December 16, 2020 by Adam Malik, Managing Editor
Property and casualty insurance executives are waving red flags about litigation funding, which they believe is the primary driver for the biggest emerging risk they’re facing — social inflation.
“I would bold and underline that,” Matt Wolfe, president of Aon Reinsurance Solutions Canada, said during an Insurance Institute of Ontario webinar in September. “[Social inflation] is, I think, the Number 1 topic of discussion, typically in the U.S. insurance market.”
Social inflation describes the rise of insurance claims costs because of increased legal costs. Litigation is increasingly expensive for a variety of reasons; among them, more litigation, more plaintiff-friendly judgments, or higher jury awards. Wolfe uses the example of an auto insurance loss that used to settle for $2 million now settles for upwards of $8 million.
“Clearly, that is going to grow here, and that poses some unique challenges to settling cases early and, in my view, effectively for the customer,” said Andrew Steen, president of Berkley Canada, during an October Insurance Institute of Ontario webinar.
There is no general consensus as to why there has been such a rise in social inflation. Wolfe hypothesized that it could be younger generations more willing to punish businesses and insurers. “We don’t necessarily know what it is, but it’s the single-biggest topic of discussion when I sit with very senior reinsurance experts.”
Litigation funding is one main driver of social inflation, leaders agree. It’s an arrangement whereby a third-party company (i.e. not the plaintiff’s law firm) agrees to fund all or part of the plaintiff’s costs in a lawsuit. In return, the third party recieves a portion of the win or settlement. If the plaintiff loses, the third party loses its investment.
Litigation funding is behind social inflation growth in the U.S. and Australia, said Bernard McNulty, chief agent of Canada for Allianz Global Corporate & Specialty. “It’s just starting in Canada, really. It’s just getting off the ground.”
The advent of litigation firms has expanded settlement amounts, McNulty says. Since litigation firms are getting a larger chunk of the settlements, plaintiffs are asking for larger awards to recoup the costs paid out to litigation funding firms.
“That’s a really, really big issue and reinsurers fear that premiums, both on the original insurance premium and on the reinsurance premium, are just not keeping pace with that impact on social inflation,” Wolfe observed.
McNulty echoed those concerns for insurers. “We insurers will start to pay higher settlements because of that. And unfortunately that will ultimately be reflected in rate.”
Trying to peg what costs are going to be in the future is a difficult challenge, Steen said. “These things will always show up as elevated claims dollars being spent across liability lines of business. Really tough to get a handle on that. But we will continue to see elevated cost as a result of this phenomenon as long as they persist.”
Paul Rand, the Canadian chief investment officer for commercial litigation funder Omni Bridgeway, thinks litigation funding has been getting a bad rap from the insurers. Funders are cautious investors, he observes in a recent online piece for Canadian Underwriter. If a case fails, they lose their investment. And so they are focused on meritorious, not frivolous claims.
Also, Rand notes, litigation funding promotes access to justice.
Be that as it may, McNulty expects to see more complex personal injury cases settled, and not taken to trial, as a means to avoid higher awards and keep commercial premiums in check.
“We are very realistic about the value of a case,” McNulty said. “If we can settle a case and can understand the liability and damages before a trial, we’re going to settle that case before trial.”