What is the Hammer Clause?
The hammer clause is a common provision in errors and omission (E&O) insurance. An insured is sued by a client for an error when providing professional services. After careful analysis of the allegations, the insurer recommends an offer to settle the claim. The insured, however, chooses not to settle the claim proposed by the insurance company.
That’s where the hammer clause comes into play. Knowing what the clause means, the type of policies it is offered on, and how it affects your coverage will help you make better decisions and understand your policy more.
Here are 10 facts about hammer clauses within E&O insurance policies.
The Hammer Clause Deals With the Insured Choosing Not to Settle a Claim
A hammer clause is an insurance contract condition that stipulates what happens when a policy holder disagrees with an insurer’s settlement recommendation. It allows the insurance provider to compel the insured to settle a claim.
The clause gets its name from the power given to the insurance provider to force the insured to approve a settlement offer, much as how a hammer is used to drive a nail. If the insurer and the plaintiff agree to settle the claim but your refuse, the provision allows the insurer to cap its liability.
This means that the insurer won’t have to pay additional fees as the case goes through the legal system. If you want to keep fighting the lawsuit, you agree to take the financial risk.
A Hammer Clause Can Be Referred to in Different Ways
Other names for the hammer clause include:
- Consent to settle clause
- Settlement cap provision
- Consent to settlement clause
- Consent to settle loss clause
- Cooperation clause
When an insurer uses any of the above terms, they’re generally referring to the hammer clause.
The Insurer Places a Cap on the Indemnification Amount
The hammer clause increases the chances that the policy holder to settle a claim by placing a cap on the compensation amount that will be provided. The amount the cap is set to is typically decided by the insured. However, the insurer and the insured may differ on what the cap should be. If the insured refuses to settle, they may be responsible for their own defense costs.
The Insurer and the Insured Have Different Goals
When the hammer clause comes into play, the insured and the insurer aim to get the best possible outcome for themselves. The insurance company sets the compensation amount they’re willing to provide. Their goal is to avoid a lengthy legal process and reduce the amount of money they’ll owe in a settlement. Also, the insurer doesn’t want to bear the risk of the claim being taken to court.
The insured, on the other hand, wants to limit as many costs as possible. They’re concerned with the amount of out-of-pocket settlement expenses they have to pay. The expenses incurred by the insured include claims adjuster fees and legal fees. The insurer doesn’t want the fees to grow large over time, so it may be better to resolve the claim sooner rather than later.
Coinsurance Hammer Clauses Allow for Risk-Sharing
Some policies offer co-insurance hammer clauses. A coinsurance hammer clause is a provision that provides for a sharing of defense and indemnity costs between the insurer and the insured. Depending on the wording, an insurer may adjust the level of risk it may want to take with the insured.
So, instead of fully reducing the limit to the settlement amount, a coinsurance clause stipulates what the insurance company will cover going forward and what the insured will be responsible for paying. Different coinsurance hammer clause terms include:
- 0/100 risk share (hard/full coinsurance hammer)
- 50/50 risk share (mild hammer clause)
- 80/20 risk share (modified coinsurance clause)
- 70/30 risk share (modified coinsurance clause)
- 100/0 risk share (soft coinsurance clause)
To help you understand what these numbers mean, let’s take a look at the 80/20 risk share situation. With such a hammer clause, the insurer will take 80% of the liability and defense costs after the settlement offer, and the insured will 20% of the costs going forward.
The Hammer Clause Limits Costs and Risk of Loss
As mentioned, a hammer clause stipulates what happens when a policy fails does not consent to settle a claim as per the insurer’s recommendations. The reason why error and omissions insurance policies have a hammer clause is to limit costs and risk of loss.
Some of the legal costs and expenses the insurer attempts to avoid include:
- Court fees
- Lawyer fees
- Agent fees
- Adjuster fees
- Cost of a mediator (if needed)
- Administration fees
- Interpreter fees
- Risk of loss due to the claim
Specific Policy Language Does Apply
Every E&O insurance policy is written differently, with different policy terms, definitions, exclusions, and insuring agreements. However, you can find the hammer clause language in the defense and settlement section of your policy.
The Hammer Will Have an Impact on Coverage Limits
Once the insurer has gained the plaintiff’s acceptance of a settlement amount, the coverage limits of the insured are reduced, regardless of the limits purchased. As such, the insured won’t have access to the full amount of coverage they had when they purchased the policy. Of course, this will depend on whether a soft, modified, or hard hammer clause is in use.
The insurance company pays the insured the incurred defense costs plus the amount of accepted settlement and steps out of the picture. Any defense costs and judgment over the amount already paid become the responsibility of the insured.
You Have Two Options Once the Hammer Clause is Invoked
Once your insurance provider invokes the hammer clause, you have two options: agree to the settlement or choose to fight and take the risk of having to pay more out of pocket. If you believe you can win the lawsuit because you believe you did not make an error or omission, be prepared to handle any additional costs.
Resolving Claims Quickly May Not Invoke the Clause
The hammer clause is more likely to be used when a claim has been open for an extended period of time and the insured doesn’t consent to a settlement offer made by the insurance provider. Managing and resolving a claim in a timely manner can be done for a relatively small dollar amount and without the insurer needing to invoke the hammer clause.
Turn to Attorneys First Insurance
Attorneys First Insurance is a leading provider of E&O insurance for attorneys and title agencies in Florida, Texas, and Georgia and throughout the United States. Our goal is to help you identify your E&O insurance needs and provide the most competitive coverage options. Contact us today at 727-799-4321 for questions about your insurance needs and get a quick quote.
