BatesCarey’s Kristi S. Nolley and Lindsey D. Dean address the recent Kentucky Court of Appeals decision in Darwin Nat’l Assurance Co. v. Kentucky State Univ., which addresses as a matter of first impression the notice-prejudice rules in the context of claims-made-and-reported policies. 

In many jurisdictions, the “notice-prejudice rule” prevents an insurer from denying notice for a claim on the basis that the policyholder did not provide timely notice, unless the insurer can demonstrate material prejudice resulting from that late notice. This rule is applied in many jurisdictions in the context of occurrence policies, which often condition coverage on “prompt” notice or notice “as soon as practicable.” However, in most states, the notice-prejudice rule does not apply to late notice under claims-made-and-reported insurance policies, which require notice within a specified reporting period. On Friday, in a matter of first impression for Kentucky state courts, the Kentucky Court of Appeals joined the majority of jurisdictions in holding that the notice-prejudice rule does not apply to a claims-made-and-reported professional liability policy. 

In Darwin Nat’l Assur. Co. v. Ky. State Univ., Case No. 2019-CA-1811, 2021 WL 1045716 (Ky. Ct. App. Mar. 19, 2021), the insurer issued a claims-made-and-reported professional liability insurance policy to Kentucky State University (KSU) for claims first made during the July 1, 2014 to July 1, 2015 policy period. Like many professional liability policies, the policy also included a notice condition, which provided that “as a condition precedent to coverage”, the policyholder must provide written notice to the insurer “as soon as practicable” after the insured received notice of a Claim, but no later than ninety days after the end of the policy period.

On June 23, 2015, during the policy period, KSU received notice of charges of discrimination that two former employees filed with the EEOC and Kentucky Commission on Human Rights. On September 2, 2015, after the policy expired, the two employees filed suit against KSU. One month thereafter, and 93 days after the end of the policy period, KSU provided written notice to its insurer. Its insurer denied coverage because notice was provided after the 90-day reporting window expired.

Three years later, KSU filed a third-party complaint against its insurer seeking a declaration that it was entitled to coverage under the policy, as well as damages for breach of contract, bad faith and violation of the Kentucky Unfair Claims Settlement Practices Act and late payment statute. The trial court held that, although the ninety-day reporting period was unambiguous, the notice-prejudice rule still applied. The court also held that if the three-day mailbox rule applied, the notice was arguably timely. 

The insurer appealed, and the Kentucky Court of Appeals reversed the trial court’s decision. The Court of Appeals agreed with the trial court that the reporting provision was unambiguous. The Court of Appeals Court recognized that claims-made-and-reported policies contain strict reporting requirements that are a condition precedent to coverage because the reporting requirements simplify an insurer’s reserving practices and reduce uncertainty in pricing, which translates to lower premiums for policyholders.

The Court of Appeals acknowledged that no Kentucky state court had decided whether the notice-prejudice rule applies to claims-made-and-reported policies, but noted that many other states, and Kentucky federal courts, have held that the notice-prejudice rule does not apply to such policies. The Court of Appeals distinguished a Kentucky Supreme Court case applying the notice-prejudice rule on the basis that the policy in that case only required “prompt notice”, which the Supreme Court found to be ambiguous, and did not provide a strict reporting timeline.

The Court of Appeals also looked to the Restatement of Liability Insurance, which provides that the failure of an insured to satisfy a reporting condition in a claims-made-and-reported policy excuses the insurer from performance, unless (1) the policy does not contain an extended reporting period; (2) the claim is made too close to the end of the policy period to allow the insured to timely report the claim; and (3) the insured reports the claim within a reasonable time. The policy issued to KSU included a 90-day extended reporting period, and KSU received notice of the EEOC charges on June 23, 2015, three months prior to the end of the reporting period, and therefore had plenty of time to report the claim. 

The Court of Appeals recognized that the policy behind applying the notice-prejudice rule did not apply to the claims-made-and-reported policy issued to KSU because the insurer was entitled to the benefit of the policy as written, and to rewrite the policy would undermine the insurer’s interest in negotiating policies with its insureds. The Court of Appeals also noted that claims-made-and-reported policies are less likely to be contracts of adhesion because the parties have more room to negotiate, including extending the reporting period for additional premium, which KSU elected not to purchase.

The Court of Appeals also cursorily rejected the trial court’s holding that the mailbox rule could apply, finding that the mailbox rule only operates to extend the notice period for certain court-related papers, not contract disputes.

With this decision, Kentucky joins the vast majority of jurisdictions holding that the notice-prejudice rule does not apply to claims-made-and-reported policies. As recognized by the Darwin Court, the application of the notice-prejudice rule to claims-made-and-reported policies is inconsistent with the purpose of such policies, which are intended to prevent an insurer’s exposure to claims made and/or reported after the reporting period, and thereby reduce the premiums charged to policyholders for such coverage.