insured during the policy period and one where the claim was made but not reported during the policy period. The dissent contended that by allowing T.H.E. to define the time at which a claim is made as “when written notice of such claim is received and recorded by us” ' that is, by permitting the insurer to deem the reporting of the claim by the insured to the insurer the insurable event, rather than considering the insurable event to be the claimant's notification to the insured that he is making a claim ' it had permitted the insurer to circumvent the requirements of ' 482, setting a questionable precedent.

All of these cases together led the high court in Sherwood to conclude that the question whether Great American should have to show prejudice in order to disclaim responsibility turned on one thing: Had Sherwood breached the contract? If so, ' 19-110 (formerly ' 482) would kick in to require a showing of prejudice resulting from the late notice. If not, ' 19-110 would not be invoked, and Great American could be excused from performing under the contract even if it could not show prejudice.

A Covenant, Not a Condition Precedent

Was there a breach of a covenant of the contract? Or had Sherwood, by failing to give notice of the claim, simply failed to perform a condition precedent to Great American's duty to indemnify? If the former were true, Sherwood's failure to give timely notice would be a “breach of the policy,” so that ' 19-110 would apply, requiring Great American to show prejudice due to that late notice if it wanted to avoid responsibility. If the latter were true there would be no breach, as the failure to perform a condition precedent cannot be termed a breach; rather, the nonoccurrence of a condition precedent merely relieves the other party of the duty to perform. See RESTATEMENT (SECOND) OF CONTRACTS ' 225 (1981) (“Non-occurrence of a condition is not a breach by a party unless he is under a duty that the condition occur.”).

Here, the contract's wording itself might have settled the question if the court had accepted at face value the policy's own statement that “[t]he Insureds shall, as a condition precedent to their rights under this Policy, give the Insurer notice in writing of any Claim … .”

This is where the State of Maryland breaks from the pack. In most states ' and, indeed, in Maryland prior to the enactment in 1966 of ' 482 (later ' 19-110) ' the general rule is that the inclusion in a policy of a claim-notification period creates a condition precedent. However, the court in Sherwood found that former ' 428 was enacted specifically to overrule Watson, do away with the strict condition-precedent approach, and make insurance policy provisions requiring notice to, and cooperation with, the insurer covenants and not conditions. Thus, as Sherwood had, by giving late notice, violated a covenant in the policy, it had breached the contract. As such, in accordance with ' 19-110, Maryland's high court concluded that Great American must prove it has suffered prejudice due to the tardy notification of the Sherwood claims if it wishes to avoid its responsibilities to Sherwood. It therefore vacated the judgment the of the trial court and remanded for further proceedings.

Conclusion

What the Sherwood case means for Maryland health care providers is that, even if they carry a claims-made-and-reported policy, and they neglect to notify their insurers of claims made against them within their policies' designated reporting periods, their insurers may still be required to provide them coverage. Only if the insurance company can show prejudice due to the late notice will it be permitted to disclaim responsibility.

Janice G. Inman is Editor-in-Chief of this newsletter.

In last month's newsletter, we began discussion of claims-made-and-reported medical malpractice insurance policies and of how most states are strict in requiring insureds to notify their insurers of claims within their policies' designated reporting periods. However, the recent Maryland case we continue to discuss here ' Sherwood Brands Inc. v. Great American Ins. Co., —A.3d —, 2011 WL 657014 (Md., 2/24/11) ' shows that state law sometimes may trump a policy's reporting requirements.

Development of Maryland Statutory and Case Law

The evolution of Maryland law with regard to notice/prejudice began with a 1960s case, Watson v. U.S. Fidelity and Guaranty Co. , 231 Md. 266 (1963). In Watson, a man involved in an auto accident notified his insurance company about a month after it occurred. The court sided with the insurer, denying him coverage because he failed, in contravention of the terms of the insurance policy, to notify the insurer “as soon as practicable.”

In response to the harsh result in Watson, Maryland's legislature in 1966 passed legislation requiring insurers asserting late notice of claims as a basis for denying coverage to make a showing of prejudice suffered because of the tardy notice if they wanted to disclaim responsiblity. Maryland Code (1957, 1972 Repl.Vol.), Article 48A, ' 482. Section 482, virtually unchanged, later became the basis for Maryland Code (1997, 2006 Repl.Vol.), Insurance Article ' 19-110 (“Disclaimers of coverage on liability policies”), which now provides in pertinent part: “An insurer may disclaim coverage on a liability insurance policy on the ground that the insured … has breached the policy … by not giving the insurer required notice only if the insurer establishes … that the lack of … notice has resulted in actual prejudice to the insurer.”

