Step-rating is often overlooked and misunderstood when it comes to lawyer's malpractice insurance policies. This industry-wide pricing structure is designed to gradually increase the cost of insurance during the initial years of coverage.
It often comes as a surprise to many attorneys when, just a year after purchasing their first malpractice insurance policy, they see a significant increase in their renewal premium, ranging from 20% to 35%. What's puzzling is that there haven't been any notable changes in their practice and no claims have been filed. So, why the sudden surge in premium costs?
Understanding Step-Rate in the Insurance Industry
This is where step-rating comes into play. Insurance companies have implemented this pricing structure to address the time gap between when an attorney makes an error and when a claim is filed. Step-rating allows insurers to align the premium charged with the potential risk of a claim being made.
In other words, insurers recognize that it typically takes several years for a claim to surface, even if an error has been committed. So, during the first year of coverage, the premium is relatively low because the chances of a claim being filed are quite slim. However, as the years go by and the exposure to potential claims increases, the premium gradually rises to reflect the growing risk.
Factors Affecting Step-Rating
A variety of factors can influence step-rating, including the number of attorneys in the firm, the date of hire, areas of practice, the insurer's rates, limits of liability, and the deductible. These factors, along with the passage of time, contribute to the gradual increase in premium costs.
With step-rate, your premium is relatively low the first year of a claims-made policy, because there’s little risk you will file a claim. The likelihood that an attorney will handle a case, commit an error, and have the client file a claim all during the one-year policy period is rare.
On the other hand, after the first year, there is an increase in the likelihood that a claim could be filed. Additionally, the insurance carrier is now covering all of the insured's work done prior to the current policy period, back to the firm’s prior acts date. For the next four years, the premium will continue to increase to match the increasing risk that the firm could incur a claim.
After five years of coverage, step-rate increases usually come to an end. This is because the attorney's risk of malpractice claims related to prior acts no longer continues to rise. Additionally, cases that occurred three or four years ago pose less risk for the insurance carrier due to the statute of limitations.
Is Step-rate Pricing Consistent Among All Insurers?
It's important to note that not all insurers price step-rate in the same way. Each insurer may have different step-rating factors or timelines, resulting in varying premium increases over time.
For certain insurers, the premium may even more than double over a span of five years. While other insurers may choose to spread out the increases over a longer period of six or seven years.
However, for most insurers, the premium will at least double over the first 5 to 6 years of coverage, regardless of other factors affecting the premium.
Other factors that can affect premium increases include additions or subtractions to the attorney roster, the policy limits and deductibles, the firm’s areas of practice, revenues, claims history, etc., and also inflation and interest rates.
Keep in mind most insurers calculate a premium for each of the firm’s attorneys and a premium for the firm, then blend them to get the final premium. While step-rating applies to all attorneys, solo practitioners buying their first malpractice policy will especially notice the increases, particularly in the first three years (Steps 2 to 4), when the increases are typically larger and the premium is smaller. But, after five years, they won’t continue to feel the effects because the firm is considered to be mature.
Contrarily, a multi-lawyer firm could experience the effects of step-rate for years if they are continually adding new attorneys.
A multi-attorney firm will experience a step-rate increase in its premium for each attorney who’s in year 2 to 5 with the firm. Therefore, if the firm adds a new attorney every year, the firm will incur a step-rate increase every year. However, if most of the firm’s attorneys are mature in their prior acts, the firm will not incur a step-rate increase amid the other factors that affect the premium.
Does Step-Rate Reset When Your Law Firm Switches Professional Liability Insurance Carriers?
If you have completed your years of step rate, and are considered a "mature" law firm, then the short answer is, no, step rate will not reset.
One of the reasons that most insurance agents ask to see the firm’s declarations page and any prior acts endorsements is to make sure the agent is quoting and writing the firm a new policy that matches current prior acts coverage.
In other words, a new insurance carrier will honor the number of years you have been covered. The new carrier will be picking up the exposure for prior acts and the firm’s old carrier is not liable for claims being reported after the policy coverage has expired.
The new carrier will establish an insurance rate appropriate for the amount of time and exposure your policy is covering. By essentially, picking up where you left off with your previous carrier, the new carrier will not need to adjust your premium annually and utilize step rate.
But, if you are within the window of your first five to six years of coverage, then a new carrier will continue to utilize step rate. Step rate will not start over, but instead will once again, pick up where you left off with a previous carrier.
Implications of Step-Rate for Your Law Firm
While step-rating can be frustrating for insured attorneys, understanding its purpose can help alleviate some of the frustration. This industry-wide practice is designed to protect both the insurance carrier and the insured from potential financial harm. By knowing what to expect and planning ahead, attorneys can make informed decisions when purchasing a policy and better prepare for future expenses.
So, if you're new to professional liability insurance and are receiving quotes, it's important to consider what your premium might be in 5 years. This forward-thinking approach will help you select the right carrier and policy for your business, and reduce any surprise or sticker shock during the policy renewal process.
