by James B. Dolan, Jr.

Insurance against most of the claims usually made in an employment discrimination or wrongful termination case is now widely available. This is a recent development of great interest to defense counsel, liability insurers, and risk managers.

This article will outline the legal changes that led to the development of this new type of insurance, indicate the general scope of available coverage, quote some important language from typical forms, and address (in an elementary way) some likely coverage questions.

THE COVERAGE PROBLEM IN EMPLOYMENT LITIGATION

The common law treated the employment relationship solely as a contractual one. Regardless of what might be economic realities, courts treated employee and employer as equal parties to a transaction: unless a specific provision of an employment contract provided otherwise, each party was free to end performance at any time. In terminating an employee, the employer could act for a good reason, for a bad reason, or for no reason at all. Upton v. JWP Businessland, 425 Mass. 756, 682 N.E.2d 1357 (1997). The common law's use of the terms "master" and "servant" to describe this relationship emphasizes the employer's all-powerful role.

This concept of "at-will" employment has dominated litigation for generations. Indeed, in most states it is still the basic rule. A recent example: a single parent can be fired for refusal to work overtime, even though the long hours required by the employer would leave her no time for her child. Upton v. JWP Businessland, supra.

However, beginning a few decades ago, state and federal legislation began to erode the employer's right to terminate employment for "bad" reasons. The public's moral revulsion at racial discrimination led the way. Soon, state and federal statutes prohibited adverse actions against employees based on classifications such as age, national origin, gender, handicap, and, in a few jurisdictions, sexual preference. In some jurisdictions, statutes or new common law rules protect "whistleblowers" and impose other "public policy" restrictions on at-will termination. The most recent major statutory development is the Americans with Disabilities Act, 42 U.S.C. §§12101-12213, which requires covered employers to make "reasonable accommodations" to disabled employees.

Obviously an employer in an at-will jurisdiction with no anti-discrimination statutes had little to fear from wrongful discharge litigation. He hardly needed coverage for a suit he couldn't possibly lose. Nor did he need protection against defense costs: there were few such suits and they were not expensive to defend, ordinarily requiring no more than a dispositive motion. The employee's only real chance was a suit for breach of an express contract. Few carriers would be willing to assume the risk of guaranteeing someone else's employment contracts.

As the basic nature of the obligations imposed by the employment relationship began to shift in favor of employees, the boss's heavy advantage began to erode. Litigation picked up and employees now had at least a possibility of recovery. (Whether they could prove a case was another and very different matter.) A substantial number of employees are now members of some protected class, i.e., minorities, females, over age forty, handicapped, etc.

In response to this long-term trend, employers began to seek coverage under conventional policies, such as comprehensive general liability, workers' compensation, employer's liability, directors and officers, and professional liability coverages. With a few exceptions, usually involving claims for defamation, insurers have been able to defeat most of these claims in the courts. Additionally, the industry has responded to these claims by re-writing policy forms to clarify the company's intent to exclude employment discrimination claims. See Skillern & Bolduan, "Insurance Coverage for Employment-Related Claims," December 1996 For The Defense 32, for a good survey of these coverage wars between employers and the insurance industry.

However, lawyers who represent insureds should not ignore potential coverage in traditional policy forms. While most comprehensive general liability policies now contain a strong exclusion for employment-related claims, a few do not. Occasionally, these exclusions can be evaded if the employee sues for wrongful acts (such as defamation) which allegedly took place after the termination of employment. Umbrella policies are written with a rather broad form and can be a more fertile source of coverage. The possibility that an ambiguous complaint may trigger a duty to defend is especially important to employers. That type of pleading may result in an insurer making a substantial contribution towards settling an uncovered claim.

THE ADVENT OF EPL COVERAGE

The industry's response to a perceived need for liability coverage for the typical discrimination/wrongful termination claim has come in the form of employment practices liability insurance. Ten years ago EPL coverage was virtually unknown. It was not written by any United States carrier and was available only through the London market.

