Virtually every reinsurance treaty includes an audit clause, granting the reinsurer access to the ceding company’s records. Reinsurers routinely invoke the clause to conduct periodic audits and to monitor claims that are likely to cause significant losses to the reinsurer.
Allowing access to claims files, in particular, raises important issues of attorney client privilege and work product. A ceding company’s claims file will almost always contain privileged materials. The application of the age-old rules of privilege to a reinsurer’s audit rights is not always considered. But privilege issues warrant caution. This article discusses the applicability of privilege to reinsurer audits, the danger of waiving privilege, and a potential solution to satisfy both reinsurer and ceding company.
1. A reinsurer generally does not have the right to access privileged documents.
In an audit, the reinsurer typically will want to review claims files to assess the cedent’s claims handling, evaluate its exposure, and decide whether to invoke its right to associate in the defense of particular claims. The claims file will almost always contain correspondence between the insurer and defense counsel. The attorney client privilege and work product doctrine ordinarily protect this correspondence and similar documents from disclosure to third parties.
These standard privilege principles apply equally to documents reviewed in a reinsurance audit. Courts have expressly held that a basic audit clause does not trump the longstanding rules of privilege. Accordingly, ceding companies can (and perhaps should) deny reinsurers access to privileged materials. See Gulf Ins. Co. v. Transatlantic Reinsurance Co., 788 N.Y.S.2d 44 (N.Y. App. Div. 2004); North River Insurance Co. v. Philadelphia Reinsurance Corp., 797 F. Supp. 363 (D.N.J. 1992); see also Modern Reinsurance Law and Practice § 6.04 (citing North River Insurance Co. v. Philadelphia Reinsurance Corp., 797 F. Supp. 363 (D.N.J. 1992); United States Fire Ins. Co. v. Phoenix Assurance Co., No. 7712/91 (N.Y. Sup. Ct. N.Y. County Aug. 18, 1992), aff’d, 598 N.Y.S.2d 938 (App. Div. 1st Dep’t 1993).
In Gulf Ins. Co. v. Transatlantic Reinsurance Co., 788 N.Y.S.2d 44, 45 (N.Y. App. Div. 2004), the New York appellate division confirmed that a standard access-torecords clause does not affect the cedent’s privilege rights. There, the ceding company, Gulf Insurance Company (Gulf), had purchased quota share coverage from Transatlantic Reinsurance Company (Transatlantic) and other reinsurers. Id. The treaties contained a boilerplate, and seemingly broad, access-to-records clause. Id. (“the Reinsurers ... will have the right to inspect ... all records of the [cedent] that pertain in any way to this Agreement.”) When Gulf asked for contribution from Transatlantic on a significant settlement, the reinsurer asked to see Gulf’s files, including its communications with counsel. Id. When Gulf asserted privilege, Transatlantic refused to pay and litigation ensued. Id.
During the subsequent lawsuit, the trial court ruled that the reinsurer was entitled to access, regardless of privilege. Id. The appellate court reversed, ruling that “[a]ccess to records provisions in standard reinsurance agreements, no matter how broadly phrased, are not intended to act as a per se waiver of the attorney-client or attorney work product privileges.” Id. at 45-46.
A similar result was reached in a prominent federal court decision on this issue. In North River Insurance Co. v. Philadelphia Reinsurance Corp., 797 F. Supp. 363, 368 (D.N.J. 1992), the parties fought over access to privileged documents under a broad access-to-records clause that required the ceding company to provide the reinsurer with “any of its records relating to this reinsurance or claims in connection therewith.” When the ceding company refused to disclose communications with its underling claims counsel from an underlying arbitration, the reinsurer sought court relief. Id. at 366.
The court upheld the assertion of privilege. Id. at 369. According to the court, so long as the cedent has been “forthright in making available to its reinsurer all factual knowledge or documentation in its possession relevant to the underlying claim or the handling of that claim, it has satisfied its obligations.” In addition, the court rejected the reinsurer’s argument that reinsurance industry custom was to allow access, calling industry practice “irrelevant.” Id.
2. The failure to assert privilege risks waiver.
Under Gulf and North River, the legal framework would seem to be clear. A ceding company has the right to deny access to privileged materials. But, having a right and exercising it are two different things. What if the reinsurer refuses to pay unless and until it gains access? And given the time, effort, and costs associated with combing through a claims file to remove privileged documents, shouldn’t the ceding company simply allow access? A ceding company that fails to assert privilege faces a potentially larger problem.
Consistent with the ordinary rules of privilege, courts have held that, by allowing a third party, like a reinsurer, access to files that contain privileged documents, a party waives its right to assert privilege. See Massachusetts Bay Ins. Co. v. Stamm, 700 N.Y.S.2d 707 (N.Y. App. Div. 2000) (affirming determination based on transmission of documents to reinsurers); but see Employer Reinsurance Corp. v. Laurier Indemnity Co., No. 8:03CV1650T266MSS, 2006 WL 532113 (M.D. Fla. March 3, 2006) (finding no waiver).
