We often talk with property management and real estate firms that are getting ready to acquire another business. They're excited about growth, but not always sure what happens to the E&O coverage after the deal closes.
That's an important question because E&O policies are generally written on a claims-made basis. A claim made after an acquisition could arise from professional services performed years before the buyer ever owned the business.
The goal is simple: determine which policy will cover the old firm's prior work and which policy will cover operations going forward.
A few things need to be worked through before closing.
1. Is It a Stock Purchase or an Asset-Only Purchase?
This is usually our starting point.
With a stock purchase, the buyer is generally purchasing the existing company itself. Because the legal entity continues to exist, its historical professional liability exposure comes with it.
An E&O policy may specifically address what happens when there is a change in ownership or control. For example, some policies provide that after a change in control, coverage for that entity applies only to wrongful acts occurring before the effective date of the transaction unless the carrier agrees otherwise.
With an asset-only purchase, the buyer may acquire the management contracts, employees, client relationships, or other assets without purchasing the old legal entity.
That creates a different insurance issue: the buyer's E&O policy does not automatically insure professional services previously performed by another company.
Takeaway: The structure of the acquisition determines how we approach the E&O transition.
2. Who Is Covering the Seller's Prior Acts?
Imagine you acquire a property management company on October 1. Six months later, a former tenant files a Fair Housing claim based on something the seller allegedly did before the acquisition.
Whose E&O responds?
One option is for the seller to purchase an Extended Reporting Period (ERP), commonly called tail coverage.
Typical E&O language allows an insured to purchase an extended period to report claims arising from wrongful acts that occurred before the policy terminated. The tail generally does not cover new work performed after the transaction. It simply provides additional time to report qualifying claims arising from prior work.
Another option may be for the buyer to assume the seller's E&O liabilities and ask its carrier to provide prior-acts coverage for the acquired operation.
That normally requires underwriting. We may need an application reflecting the acquired firm's operations, historical revenue or managed doors, loss runs, prior E&O information, and a letter or other documentation confirming that the buyer is assuming the applicable professional liability.
The carrier can then decide whether it is willing to insure those historical professional services and establish the appropriate prior-acts treatment.
Takeaway: Someone needs to insure the seller's historical work. Don't assume the buyer's policy automatically does.
3. A Retroactive Date Doesn't Automatically Solve the Problem
This is an important distinction.
You may see a declarations page showing something like:
Retroactive Date: Full Prior Acts
It can be tempting to assume that means anything that happened before the policy began is covered.
Not necessarily.
E&O coverage still generally requires the claim to arise from covered professional services performed by an Insured or another person or entity whose liability the policy actually covers.
If Company A buys the assets of Company B, Company A having full prior-acts coverage doesn't automatically make Company B's historical professional services insured.
That is why the carrier may need to specifically agree to pick up the acquired firm's prior acts.
Takeaway: A broad retroactive date and coverage for an acquired firm's prior acts are not necessarily the same thing.
4. Check the Policy's Acquisition Provision
Many E&O policies contain provisions addressing acquisitions, mergers, newly acquired entities, or changes in control.
For example, a policy might automatically cover a newly acquired entity only if it represents less than a certain percentage of the insured's total revenue. A larger acquisition may require notice to the carrier within 30, 60, or 90 days and additional underwriting.
More importantly, automatic acquisition coverage may only apply to professional services performed after the acquisition date.
So even if your policy automatically adds the new operation going forward, that does not necessarily mean you've picked up ten years of the seller's prior E&O exposure.
Takeaway: Read the acquisition provision carefully. "Automatically covered" may only apply to future professional services.
Work Through the E&O Before Closing
Before acquiring or selling a real estate or property management firm, we want to be able to answer four questions:
- Is this a stock purchase or an asset-only purchase?
- Is the seller purchasing tail coverage?
- Does the buyer need to assume and insure the seller's prior E&O liabilities?
- Has the buyer's E&O carrier reviewed and approved the acquisition?
A smart acquisition builds value.
A missed E&O detail can erase it.
If your firm is being acquired or you're planning to acquire another firm, PBI Group can help you work through the E&O structure before closing so everyone understands which policy is intended to cover the past and which will cover the future. Feel free to schedule a call with me here to talk it through.