In the last several years EPL coverage has emerged from obscurity and there has even been a sort of boom. See "More Firms Insure Against Worker Suits," The Wall Street Journal, November 15, 1996. A NEXIS check reveals dozens of articles on the subject in the last few years. Growth in the number of companies that now have the coverage has occurred so rapidly that it is difficult, even by reading the trade press, to get an accurate idea of the scope of its availability. Recent anecdotal evidence from conversation with insurance executives suggests that as many as fifty carriers now offer this coverage in the United States and Canada.

EPL is commonly written either on a stand-alone basis or as a rider for Directors and Officers policies (or occasionally other types of coverage). There is no standard EPL policy but the available forms have much in common. (They apparently derive from forms the industry has long used to write errors and omissions types of coverage such as attorney's professional liability.) In general, these policies offer rather broad coverage of the sorts of claims now usual in wrongful termination/employment discrimination cases.

The policy is written on a claims-made basis, with defense costs within its limits. Coverage is triggered by a lawsuit, or an administrative proceeding, or a written claim of discrimination, sexual harassment, or wrongful termination. There are usually exclusions for punitive damages, contract claims, company downsizing or plant closures, and intentional acts. (It is not clear whether plant closing exclusions are common. Carriers may prefer to ask about planned layoffs and closings in their application and quote a premium accordingly). The insurer ordinarily has the right to select defense counsel and control settlement.

There is a widespread feeling that EPL coverage will soon be standard (with a level of self-insured retention depending on the financial resources of the employer). Some speculate that it will eventually be written into the comprehensive general liability form as a separate section. Whether the industry can convince most employers to buy EPL coverage remains to be seen. Most of them have now heard of it but so far have elected not to buy it.

The industry's major obstacle to successful marketing has been cost. Premiums have simply been too high to interest the average employer. Aggressive marketing by carriers and intense competition has recently resulted in a significant drop in premium for this coverage. This alone or in combination with a widespread sense among employers that employment litigation is on the increase suggests that EPL coverage will become much more prevalent than it is today.

THE EPL POLICY

Since there is no standard form, caution obviously has to be exercised in discussing the scope of EPL coverage. On the one hand, forms vary widely as to details, especially in the presence and/or scope of exclusions. On the other hand, their common origin in errors and omissions coverage has produced a sort of general similarity. This makes it possible for a coverage attorney to generalize widely about some basic features. What follows are selected provisions -- not the entire policy -- from some typical EPL policies. While the composite document was never actually issued by any carrier, these excerpts give the reader a good idea of what to expect.

The key to any insurance policy is its general insuring language. A selection of some of this language from typical, and rather easy to read, EPL policies follows.

Insuring Agreement -- What We Cover

What we will pay. We will pay damages which the insured is legally required to pay as a result of sexual harassment, discrimination, or wrongful discharge that arise out of a wrongful employment practice.

Defense of Claims. We will defend any claim brought against the insured alleging sexual harassment, discrimination, or wrongful discharge and seeking damages that are covered by this policy.

When Claims Are Covered. We will pay and defend a claim only when:

• on the effective date of this policy no insured knew or was aware of circumstances that might result in a claim.
• the claim is first made against an insured during the policy period and reported to us as soon as practicable after the claim is made (but in no event more than 60 days following the end of the policy period).

Who is An Insured

Individual. If you are shown in the Declarations as an individual, you are insured only for the conduct of a business of which you are the sole owner.

Corporation. If you are shown in the Declarations as a corporation or organization other than a partnership or joint venture, you are an insured. Your officers and directors are insureds, but only with respect to their duties as your officers or directors.

Employees. Your employees are insureds but only for the conduct of your business within the scope of their employment. Your employees' status as insureds will be determined as of the date of the Discrimination, Sexual Harassment or Wrongful Termination.

The general insuring language is usually amplified by a series of definitions appearing at the end of the form:

Definitions

Discrimination means termination of an employment relationship or a demotion or a failure or refusal to hire or promote or otherwise to take any action against any individual with respect to his or her compensation, terms, conditions, privileges or opportunities of employment because of race, color, religion, age, sex, disability, pregnancy, national origin, sexual orientation or other protected category or characteristic established pursuant to any applicable United States federal, state, or local statute or ordinance.

