Executive Summary

Greatest Risk to Association Managers

From the desk of Rod Medlin, AAI

I often read and follow trends and legal issues arising in property claims relating to property managers. I do this for obvious reasons, as my agency insures over 1,000 HOAs and well over 150 associations. So it is important to us and our client management companies. Recently I asked myself “What is the most catastrophic claim that can happen to both a management company and the association they serve?

My conclusion is based on my experience and knowledge gained in 40 years in this business. The answer is underinsurance due to an inadequate property valuation, typically resulting from a defective decision-making process when selecting the insurable value. Swiss Re, who provides high limits for insurance agents E&O, agrees on this subject.

I have found that there is often a big misconception shared by both property managers and board members, which can and has led to litigation adverse to both parties, and sometimes their insurance agent. That misconception is that “the insurance agent is responsible for picking the total insurable value adequate for replacement cost.” Specifically, legally, who picks the property value for a Community Association? So I put this question to Leland de la Garza, a shareholder at Hallett & Perrin, P.C., who has served as our Corporate Counsel and has served as our exclusive litigator since 1999. I asked Leland to prepare a brief on this important issue, which is attached. I encourage you to read his brief and do a self-evaluation of your own decision-making process. How did you do? This issue deserves some attention before it rears its ugly head. Leland’s brief gives some good suggestions on how to mitigate the risk of facing a claim because of an inadequate insured value. Agents, managers, and board members would be well served by not learning the hard way.

If we were discussing my home insurance, the analysis would be simple. I choose the insurable value of my house. If it is too low, so as to be inadequate for replacement, then I pay the cost of my mistake. When discussing a community association’s property insurance, that decision must, necessarily, be made by the board of directors, and may be guided by a property manager. And, it must be evaluated regularly because property values and replacement costs rarely remain the same. The failure to properly evaluate and determine the insurable value must fall on the ones charged with managing the association’s property, the board of directors, and the property manager if that responsibility has been shared.

At Scarbrough, Medlin and Associates, Inc., my Association Team of 8 Producers and Account Managers can assist any managers and boards with securing the property insurance they need.

Insurance Agents Are Not Responsible Under Texas Law for Procuring “Adequate” Property Insurance

A frequent source of disputes and litigation when dealing with property insurance is inadequate insurance coverage. While property owners usually want the most insurance possible at the lowest cost, owners or property managers often decide to use a lower property value to reduce their premium cost. And, many times owners simply do not pay enough attention to the values used each year in insurance applications when buying insurance, only to realize after a loss that values that were adequate in the past are no longer adequate. Whether due to cost-cutting or inattention, when a loss occurs the owner or property manager usually casts the insurance agent as the villain, while claiming victim status. Under established Texas law, an insurance agent is generally not responsible when insured property is under-insured.

Texas Law

Texas courts generally recognize that an insurance agent owes only two common law duties to an insurance customer: (1) to use reasonable diligence in attempting to place the requested insurance; and (2) to inform the customer promptly if unable to do so. See May v. United Servs. Ass’n of Am., 844 S.W.2d 666, 669 (Tex. 1992). Texas courts have consistently rejected attempts to expand the agent’s duty to procuring the right kind or amount of insurance, absent an agreement or a prior course of dealing in which the customer relied on the agent to select the insurance for the customer without consulting him.

Bryce v. Unitrin Preferred Ins. Co., 2010 WL 1253579 (Tex. App.—Austin 2010, not pet.) illustrates Texas courts’ reluctance to make insurance agents responsible for selecting the right insurance or the right amount of insurance. In Bryce, an insurance agent sold the Bryces a replacement cost property insurance policy insuring their home for $474,000 and its contents for $284,400. After a fire loss, the Bryces learned that the actual replacement cost of the home was $1.7 million and the contents was $864,000. The Bryces sued Unitrin, the insurer, and their insurance agent claiming that the insurer and the agent negligently set inadequate policy limits and failed to disclose that their coverage would not cover the full replacement cost of the home and its contents. At trial, there was conflicting testimony about discussions between the Bryces and the agent’s customer service representative about the replacement cost value of the home. A jury found that the Bryces were negligent in not setting the proper amount of replacement cost value and that the insurer and the agent were not negligent and did not commit unfair or deceptive acts in violation of the insurance code.

