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Directors and Officers Insurance

Directors & officers of a corporation may be subject to personal liability for acts performed in their duties as an officer or director.

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Directors & officers of a corporation may be subject to personal liability for acts performed in their duties as an officer or director. These liabilities can be divided into two types – liabilities for which the corporation may indemnify the directors or officers and those liabilities for which indemnity is not available. Some examples of this latter issue are; intentional breach of the duty of care to the corporation, of the duty of loyalty to the corporation, misappropriation of corporate assets for personal use, or actual conflict of interest.

Indemnification of directors or officers means that the corporation will provide for expenses incurred and amounts paid in defending claims brought against them for actions taken in good faith on behalf of the corporation. In Montana, two separate statutes allow or mandate this indemnification:  MCA 35-1-452. Authority to indemnify, and MCA 35-1-453. Mandatory indemnification. While the corporation may be allowed to indemnify, it must also take care to protect its balance sheet. To this end, insurance can be purchased to provide a risk transfer. Directors & Officers Insurance, D & O, may be secured to cover the liabilities of the corporation as well as the personal liabilities of the directors & officers of the corporation.

The D & O coverage provision that provides individuals with insurance protection is referred to as Side A coverage. This allows for protection when indemnification is not available, such as insolvency or a shareholders' derivative suit (a suit brought by a shareholder on behalf of the company, naming the directors & officers as defendants). The insurance policy's provision for reimbursement of a company's indemnification obligations is referred to as Side B coverage. In recent years a third coverage has been added, Side C. Generally, this provides insurance protection for the corporation's own liability exposures. For public companies, Side C coverage is usually limited to just the company's liabilities under the securities law. Sides B & C essentially operate as balance sheet protection for the company.

Generally, public entities don't need to be persuaded that their company needs D & O insurance if their securities are publically traded. Private companies, however, feel differently, particularly those that are closely held. They do not believe they will ever be involved in a D & O claim. Most of these companies have a very small number of shareholders. However, D & O plaintiffs also can include customers, vendors, competitors, suppliers, regulators and creditors. In our litigious society, just about anyone is prospective claimant!

Most D & O policies have evolved into a modular managed liability policy. A policy may contain separate coverage parts for each of the various management liability coverage's such as D & O, EPL, Fiduciary, Crime, etc. The primary question here is with respect to the limits of liability if you select a multiple coverage policy. Should you choose a policy with a single, combined aggregate limit for all the coverage parts you select? Or a policy with separate limits applying to each part? The cost for the latter will probably be higher, but sometimes when things go wrong, multiple coverage areas could be involved. The choice will naturally be up to the insurance buyer – just make sure you are provided with the cost options for both choices!

Most states, including Montana, have adopted statutes providing individuals who serve as directors on nonprofit boards with limited immunity from liability. (Montana: MCA 27-1-732. Immunity of nonprofit corporation officers, directors, and volunteers.) The immunity will not apply to the nonprofit corporation itself. A nonprofit corporation, under the Montana statute, means an organization exempt from taxation under section 501(c) of the Internal Revenue Code or one that is eligible or has been granted tax-exempt status by the department of revenue under the provisions of MCA 15-31-102.

When you are asked to serve on a board of directors it is certainly to your benefit to inquire about D & O insurance coverage. The inquiry should be more than just – Is it available? – but, its coverage and exclusions, coverage limits, and how long it has been carried. Even the quality of the insurer can be an important question. D & O policies differ from one insurer to another, so there is no "standardized" approach to buying D & O insurance. Ask questions! The organization's broker or counsel should be able to provide the necessary answers.

Article By: Dennis Gambill - The author is an Insurance Litigation consultant. Adjunct professor at EMC for 8 years-Risk & Insurance. 40+ years-both MGA and agency experience.

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