Do Insurers Intentionally Introduce Ambiguities Into Policies?

Now this is an impressive post on ambiguities in insurance contracts, complete with footnotes, by Chris Robertson, a third-year law student at Harvard. I hesitate to link to it, for fear anyone will expect footnotes from me. If they are waiting for this, they will wait a long time.

The post is well-researched with sources ranging from Judge Richard Posner to Ralph Nader.  The gist of the post is that insurers perhaps intentionally make policy terms and conditions ambiguous as a strategy to deter and intimidate policyholders.  Chris acknowledges that courts decide ambiguities against the insurer, but says insurers may prefer to take their chances knowing that many people won’t sue and that sometimes courts will side with insurers.  Chris wrote this post in a scholarly vein, so I hope he won’t mind if I take issue with it. The post is in line with a lot of popular sentiment, so I want to address it. 

If this is a strategy by any insurance company in this world, let me give you some free advice: give it up, it won’t work.  Instead, don’t put any ambiguities in policies and use the same strategy of refusing to pay no matter what, and you will achieve better results.  Let’s look at the economic argument in the post this way.  Suppose the market is saturated with insurers whose business strategy manual has one page that contains one sentence: AT ALL TIMES, ACT IN BAD FAITH.  They take in premiums but don’t pay. Let’s also just say there are no state regulators who will prosecute them or revoke their licenses to sell insurance in the state.  If I come along and start an honest insurance company, or as honest as I can make it considering I may have to hire employees from companies that trained them to operate in bad faith, I will be able to charge higher prices and still dominate the market, because people know with me, they at least have a chance of getting a claim paid.  Whereas with the other companies, giving them money is like making a loan to your brother-in-law.  Neither I nor the bad companies have any incentive to make policies ambiguous — doing so only gives some judge a free shot at me, and for the other guys, why bother, since they aren’t going to pay no matter what the contract says. 

Not to mention that we know that almost all terms in widely used policies originated with the Insurance Services Office or some other trade group that debated endlessly about language to address specific concerns, in response to specific legal developments, and had a specific intention to broaden coverage to include certain things but not others, or to contract coverage to exclude certain things but not others.   These things are written about as well as they can be written.  Plain English doesn’t work.  The less that is said about a given thing, and the less technical the term, the more ambiguous you can make it out to be. 

In any event, a good, thought-provoking post.

UPDATE: Make sure you check out the comment below from Prof. Seth Chandler.  He gives you two weeks of course work on ambiguity condensed into a 60-second bite, and you don’t have to pay any law school tuition to get it.  

SECOND UPDATE: You’ll also want to read Martin Grace’s post on ambiguity at RiskProf, and check out Ted Frank’s post at PointofLaw.  

5 Comments

Filed under Duty to Defend, Duty to Indemnify, First Party Insurance, Liability Policies

5 Responses to Do Insurers Intentionally Introduce Ambiguities Into Policies?

  1. What are they teaching at Harvard Law?

    It doesn’t take long for an anonymous commenter and David Rossmiller to demolish Harvard 3L Christopher Robertson’s unreasoned-if-heavily-footnoted insurance company conspiracy theory, posted on Professor Elizabeth Warren’s blog….

  2. Seth Chandler

    Insurance contracts are ambiguous for a variety of reasons, including (a) they are drafted by mortals who cannot forsee all the factual situations their symbols will be forced to confront; (b) English syntax and language is ambiguous and incomplete; (c) almost all complex contracts contain ambiguities; (d) the insurer and insured are trying to draft a contract that addresses (i) the moral hazard problem; (ii) the adverse selection problem; (iii) the undesirability of insuring correlated risks; (iv) the problem of fraud and opportunism; (d) they are attempting to issue rejoinders to or piggyback upon courts’ prior construction efforts; (e) they live in a regulatory environment in which attempts at resolution of ambiguities may create additional problems. All of this is complicated and so it is hardly surprising or evil that insurance contracts are occasionally ambiguous, generally at the margins.
    The real issue is what the legal response should be to ambiguity; should we try to distinguish between “faultless ambiguity (deliberate vagueness as to things that are very difficult to define)” and “faulty ambiguity” (inconsistencies, for example); should we punish ambiguity by contra proferentem even where the insured, as opposed to their litigation attorney, did not contemplate the alternative meaning; should the reasonable expectations of an insured who does not understand insurance economics be relevant? Moreover, why would it always be bad if an insurer “deliberately” left a vague clause rather than draft a much lengthier provision that likely introduced its own ambiguities and was unlikely be read prior to contract formation anyway? In most of the world, balancing ambiguity against brevity is considered part of the art of drafting. Curing the multi-faceted information imbalance between insureds and unsophisticated consumers is a very difficult if not impossible problem and there are a variety of legal responses that can intelligently address the issue. I suspect none of those responses are perfect.