The Austin Court of Appeals held that May did not impose a duty on an agent or an insurer to monitor an insured’s policy to ensure that the requested coverage is adequate. “We find no support for this proposition in May or any other Texas case.” The Court expressly recognized that insureds might choose to insure their home for less than full replacement cost in order to reduce insurance premiums. The court found that the agent was not liable because it procured the coverage requested. The court noted that because the agent procured the amount of insurance listed in the application, it was not negligent.

Ruch v. Ted W. Allen & Associates, Inc., 2017 WL 4682031 (Tex. App.—Houston [1st Dist.] 2017, pet. denied) is also instructive. In Ruch, the insurance agent was sued for not procuring adequate insurance. Relying on May, the court of appeals held that “[a]ny obligation of the insured to obtain a certain amount of insurance does not extend to the insurance agent.”

An insurance agent in Texas has no legal duty to secure additional insurance protection merely because he knows the customer needs additional insurance coverage. McCall v. Marshall, 398 S.W.2d 106, 108 (Tex. 1965); Critchfield v. Smith, 151 S.W.3d 225, (Tex.App.—Tyler 2004, pet. denied). In McCall, the customer operated a used car lot. After he opened a new location, he told his insurance agent about the new location, but did not ask for coverage on the new location. After a fire loss at the new location, the customer sued the agent claiming that since the agent had been told about the new location, the agent owed a duty to insure that location as well. The Texas Supreme Court rejected the argument because it found that the agent owed no duty to insure the new location because the agent was not asked to insure the new location. The Court’s analysis was similar to the analysis later used in May.

Texas courts have also rejected attempts to make the insurance agent responsible for selecting a “reputable” company to provide insurance. See, e.g., Harding v. Higginbotham Insurance Agency, Inc., 2017 WL 11510643 (N.D. Tex. 2017).

Although Texas law appears clear on what duties are generally owed by an insurance agent, it is possible to expand those duties by agreement, a course of dealing, or by engaging in acts that constitute unfair or deceptive acts that violate the Texas Insurance Code. And, of course, false statements are actionable as fraud or a negligent misrepresentation. Each of these legal theories is fact intensive and the outcome depends on the particulars of the case.

POA Board’s and Property Manager’s Duties

When a property is operated by a property owners’ association, there are normally multiple layers of responsibility for procuring the right kind and amount of property insurance. The owners normally elect a board of directors who are responsible for acting for the property owners on matters of joint interest, including buying property insurance. The board usually hires a property manager to manage the property and sometimes delegates to the manager procuring insurance.

In many cases the governing documents for the property owners’ association specifies the type and amount of insurance required, for example, “full replacement value.” In such cases, the board may bear responsibility for not procuring the insurance required by the governing documents. Likewise, the contract between the POA’s board and the property manager may specify the type and amount of insurance required, in which case the manager will face liability if it procures a lesser insurance coverage. Or, the contract may clearly exculpate the manager from liability by allocating responsibility for ensuring the proper coverage is in place. See, e.g., Ruch, 2017 WL 4682031 at *4 (manager not liable because contract with HOA gave sole responsibility to ensure proper insurance coverage to board, manager did in the past recommend to board increasing coverage but the board did not act on the recommendation, and there was no evidence the board would have bought greater insurance if recommended to do so).

Frequently, during the application process, or annual renewal process, property values used in past policies are used in the

applications. Ultimately, the customer or its agent must approve the application thereby creating the order for requested insurance. Unless the insurance agent has agreed to determine the proper amount of insurance—which usually does not and should not happen—the application forms the basis for the insurance that is requested and forms the first leg of the May analysis for an insurance agent’s liability. If the insurance agent procures the insurance specified in the application, it satisfies the second leg of the May analysis and avoids liability if the insurance proves inadequate.

