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We’ve discussed various issues concerning the allocation of asbestos or hazardous waste claims by insurers or cedents in situations where losses occur in multiple policy periods over time. (See here, here, & here.) Issues relating to allocation of such claims have, for many years, arisen in both insurance coverage cases and reinsurance litigation and arbitration, and they still do.
Earlier this year in Keyspan Gas East Corp. v. Munich Reins. Am., Inc., ___ N.Y.3d ___, N.Y. Slip Op. 2116 (March 27, 2018), New York State’s highest court held that, where applicable policy language contemplates a pro-rata time-on-the-risk allocation of loss, the damages or liability should be allocated over the entire period during which it occurred, including periods during which insurance was not available in the market because of exclusions or other reasons. While the outcomes it will generate are more favorable to insurers than policyholders, the Keyspan decision is sound and consistent with prior New York Court of Appeals cases on allocation and insurance generally. Given New York’s highest court’s historically excellent reputation for resolving insurance and reinsurance issues in an objectively fair and commercially reasonable manner, we suspect that Keyspan may prove to be an influential decision that other states will consider carefully when they are faced with questions concerning what should or should not be counted as part of the time-on-the-risk.
Time-on-the Risk Allocation: Contextual Background
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Hazardous waste and asbestos claims are unique because the “injury producing harm is gradual and continuous and typically spans multiple insurance policy periods….” Keyspan, 2018 N.Y. Slip Op. 2116, at *4. Typically the “environmental contamination” or asbestos injury “that occurred in any given year is unidentifiable and indivisible from the total resulting damages.” See 2018 N.Y. Slip Op. at 2.
Allocating a multi-policy-period loss in different ways can have very significant financial consequences to reinsurers and cedents, and insurers and their insureds. The amount of loss allocated to a given policy determines the applicability of deductibles, the exhaustion (or non-exhaustion) of limits, and the amount the insured is entitled to collect from the insurer under each policy. It factors into whether reinsurance retentions have been met or whether reinsurance contract limits have been exceeded. It can even determine whether certain insurers (e.g. excess or umbrella carriers) or reinsurers are responsible for any of the loss.
Allocation Methods: All Sums versus Proration
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The two basic types of allocation methods courts use are the so-called “all sums” or joint-and-several-liability approach, and proration. The “all sums” method contemplates the allocation to a single period (usually a policy chosen by the insured) all losses attributable to a single, continuing occurrence, even though that results in a policy paying for losses that did not occur during the policy period. See Consolidated Edison Co. of N.Y. v Allstate Ins. Co., 98 N.Y.2d 208, 222 (2002).
Under a proration method, losses arising out of a single occurrence but occurring during multiple policy periods over time, the Court allocates “to each insurance policy” “a pro rata share of the total loss representing the portion of the loss that occurred during the policy period” Matter of Viking Pump, Inc., 27 N.Y.3d 244, 256 (2016). Typically that proration is based on the ratio that each policy’s period bears to the total amount of time over which losses occurred (i.e., the “time-on-the-risk”), the risk, the ratio each policy’s limits bears to the total amount of implicated policy limits, or on some combination of these.
Allocation: Relationship between the Time-on-the-risk and the Amount Allocated to each Policy
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There is an unsurprising tension between the two opposing aspects of any time-on-the-risk, proration-method allocation: (a) the amount to be allocated to each policy; and (b) the period over which the total amount of damages or liability will be allocated for purposes of determining each policy’s share, which we’ve been calling the “time-on-the-risk.” Assuming all policies are of equal length, the outcome of any proposed time-on-the-risk allocation is a proportion established by a fraction, the numerator of which is the amount allocated to each policy, and the denominator of which is the time-on-the-risk.
If the total amount of damages or liability is a constant (as it usually is), simple mathematics demonstrates that reducing the amount allocated to each policy requires increasing the time-on-the-risk.
At first glance it may seem that the time-on-the-risk is always a constant, but that is not necessarily so, because sometimes there is more than one way to calculate the time-on-the-risk. Should the time-on-the-risk include the entire period over which environmental contamination or asbestos caused injury to persons or property? Should it include only periods for which the insured had purchased coverage? Assuming it should include uninsured periods, should it also include periods for which the insured could not have purchased coverage because coverage was not available in the market place, for example, because of industry- or legislatively-required exclusions?
In Keyspan the New York Court of Appeals answered these questions “yes,” “no,” and “yes.”
