UK: SRA Decides Not To Abolish Solicitors' Compulsory Insurance For Work Carried Out For Financial Institutions

Last Updated: 16 May 2011
Article by Louise Woods

Originally published on www.complinet.com. (c) Thomson Reuters

The Solicitors Regulation Authority has decided not to abolish solicitors' compulsory professional indemnity insurance when acting for financial institutions. This news should be welcomed by financial institutions and lawyers, as both groups voiced strong opinions against the exclusion of financial firms from mandatory insurance. As part of its plans to overhaul the present system for solicitors' PII, the SRA issued a consultation paper, entitled "Future Client Financial Protection Arrangements", on December 6, 2010 and closed the comment period on February 28, 2011. The most contentious proposal was to abolish solicitors' mandatory PII when acting for financial institutions. But after considering the 308 responses it received, the SRA decided against implementing that part of the proposal. It published its findings on April 19, 2011.

The current PII system

II cover is mandatory and can only be offered by qualifying insurers signed up to the qualifying insurers' agreement. That agreement provides for minimum terms and conditions of insurance approved by the SRA. These MTCs contain provisions designed to protect clients and ensure, among other things, that insurers cannot avoid cover based on the non-payment of premiums by law firms.

Solicitors who are unable to obtain insurance on the open market or who cannot reasonably afford the terms offered to them are covered by the SRA's assigned risks pool. This situation might arise if a firm has a poor claims record or a major claim outstanding. Claims brought against firms in the ARP are funded by qualifying insurers in the proportion of their market share of income from premiums received for solicitors' PII cover.

The current system has come under considerable strain and scrutiny in recent years, due to the big increase in claims brought by lenders against conveyancing solicitors as a result of the financial crisis. Previously, the ARP insured approximately 50 to 70 firms. In 2009-2010 this figure rose to 320. The value of claims brought against the ARP increased from around £5m per year to roughly £40m in 2008-2009. In addition, since 2001, a large proportion of ARP premiums are unpaid every year.

Background to the Consultation

The SRA's aim was to consult on proposals for change to the current PII system from October 2011 onwards. The SRA instructed the global consulting firm Charles River Associates to conduct an independent review of current client financial protection arrangements. In September 2010, the firm published its findings, which the SRA adopted as its proposals. This review was prompted by a number of issues with the current PII system, including:

  • concerns about the increasing cost of insurance for solicitors;
  • concerns that the rigid MTCs to which all solicitors' PII policies are subject actually increase the risk to the public rather than decrease it;
  • increasing difficulties faced by solicitors' firms in obtaining PII in the open market and their resulting cover by the ARP; and
  • a general increase in the number and value of claims being brought, causing concern to indemnity insurers, upon which the legal profession depends to maintain the current open market arrangement.

In addition to addressing the current problems in the PII market, Charles River Associates was instructed to conduct its review with a view to identifying improvements to benefit the PII system in the long term.

The SRA's proposals

As a result of the review, the SRA made the following four proposals for implementation with effect from October 1, 2011:

  • Proposal one: To remove the single renewal date (currently October) for firms' compulsory PII cover. Solicitors' firms would be free to renew their policies at any time during the year.
  • Proposal two: To remove work carried out for financial institutions from the compulsory MTCs.
  • Proposal three: To increase controls over the ARP by reducing the time during which a firm is eligible to be in the ARP from the current 12 months to six months. To ensure firms put in place strategies to either return to the open market for insurance or close down.
  • Proposal four: To clarify insurers' obligations to provide information to the SRA regarding firms that fail to pay their insurance premiums or those insurers believe have provided false or misleading information.

Proposal two was the most controversial. Law firms and their insurers would be free to arrange cover for this type of work, but it would be a commercial decision for them. The SRA's justification was that financial institutions are not clients in need of financial protection. It should not regulate to protect clients where such protection is unnecessary.

Financial institutions are defined by the SRA as "any undertaking or unincorporated association which carries on a business of lending money (which may include mortgage lending) or otherwise providing or issuing credit including, without limitation, any bank or building society".

It is important to note that the SRA proposed that this exclusion should apply in respect of all work undertaken by solicitors for financial institutions, not just in respect of conveyancing work for mortgage lenders. The SRA expected that the main impact of proposal two would be felt in relation to conveyancing transactions for mortgage lenders. The proposal would only affect work carried out after October 1, 2011. Any claims brought for work carried out for financial institutions prior to this date would still, in theory, be covered.

Results of the consultation and the SRA's conclusions

Overall, the objectives and principles for reform put forward by the SRA were supported by 100 respondents and opposed by 18 respondents. The remaining respondents commented more generally.

Proposal two generated the highest number of responses with many respondents choosing to comment on this proposal alone. The overwhelming majority of respondents were opposed to the SRA's proposal to exclude financial institutions from compulsory insurance. The majority of solicitors who responded to the consultation argued that this proposal would not address the underlying cause of problems and suggested it would be better to heighten the regulation of conveyancing firms by the SRA. They also commented that it might lead to some firms being unable to obtain insurance cover for financial institutions, citing that similar cover had been withdrawn from the Irish market in the second year after a similar conveyancing activities exclusion had been implemented in Ireland.

Other observations included the expectation, if the proposal were implemented, that financial institutions would only include on their panels firms which had appropriate financial institution cover, thereby causing a reduction in the number of panel firms. The view was also expressed that this proposal might result in financial institutions requiring separate representation for borrowers in conveyancing transactions, leading to greater costs for consumers.

Perhaps unsurprisingly, financial institutions that responded to the proposal were unanimously against it. They were particularly concerned by the impact that could result from the claims-made basis on which PII operates. If a firm had financial institution cover when the work was carried out, but no longer had that cover when a claim is brought, financial institutions could find themselves without recourse to a policy of insurance. In addition, a number of financial institutions informed the SRA that if such a proposal were to be implemented in October 2011, there would be insufficient time to update their IT systems to reflect the difference between firms that had financial institution cover and those that did not. As a result, they would have to move towards a small panel of firms.

Insurers voiced their support for the proposal, stating that the flexibility it would afford insurers would be beneficial and that financial institutions did not need regulatory protection. They also said they would be willing, in principle, to offer firms additional financial institution cover. Any firm that had difficulty in qualifying for such additional cover would probably experience the same difficulty in respect of the more reduced PII cover.

SRA's findings

In response to the strong opposition to proposal two, particularly the concerns, expressed by lenders and solicitors alike, over the potential resulting reduction in the size of mortgage lenders' panels and the consequent repercussions for consumers, the SRA has confirmed that it will not be adopting this approach in October 2011. The SRA plans to undertake further research and analysis of the conveyancing process in future with a particular emphasis on improving the regulation of conveyancing firms. The SRA plans to complete this process with a view to implementing further changes at a later date.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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