Risk Mitigation for Insurance Agents and Property Managers

Although the law in Texas limiting the liability of insurance agents for inadequate insurance claims has been in place for over half a century, insurance agents and property managers would be well advised to take steps to avoid such claims. For example:

• Create a favorable paper trail in communications with the customer. To avoid even the argument that the agent was responsible for procuring the right type or amount of insurance, an agent should include a disclaimer in its communications with customers similar to the following:

The decision on what insurance coverage is right for your particular business or situation is up to you. We cannot make that decision for you and by doing business with us you agree that you bear sole responsibility for deciding what type of insurance or what amount of insurance is appropriate for your needs. We encourage you to have any property that is to be insured appraised or valued so that you will have the information you need to decide how much insurance you need. We intend to rely on your decision on how much insurance to purchase. Should you choose to do business with us, you disclaim any reliance on us for the proper amount of insurance to purchase.

• Create a favorable paper trail in applications and quotes. Similar to the disclaimer recommended above, because the customer is going to point to the application and quote as the actionable event when the agent did not procure adequate coverage, it is a good idea to include a disclaimer in the application or quote (or the transmittal) similar to the following: Please be sure that the limits and insurance values in the attached are adequate for your needs. To avoid being underinsured, you should ensure that the limits and insurance values will provide you the insurance protection that you need. By proceeding with the purchase of insurance on the terms described herein or in the attached, you acknowledge and agree that we are not responsible for ensuring that the limits and insurance values will provide you adequate protection. If you are not satisfied that the limits and insurance values will provide you adequate protection, you should increase the limits or provide values that are appropriate for your needs.

• When in doubt, back away. This advice is hard to follow, especially when the account is lucrative. But, there are always other properties and one lawsuit will teach any insurance agent the wisdom of this rule. When the customer appears to be intentionally undervaluing the property to keep premiums down, or refuses to obtain current values, the account is not worth taking. When (and not if) the property suffers a loss, the insurance agent will be on the short list of potential defendants.

Fortunately for Texas insurance agents, Texas has a well-developed body of law limiting the duty of insurance agents to customers. The May two-step analysis is simple to follow: buy the insurance requested and let the customer know if you could not. While this two-step process will not guarantee that an agent will not be sued if the insured property suffers a loss and the insurance is inadequate, it provides a solid defense to most claims that fall outside of this analysis. To enhance the agent’s protection from such claims, the agent should create a clear paper trail that it is not deciding the type or amount of insurance to buy. This should minimize the agent’s risk. Ultimately, the decision on what insurance to buy is the customer’s decision. The agent should recognize this and make that point clear in all dealings with the customer.

Leland C. de la Garza is a shareholder of Hallett & Perrin, P.C., a Dallas-based business law firm serving the needs of Texas Business. © Leland C. de la Garza, 2021.

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Texas Community Associations

facts & figures

» Approximately 5,657,000 Texans live in 1,552,000 homes in more than 20,000 community associations. 43% say they always vote in state and local elections. 59% vote in national elections. » These residents pay $9.2 billion a year to maintain their communities. These costs would otherwise fall to the local government. » 202,000 Texans serve as volunteer leaders in their community associations each year, providing $185 million in service.

» Homes in community associations are generally valued at least 4%* more than other homes.

» By 2040 the community association housing model is expected to become the most common form of housing.

88 » percent say their association’s rules protect and enhance property values (66%) or have a neutral effect (22%).

70 » percent of residents oppose additional regulation of community associations.

» percent of residents rate their community association experience as positive (56%) or neutral (29%).

85

Community associations are private entities, not governments. Residents vote for fellow homeowners to provide leadership—making decisions about operation, administration and governance of the community.

Assessments paid by association members cover the costs of conducting association business—such as common area maintenance, repair and replacement, essential services, routine operations, insurance, landscaping, facilities maintenance as well as savings for future needs.

CAI supports public policy that recognizes the rights of homeowners and promotes the self-governance of community associations— affording associations the ability to operate efficiently and protect the investment owners make in their homes and communities.

www.caionline.org (888) 224-4321 @CAIAdvocacy

SOURCES foundation.caionline.org Community Associations Fact Book 2018. Home Sweet HOA: 2018 Homeowner Satisfaction Survey. Community Next: 2020 And Beyond, 2018. *Clark, W. & Freedman, M. (2019). The Rise and Effects of Homeowners Associations. Journal of Urban Economics, 112, 1-15.