  3. Jesse Skinner

    It would appear that one of the basic problems or gripes with lengthy, â€

  4. Jesse Skinner

    (Sorry about the version of this comment with the hieroglyphics. Here’s a version without them. Administrator, please feel free to delete the other version of this post.)
    It would appear that one of the basic problems or gripes with lengthy, “incomprehensible” insurance policies is a general failure of a meeting of the minds. In other contract contexts, there should be a general meeting of the minds in order to create a valid contract. I’m reminded of the history of insurance, as I learned it in Professor Chandler’s class, where people at Lloyds Coffee House bargained for insurance for ships and their cargo. These deals were likely short and to the point. I imagine if an investor or “insurer” at the coffee house was concerned that a captain might take unnecessary risks simply because he knew his ship was covered in the event of an “accident,” that investor might charge the captain (or ship owner) a higher rate for the coverage. Similarly, if an investor was worried about captains with “faulty” ships looking for coverage or “bad” captains seeking coverage or the like, the rates would again presumably go up to compensate for this. The entire, basic point of insurance is to shift risk from the insured to the insurer. As Professor Chandler taught us, the law of large numbers is ultimately what makes insurance a profitable business, as long as the risks aren’t correlated. Occasionally, however, it feels like insurance companies today are just as risk averse as their insureds. By adding various clauses, exclusions and conditions to their contracts, insurance companies significantly reduce the universe of covered events to reduce their own risk of having to pay a claim. I understand that the real “business” of insurance is to collect the maximum number of premiums while paying the minimum number of claims, but at the same time, as long as the insured risks aren’t correlated, the law of large numbers makes the collection of more premiums than payment of claims a certainty for any risk, not just the narrow universe of risks most insurance policies today seek to cover. I think the real desirability of having longer, more complicated forms is that this ultimately brings the price of premiums down for consumers. If insurers can narrow the risks they are actually taking, the number of claims they will have to pay is reduced and the price of the insurance can also be reduced. If I sought “all risk” fire insurance for my home from an insurer, the rates would presumably be unaffordable. This is because, as Professor Chandler pointed out, the insurer would need to account for my possible increased carelessness (moral hazard), the possibility that I know my house is a tinderbox waiting to go up in flames (adverse selection), the possibility all the homes in my neighborhood will burn at once (correlated risks) or the possibility I’ve lied to them about something important (fraud or opportunism). If the insurer can eliminate or significantly reduce some or all of these problems by adding conditions and exclusions to our contract, the cost of my fire insurance will also significantly decline. So, while it may appear that longer contracts are better for the insurer and worse for the insured, the situation is much more complicated than that. The real choice for consumers is and has always been between having more coverage (or “complete” coverage) which could presumably be captured in a shorter, more concise contract, but at higher rates or having less coverage with a much more extensive contract and lower rates. The choice is really, ultimately the consumer’s. I could conceivably go to State Farm and ask them for unambiguous “all risk” fire insurance, “even if I burn my own house down,” and after they stopped laughing at me, if they decided I was an “acceptable” risk, I’d need to be prepared to pay through the nose for the piece of mind that if I go temporarily insane one day and burn my house down, State Farm will pay. Even still there would probably be some ambiguity because, as noted in Professor Chandler’s comment, language is inherently ambiguous. For example, would State Farm require the home to be completely destroyed or merely sustain fire damage? Insurance companies simply can’t be held liable for the inherent ambiguity of language or for the desire of insureds to have lower premiums (which necessitates longer contracts).

  5. Michael Little

    Q on Duty to Defend breach of contract claim in Umbrella Policy:
    Policy states:
    Liability Coverage-“We will pay for damages an insured becomes legally obligated to pay … This obligation must arise from an occurrence not excluded by this policy.”
    Defense Coverage-“If a claim is made or a suit is brought against any insured for damages caused by an occurrence to which Liability Coverage applies, we will provide a defense at our expense by counsel of our choice, even if the suit is groundless, false or fraudulent.”
    Exclusion-“This insurance does not apply to: liability arising out of any contract or agreement.”
    In suit alleging breach of contract-if insured denies breach-it seems insured is owed defense until/unless a court finds contractual liability in action. Exclusion would have to extend to “claims or suits alleging contract liability”-as is common w/ intentional acts-to negate duty to defend.
    Is this correct interpretation?