LLPs -A New Opportunity For Insurers?

Article by Simon Greenly and Ed Smerdon

Partners in the largest professional firms have welcomed (and indeed lobbied for) this fundamental change in the law with four out of the largest seven accountancy firms apparently having immediate plans to convert to LLP status. The single biggest advantage of conversion for individual members (ie partners) under the new regime is their personal protection against catastrophic negligence claims as the LLP’s liability is limited and individual members are no longer jointly liable for claims against their co-members.

The DTI estimate that approximately 10% of the 650,000 partnerships in the UK will convert to LLP status, but survey evidence suggests that the majority of firms (other than the largest partnerships) have not yet formulated their strategy for conversion. Therefore, in the context of a competitive market, individual insurers and brokers interested in insuring LLPs have the opportunity of increasing their market share by customising their products and educating their potential clients.

LLPs are outwardly very distinct from partnerships. They are separate legal entities with limited liability and therefore have the ability to enter into contracts with third parties, to sue and be sued in their own right. Since in these respects LLPs resemble corporations, the underlying legislative approach was to draw on the principles enshrined in the treatment of companies. This approach was also extended to the LLP’s members whose status and exposures resemble those of company directors. Accordingly, the principal provisions of the Companies Act ¹ , Insolvency Act ² and the Company Directors Disqualification Act ³ apply to LLPs and their members.

Therefore, the Limited Liability Partnerships Act 2000 (the Act) superimposes the regime that governs the liability of companies and their directors and officers onto the LLP and its members. This means that the insurance carried by partnerships that take on LLP status will need to be converted to a form closely resembling corporate E&O coverage with D&O and entity extensions.

Whilst the concept of joint and several liability will be a thing of the past for individual LLP members, they will nevertheless require insurance for two reasons.

• First, the recent Court of Appeal decision of Merrett v Babb ⁴ confirms that individual members (and any employees for that matter) may be sued for negligent advice or misstatements where they have assumed personal responsibility to a third party who has reasonably relied upon this. This case is considered in more detail alongside, but it is interesting because the Court of Appeal, by a majority, found that the individual surveyor had assumed a personal responsibility to the purchasers even though they had no idea of his identity and he had not communicated directly with them. Given the uncertainty as to what constitutes an assumption of personal responsibility, which is essentially a matter of fact, members will require costs cover against ultimately unmeritorious claims.
• Second, and perhaps more important, individual members will now be exposed to liabilities similar to those faced by the directors and officers of corporations. For example, since certain provisions of the Insolvency Act apply, the LLP’s liquidator can bring claims against the members for fraudulent/wrongful trading and, in certain circumstances, has the power to claw back any drawings taken in the two years prior to the liquidation. Other potential statutory liabilities faced by members include the multiplicity of sanctions for certain breaches of the Companies Act ¹ and even disqualification proceedings under the Company Directors Disqualification Act ³ . Members may also face internal claims, whether brought by the LLP itself, alleging breach of fiduciary duties, or from other members, for example under s459 Companies Act, alleging that their interests have been unfairly prejudiced.

Therefore, whilst the Act restricts the members’ personal liability on the one hand in the sense that members are no longer jointly liable, it opens up their liabilities on the other to the extent that they now largely mirror those faced by company directors. The Act will fundamentally change the landscape in which professional firms operate, enabling individuals to limit their personal exposure and thereby maintain Great Britain’s competitive position in the provision of professional services. This Act creates a significant business opportunity for enlightened sections of the insurance industry because the majority of professional firms require educating, both in the potential advantages and disadvantages of conversion to LLP status, and in the consequential extension of cover that this will necessitate.

1 Companies Act 1985

2 Insolvency Act 1985

3 Company Directors Disqualification Act 1986

4 Times Law Reports 2/3/2001