Keyspan: Facts Pertinent to the Time-on-the-Risk
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Keyspan involved certain hazardous waste sites on Long Island, New York, which were owned by its predecessor utility, the Long Island Lighting Company (“LILCO”). Gas production commenced at the sites “in the late 1880s and early 1900s.” 2018 N.Y. Slip Op. 2116, at *2. Operations continued for several decades, and after they ceased, “the New York Department of Environmental Conservation (DEC) determined that there had been long-term, gradual environmental damage at both sites due to contaminants, such as tar, seeping into the ground and leeching into groundwater.” 2018 N.Y. Slip Op. 2116, at *2. DEC required the utility to remediate the sites, which, of course, was very costly, and the utility sought to recover from the many insurers it had over the many-decade period during which the losses occurred. Coverage litigation in the New York Courts spanning still more decades has ensued and is apparently still ongoing.
Keyspan involved excess liability policies issued during the period 1953 through 1969 by only one of the utility’s insurers. It was undisputed that the policy language, which provided coverage for losses occurring during the policy period, required a time-on-the-risk allocation under New York law.
Expert testimony established that property damage liability coverage was not available to utilities until approximately 1925, and that beginning in 1970, the insurance industry adopted the so-called “sudden and accidental pollution exclusion.” (Later the industry adopted broader, absolute pollution exclusions, but that fact was not relevant to the Court’s decision).
The utility understandably wanted to increase the amount that would be allocated to each of the policies, and thus argued that the total damages for all insurers for each site should be allocated over the period 1925 until 1970, rather than over much longer periods representing, for each of the two sites, the period beginning on the date operations began at the site, and the date when losses ceased to occur at the site.
The insurer desired, again understandably, to decrease the amount that would be allocated to each of the policies and to require the utility to retain for its own account the losses that occurred during years when no insurance was available on the market. It therefore argued for allocation over the longer period.
Keyspan: Rationale for the Court’s Time-on-the-Risk Holding
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The Court explained that under New York law, losses are allocated to policies based on the language of the policies. Where policy language contemplates coverage for injury or damage occurring during the policy period (such as, for example, certain traditional Insurance Services Office (“ISO”) form “occurrence” policies) (ISO is now part of Verisk Analytics) New York follows the pro-rata time-on-the-risk method. Keyspan, 2018 N.Y. Slip Op. 2116, at *5.
When “policy language indicates allocation by the pro rata method and gaps in coverage exist, the question arises as to which party—the insurer or the policyholder—bears the risk for periods of time in which no applicable coverage was in place.” Keyspan, 2018 N.Y. Slip Op. 2116, at *6. Noting that “‘most courts engaging in pro rata allocation require the policyholder to participate in the allocation to some extent’ with respect to periods of non-coverage,” the Court explained that these same “courts are divided with regard to whether a policyholder should be held responsible for those periods of time when the relevant coverage was not offered for sale on the market.” Keyspan, 2018 N.Y. Slip Op. 2116, at *6 (quoting Boston Gas Co. v. Century Indem. Co., 454 Mass 337, 370, 910 NE2d 290, 315 (2009)).
Court discusses the “Unavailability Rule”
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The Court explained that “a number of jurisdictions have declined to place the policyholder ‘on the risk’ if insurance was unavailable.” Keyspan, 2018 N.Y. Slip Op. 2116, at *6. These jurisdictions, the Court explained, follow “the ‘unavailability rule’ or, stated differently, an ‘unavailability exception’ to the general rule that a policyholder is self-insured and on the risk for periods of time when insurance coverage was not obtained.” Keyspan, 2018 N.Y. Slip Op. 2116, at *6-7 (citations omitted).
Under the “unavailability rule,” “a policyholder bears the risk for periods of time when it elected not to purchase available insurance, but not for those years when insurance was unavailable.” Keyspan, 2018 N.Y. Slip Op. 2116, at *7 (citation omitted). When applied, the “unavailability rule” “serves to reduce the number of years included in the overall proration calculation, thereby increasing the shares of liability attributable to an insurer for each year in which a policy was in effect.” N.Y. Slip Op. 2116, at *7 (citation omitted).
Court Rejects the “Unavailability Rule” Because it Cannot be Reconciled with the Premise Underlying Pro Rata Time-on-the-Risk Allocation: Time-on-the-Risk Applies when the Policy Language Limits Indemnification to Losses and Occurrences During the Policy Period
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The Court “reject[ed] application of the unavailability rule for time-on-the-risk pro rata allocation[,]” “[b]ecause the very essence of pro rata allocation is that the insurance policy language limits indemnification to losses and occurrences during the policy period,” and, accordingly, the “unavailability rule cannot be reconciled with the pro rata approach.” N.Y. Slip Op. 2116, at *11 (citations and quotation “”omitted).’