This is a significant risk. The waiver can extend not only to the reinsurer, but also to all other third parties — including parties in litigation with the ceding company. This can be especially troublesome where a reinsurer demands access while the underlying claim is still active. By allowing the reinsurer access, the ceding company risks opening up its defense counsel’s thoughts on the strengths and weaknesses of its case and his communications with the company on strategy to the underlying claimant. A clever plaintiff’s lawyer could succeed in obtaining a gold mine in discovery, ------ increasing the likely payout on the claim. This is something both the reinsurer and ceding company would want to avoid.
A finding of waiver is not a certainty, however. Reinsurers and ceding companies often assert the “common interest” doctrine. At its narrowest, the doctrine provides that parties represented by the same counsel can share information in their “common interest” without risking waiver of privilege. See North River Ins. Co. v. Columbia Cas. Co., 1995 WL 5792 at *2-3 (S.D. N.Y. Jan. 5, 1995). At its broadest, the doctrine can apply to parties with separate counsel so long as it is limited to communications in regard to which they share a joint legal interest. Id.
In Durham Indus. Inc. v. North River Ins. Corp., No. 79 Civ. 1705, 1980 U.S. Dist. LEXIS 15154, 1980 WL 112701 (S.D.N.Y. Nov. 21, 1980), the court held that an insurer and reinsurer shared a common interest in a dispute over a surety bond. According to the court, a “community of interest exists among different persons or separate corporations where they have an identical legal interest with respect to the subject matter of a communication between an attorney and a client concerning legal advice.” Id. Because the parties both had liability with regard to the bond, their interests were identical. Id. The fact that the parties were not represented by the same counsel did not affect the result. Id; see also Aetna Cas. & Surety Co. v. Certain Underwriters at Lloyds, 176 Misc. 2d 605, 676 N.Y.S.2d 727 (N.Y. App. Div. 1998) (upholding common interest doctrine between reinsurers and ceding company).
But not all courts agree that this doctrine applies to reinsurers and ceding companies. In Allendale Mutual Ins. Co. v. Bull Data Systems, Inc., 152 F.R.D. 132, 134 (N.D. Ill. 1993), for example, the court declined to apply the work-product privilege to documents exchanged between Allendale and its reinsurers concerning an underlying claim for a destroyed warehouse. The court viewed the information exchange as an ordinary business practice. Id. at 139-40. The “mere contractual relationship” between the insurer and its reinsurers was not, in the court’s view, sufficient to invoke the common interest doctrine. Id. at 141.
Similarly, in yet another case involving North River, the court in North River Ins. Co. v. Columbia Cas. Co., No. 90 Civ 2518, 1995 WL 5792 at *2-5 (S.D.N.Y. Jan. 5, 1995), rejected application of the common interest doctrine where a reinsurer tried to invoke common interest to compel access to privileged materials. The court ruled that the reinsurer’s “only argument for finding a common interest is that the two parties stand in the relation of reinsurer to ceding insurer, and that is insufficient.”
The North River court went on to embrace a very factspecific approach (which is thus hard to generalize to other situations). “What is important is not whether the parties theoretically share similar interests but rather whether they demonstrate actual cooperation toward a common legal goal.” Id. “This rationale applies with even greater force in the reinsurance context. While a direct insurer may have a duty to defend its insured, thus implying some level of cooperation in litigation, no such duty is imposed on a reinsurer. And, as in the direct insurance context, the interests of the ceding insurer and the reinsurer may be antagonistic in some respects and compatible in others. Thus, a common interest cannot be assumed merely on the basis of the status of the parties.” Id.
3. A Recommended Approach
The rule on whether allowing access to a reinsurer waives privilege is far from clear. A very good argument can be made that reinsurers and ceding companies have common interests in defending claims in which they will both share a portion of the loss. But, depending on your jurisdiction, judge, and factual circumstance, a different result could follow.
Without doubt, the safest legal approach is for the cedent to raise its privilege objection and deny the reinsurer access to privileged documents. This eliminates the risk of a waiver finding and of the disclosure of key legal strategies to aggressive plaintiff’s counsel.
Of course, business considerations may counsel a different approach. A business person could reasonably think it foolish to deny access to the legal analysis of the merits of claims the reinsurer is being asked to indemnify.
If a ceding company decides to allow access, it would be wise to take all precautions possible to preserve privilege and to assert the common interest doctrine. A simple way to accomplish this is to require the reinsurer, prior to obtaining access, to sign what is commonly called a joint defense or common interest agreement. We have many samples of these on file and they can be easily and inexpensively drafted to fit particular audit circumstances.
A carefully drafted joint defense agreement will lay out in advance the bases for asserting that a common interest between ceding company and reinsurer exists. This better positions the parties to support their claims later should a waiver issue emerge. A well-drafted agreement can also help convince a court that the parties are not acting in hindsight to cover up an unintended waiver, but have previously and conscientiously considered the issue with the intent to protect against further disclosure.
This article is a part of the FOCUS on the Insurance Industry Spring 2007 Newsletter.