The next case that strongly influenced Maryland law on this issue was a medical malpractice case, St. Paul Fire and Marine Ins. Co. v. House , 315 Md. 328 (1989). In an unusual twist, while the majority decided the case on a basis not germane to the notice/prejudice issue here, the more important portion of the opinion was contained in the dissent, written by Chief Judge Robert C. Murphy. As explained by the Sherwood court, Chief Judge Murphy's dissent's “holdings” were these:

First: In a “pure” claims-made policy, a claim is “made” when a claim (typically a lawsuit) is brought against the insured during the policy period. Second: In a “reporting-type” claims-made policy, a claim is “made” when, in addition to a claim being brought against the insured during the policy period, the insured reports or notifies the insurer of the claim made against the insured. Third: In a claims-made policy, there can be no breach of the policy where a claim is “made” after the policy's expiration (whether by (1) the insured having a claim filed against it during the policy period, as in a “pure” claims-made policy, or, (2) the insured having reported or notified the claim lodged against the insured to the insurer, as in a 'reporting-type' claims-made policy) as one cannot “breach” a policy that is no longer in existence. Fourth: In a claims-made policy, then, where a claim is “made” after the policy expiration,
' 482 does not apply to require the insurer to show prejudice, as the statute, on its face, applies only when an “insured has breached the policy.

Four years after House , Maryland's Supreme Court handed down one of the primary decisions cited by Great American in support of its attempt to disclaim liability in Sherwood . T.H.E. Insurance Co. v. P.T.P. Inc. , 331 Md. 406 (1993), concerned a go-kart track, owned by P.T.P. and insured by T.H.E. The insurance policy stated that “[a] claim … seeking damages will be considered to have been made when written notice of such claim is received and recorded by [T.H.E.].” A patron was injured on the track but did not sue T.H.E. until the policy period and extended reporting period had ended. When T.H.E. sought defense and indemnification, the insurer refused and P.T.P. brought suit. The trial court, citing ' 482, required T.H.E. to show it had been prejudiced by the late-delivered claim; it was unable to do so. On appeal, Maryland's Supreme Court reversed, finding that the reporting period under the policy had expired by the time T.H.E. gave notice to the insurer. The court there stated, “The original policy had come to an end with respect to newly reported claims. Section 482 could no more revive the original policy to cover the ' claim than ' 482 could reopen an occurrence policy to embrace a claim based on an accident that happened after the end of the policy period.” The court also noted that “the original policy had expired before a claim was asserted against P.T.P. That expiration resulted from the terms of coverage and is not attributed to a 'breach by P.T.P.' The problem at which ' 482 is directed is not presented.” The dissent in T.H.E. (joined by a judge who is now Chief Justice of the Maryland Supreme Court) took issue with the majority's failure to distinguish a case like T.H.E. where the claim was not presented to the insured during the policy period and one where the claim was made but not reported during the policy period. The dissent contended that by allowing T.H.E. to define the time at which a claim is made as “when written notice of such claim is received and recorded by us” ' that is, by permitting the insurer to deem the reporting of the claim by the insured to the insurer the insurable event, rather than considering the insurable event to be the claimant's notification to the insured that he is making a claim ' it had permitted the insurer to circumvent the requirements of ' 482, setting a questionable precedent.

All of these cases together led the high court in Sherwood to conclude that the question whether Great American should have to show prejudice in order to disclaim responsibility turned on one thing: Had Sherwood breached the contract? If so, ' 19-110 (formerly ' 482) would kick in to require a showing of prejudice resulting from the late notice. If not, ' 19-110 would not be invoked, and Great American could be excused from performing under the contract even if it could not show prejudice.

A Covenant, Not a Condition Precedent

Was there a breach of a covenant of the contract? Or had Sherwood, by failing to give notice of the claim, simply failed to perform a condition precedent to Great American's duty to indemnify? If the former were true, Sherwood's failure to give timely notice would be a “breach of the policy,” so that ' 19-110 would apply, requiring Great American to show prejudice due to that late notice if it wanted to avoid responsibility. If the latter were true there would be no breach, as the failure to perform a condition precedent cannot be termed a breach; rather, the nonoccurrence of a condition precedent merely relieves the other party of the duty to perform. See RESTATEMENT (SECOND) OF CONTRACTS ' 225 (1981) (“Non-occurrence of a condition is not a breach by a party unless he is under a duty that the condition occur.”).

Here, the contract's wording itself might have settled the question if the court had accepted at face value the policy's own statement that “[t]he Insureds shall, as a condition precedent to their rights under this Policy, give the Insurer notice in writing of any Claim … .”

This is where the State of Maryland breaks from the pack. In most states ' and, indeed, in Maryland prior to the enactment in 1966 of ' 482 (later ' 19-110) ' the general rule is that the inclusion in a policy of a claim-notification period creates a condition precedent. However, the court in Sherwood found that former ' 428 was enacted specifically to overrule Watson, do away with the strict condition-precedent approach, and make insurance policy provisions requiring notice to, and cooperation with, the insurer covenants and not conditions. Thus, as Sherwood had, by giving late notice, violated a covenant in the policy, it had breached the contract. As such, in accordance with ' 19-110, Maryland's high court concluded that Great American must prove it has suffered prejudice due to the tardy notification of the Sherwood claims if it wishes to avoid its responsibilities to Sherwood. It therefore vacated the judgment the of the trial court and remanded for further proceedings.

Conclusion

What the Sherwood case means for Maryland health care providers is that, even if they carry a claims-made-and-reported policy, and they neglect to notify their insurers of claims made against them within their policies' designated reporting periods, their insurers may still be required to provide them coverage. Only if the insurance company can show prejudice due to the late notice will it be permitted to disclaim responsibility.

Janice G. Inman is Editor-in-Chief of this newsletter.