“Here,” said the Court, while the insurance policies at issue do not speak directly to allocation in the context of long-tail claims, each
of the policies contains language (with minor variances) limiting the insurer’s liability to losses and occurrences happening “during the policy period.” N.Y. Slip Op. 2116, at *8. The Court previously held in Consolidated Edison that “pro-rata allocation—rather than all sums allocation—was more consistent with such policy language because ‘the policies provide indemnification for liability incurred as a result of an accident or occurrence during the policy period, not outside that period.'” N.Y. Slip Op. 2116, at *8 (quoting Consolidated Edison, 98 N.Y.2d at 224).
“It follows[,]” said the Court, “that the unavailability rule is inconsistent with the contract language that provides the foundation for the pro rata
approach—namely, the ‘during the policy period’ limitation —and that to allocate risk to the insurer for years outside the policy period would be to ignore the very premise underlying pro rata allocation.” N.Y. Slip Op. 2116, at *9 (citation omitted). Were the Court to adopt the “unavailability rule,” it “could, once a policy is triggered, impose liability in perpetuity (or retroactively to periods prior to coverage) on an insurer who issued insurance coverage for only a limited number of years, thereby eviscerating much of the distinction between pro rata and all sums allocation.” N.Y. Slip Op. 2116, at *9. “In the context of continuous harms,” said the Court, where the contamination attributable to each policy period cannot be proven and we draw from the contract language to distribute the harm pro rata across the policy periods, it would be incongruous to include harm attributable to years of non-coverage within the policy periods.” N.Y. Slip Op. 2116, at *9.
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The Court also believed the “unavailability rule” unsound because it is inconsistent with basic economic principles applicable to insurance transactions. Applying “the unavailability rule to an insurance policy that directs pro rata allocation, either expressly or under our interpretation in Consolidated Edison, would effectively provide insurance coverage to policyholders for years in which no premiums were paid and in which insurers made the calculated choice not to assume[,] or accept premiums for[,] the risk in question.” N.Y. Slip Op. 2116, at *9. But under New York law, insurers are free to select or exclude certain risks, and the insurers in Keyspan decided to insure only losses occurring during their policy periods. N.Y. Slip Op. 2116, at *9 (citation omitted). The unavailability rule would also “contravene the reasonable expectations of the average insured, who would not expect to receive coverage without regard to the number of years for which it purchased applicable insurance.” N.Y. Slip Op. 2116, at *9 (citation omitted).
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The Court also rejected the unavailability rule because courts who follow the rule rely “heavily on public policy concerns and a desire to maximize resources available to claimants against the policyholder[,]” rather than focusing “their analysis on the policy language that serves as the foundation for pro rata allocation. . . .” N.Y. Slip Op. 2116, at *10 (citations omitted). Critical of judicial decisions that have relied on an alleged public policy of spreading risk through insurance, the Court “concur[red] with the Appellate Division that ‘the spreading of industry risk through insurance is accomplished through the setting and payment of premiums for insurance, consistent with the parties’ forward[-]looking assessment of what that risk might entail,’ and that, ‘[i]n the absence of a contract requiring such action, spreading risk should not by itself serve as a legal basis for providing free insurance to an insured.’” N.Y. Slip Op. 2116, at *9 (quoting Appellate Division decision, 143 A.D.3d 86, 97 (1st Dep’t 2016) (bracketed punctuation in original).
The Court did not find anything inequitable about not adopting the unavailability rule. “[E]ven those courts that have adopted the unavailability rule have recognized that, from an equitable standpoint, either party can justifiably be assigned responsibility for ongoing injuries arising after policy exclusion. The policyholder is the one who allegedly caused the injury and, therefore, who ultimately will be financially responsible should insurance prove insufficient.” N.Y. Slip Op. 2116, at *11 (citation and quotation omitted). But despite “competing policy concerns,” and in any event, the Court could “not make or vary the contract of insurance to accomplish its notions of abstract justice or moral obligation.'” N.Y. Slip Op. 2116, at *11 (quoting Breed v Insurance Co. of N. Am., 46 N.Y.2d 351, 355 (1978)).
Photo Acknowledgments:
The photos featured in this post (captioned Time-on-the-Risk 1 – Time-on-the-Risk 10) were licensed from Yay Images and are subject to copyright protection under applicable law. L&L added text to Time-on-the-Risk 1.
The post Time-on-the-Risk Allocation: Are Periods when Coverage is Unavailable in the Market Part of the Time-on-the-Risk? appeared first on Loree Reinsurance and Arbitration Law Forum.
Original article: Time-on-the-Risk Allocation: Are Periods when Coverage is Unavailable in the Market Part of the Time-on-the-Risk? .
