A year in focus

The Annual Master Policy Report is now available to the profession on the Marsh website for Scottish Solicitors. The report reviews the recent experience of intimations (claims and circumstances), and comments on trends and contributory factors.

Economic conditions tend to impact on the claims experience, and the economic cycle is mirrored to an extent in the frequency and severity of Master Policy claims. Going into the recession, concerns were expressed that the claims experience could be impacted adversely by a number of factors:

Market volatility could increase the risk of loss to clients in the event of e.g. a drop in value of property, stocks or shares in combination with errors, omissions or delay on the part of solicitors.

Fraud/dishonesty: adverse economic conditions, and resulting financial pressures, tend to increase the incidence of internal fraud or dishonesty across the entire spectrum of businesses.

Lowered guard if, for example, solicitors were prevailed upon to act for clients or undertake instructions which, in a more favourable business climate, they wouldn’t have been prepared to take on.

Dabbling in unfamiliar areas of practice as a result of diversifying the firm’s activities to make up for reduction in activity in familiar areas of the firm’s practice.

The reality is that, to date, these factors have not impacted to any significant extent in the recent claims experience of the Master Policy. That is to the credit of the profession and its effective management of risk. As for the concern about the adverse impact of possible dabbling, the fact is that “not knowing the law” or “getting the law wrong” have never been less significant factors in the claims experience than they are currently.

Claims history

So what factors have impacted on the claims experience?

Lender claims have been a significant feature of the claims experience, contributed in part by the increased level of borrower default in recent years, and in part by the drop in property values since their peak in 2007-08. On repossession, there have been situations where securities proved to be ineffective; where securities do not provide the required priority of ranking; or where there has been some failure in reporting to the lender. The most frequent allegation is that there has been some failure in reporting in accordance with the CML Handbook, and this significant aspect of the claims experience is further commented on in the annual report.

Corporate/commercial failures: in adverse economic conditions, there tends to be a heightened risk that professional advisers, including solicitors, will be blamed when deals haven’t worked out as well as the client hoped, or that receivers/liquidators will seek to hold solicitors or other advisers responsible for failing to warn of risks or failing to put contractual protections in place (e.g. a longstop date; a minimum price; a maximum price; security for deferred consideration).

Claims involving this sort of allegation tend to be more readily answered where instructions and advice are clearly documented, whether in letters, file notes or email exchanges. Otherwise, the claimants may deny that they were warned and insist that they would not have proceeded if they had been informed of the risks. The outcome in these situations can therefore turn on considerations of credibility. While relatively infrequent, the nature of the transactions means such claims quite often involve substantial sums, and can be costly to defend.

External fraud/dishonesty has been a far more significant factor than internal fraud. The most costly claims overall relate to mortgage fraud on the part of borrowers. Many lender claims have arisen as a result of the borrower misrepresenting to the lender the price at which the borrower is purchasing and where there have been omissions in the solicitor’s reporting to the lender. The lender’s claim typically founds on failure to report facts which the lenders argue would have brought the misrepresentation to the lender’s attention and influenced their decision to lend.

Concerningly, the range and sophistication of external frauds and scams continues to grow. Solicitors here and in other jurisdictions have been exposed to risk arising from frauds and scams perpetrated by clients and other third parties involving fake identities, fake transactions, fake cheques/bank drafts, and fake law firms. Some types of fraud/scam can result in direct loss to solicitors. Others can result in solicitors being exposed to claims by other parties, often lenders, to whom the solicitors had a duty of care.

Identity theft has been a potential cause for concern to the profession and the insurers. Within the past few years, there were a number of instances of fraudsters masquerading as owners of unencumbered properties, securing loans from lenders and instructing solicitors to act for them in the loan transaction. When the lender was left without any security, they sought compensation from the solicitor who had acted for the supposed borrower. The basis of the claim was breach of warranty of authority – an alarming proposition, bearing in mind that the solicitors concerned had done all that could have been expected of them in terms of client identification/money laundering compliance. Reassuringly, the court at first instance and on appeal rejected the arguments of the lenders.

Emerging more recently have been instances of fraudsters masquerading as genuine law firms and engaging in transactions where the fraudster’s ultimate objective was to procure a transfer of funds to their bank account. A reported English case (see Davisons Solicitors v Nationwide Building Society [2012] EWCA Civ 1626) involved a property purchase transaction where the solicitors were deceived into completing the transaction with what transpired to be a fake law firm and remitting the purchase price to a fraudster’s bank account.

Where claims have arisen, the allegations have focused on the solicitor’s failure to detect that the bank account to which funds were remitted was not a solicitors’ client account. In the Davisons case, allegations of negligence and breach of trust failed because the solicitors were able to demonstrate that they had acted both honestly and reasonably. It is not entirely clear what is required to demonstrate adequate checking of bank account details and having acted reasonably.

It is apparent that this risk has manifested itself in jurisdictions beyond the UK. The April Journal (p 7) noted that South African law firms are on alert to a scam in which conveyancing practitioners have been tricked into remitting house sale proceeds to a fraudulent bank account.

The sophistication of such frauds and scams is such that they tend to be targeted at higher value transactions and stealing substantial sums of money. While it is to be hoped that these claims remain infrequent, the fact that substantial sums could be involved means that raising awareness of this risk is a current priority.

Risk management

Leaving aside the value of claims, the number of Master Policy intimations is the more meaningful gauge of the effectiveness of risk management. Considering the scale and diversity of the profession’s activities, the number of intimations reflects well on the profession’s risk management performance and on the Society’s risk management initiatives.

Risk management strategies and initiatives have achieved some significant results. One example is the focus of recent years on the risk of claims arising out of errors/omissions in notices, or the service of notices, exercising break options in commercial leases. Journal articles and events have highlighted the scope for landlords’ agents exploiting any opportunity to resist the exercise of the break option on account of, for example, missed time limits, incorrect method of service, or failure to comply with conditions. Again, the infrequency of claims strongly suggests that solicitors must be addressing these risks effectively.

Some areas of risk continue to present significant challenges and are therefore the continuing focus of targeted risk management activity. In addition to information security risks which the Society’s Insurance Committee has identified as a potential emerging area of risk to be tackled on a proactive, pre-emptive basis, the committee continues to focus on lender claims and on frauds and scams as priorities. 

Alistair Sim and Marsh

Alistair Sim is a former solicitor in private practice, who works in the FinPro (Financial and Professional Risks) National Practice at Marsh, global leader in insurance broking and risk management. To contact Alistair, email Alistair.j.sim@marsh.com

The information contained in this article provides only a general overview of subjects covered, is not intended to be taken as advice regarding any individual situation and should not be relied upon as such. Insureds should consult their insurance and legal advisers regarding specific coverage issues.

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