Sexual Harassment means unwelcome sexual advances, requests for sexual favors, or other verbal or physical conduct of a sexual nature that:

• are made a condition of employment; or
• are used as a basis for employment decisions: or
• create a work environment that interferes with performance; or
• create an intimidating, hostile, or offensive work environment.

• breaches an implied agreement to continue employment; or
• inflicts emotional distress upon the employee, defames the employee, invades the employee's privacy, or is the result of fraud.

The exclusions commonly found in these forms are also of interest:

Exclusions -- What We Do Not Cover

Intentional Acts. We do not cover claims for harm that is expected or intended by the insured. But this does not apply to the liability of an insured who did not:

• directly participate in the conduct that caused the harm; or
• knowingly allow the wrongdoer to commit or continue to commit the conduct that caused the harm.

Contractual Liability. We do not cover the liability of others assumed by the insured in a contract or agreement. But this does not apply to liability that the insured would have had in the absence of the contract or agreement.

LIKELY EPL COVERAGE ISSUES

The policy language used in the EPL form should have a familiar flavor to most coverage attorneys. Its interpretation should not pose any formidable tasks for the experienced. As of November 1997, there were no reported EPL coverage decisions by any state or federal court. It is inevitable, however, that a body of case law will develop in the coming years. When it does, it will almost certainly follow the general lines of interpretation already laid down for similar errors and omissions types of coverages.

Most informal discussion of likely EPL coverage problems focuses on the intentional acts issue. In the context of other types of insurance, this problem is certainly familiar. Courts have addressed it in hundreds, if not thousands, of reported cases. In general, liability insurance does not apply to what is expected or intended from the point of view of the insured. Keeton & Widiss, Insurance Law (1988), p. 518. Reported decisions have been inconsistent in deciding exactly what an intentional act is for coverage purposes. Keeton & Widiss, p. 519-45. However, there is widespread agreement that, if the named insured is held vicariously liable for employee wrongful acts, there is coverage (but not for the wrongdoing employee). Keeton & Widiss, p. 528.

Discussion of the problem commonly starts with state statutes which prohibit insurance of intentional acts. An example of such a provision is Massachusetts General Laws, Chapter 175, §47, Sixth, which provides that: "[N]o company may insure any person against legal liability for causing injury, other than bodily injury, by his deliberate or intentional crime or wrongdoing nor insure his employer or principal if such acts are committed under the direction of his employer or principal". These statutes and the rulings of local insurance commissioners differ slightly from state to state but the same general attitude toward intentional acts prevails.

A variant on this general theme is found in discussion of whether it is against public policy to insure discrimination claims. Keeton & Widiss, at page 523, quote with apparent approval from a law review article by Steven L. Willborn, entitled "Insurance, Public Policy, and Employment Discrimination," 66 Minnesota L.Rev. 1003 (1982). Willborn's insight is that courts are likely to be torn between the "...adverse effect insurance may have on deterrence [of discrimination]" and "[c]ompensation for the victims of illegal employment discrimination....[which would be facilitated by availability of coverage]." 66 Minnesota L.Rev. at 1019, 1018.

Quite a few reported decisions consider arguments by CGL and other carriers that it would be against public policy for them to defend or indemnify against such claims. See, e.g., University of Illinois v. Continental Casualty Co., 234 Ill.App.3d 340, 599 N.E.2d 1338, 1351 (1992); American Management Association v. Atlantic Mutual Insurance Co., 168 Misc.2d 971, 641 N.Y.S. 2d 802, 807-08 (1996); Solo Cup Co. v. Federal Insurance Co., 619 F. 2d 1178, 1188 (7th Cir. 1980); Melugin v. Zurich Canada, 50 Cal.App.4th 658, 57 Cal.Rptr.2d 781 (1996); Save Mart Supermarkets v. Underwriters at Lloyd's London, 843 F.Supp. 597 (N.D.Cal. 1994).

In general, insurers have not succeeded with public policy arguments, at least where the coverage is not to be paid for the benefit of the actual wrongdoer. While none of the cases cited involve EPL policies, the implications are certainly clear: insuring against discrimination is not per se against public policy. (As the typical EPL policy does not insure against punitive damages, perhaps the exposure to such claims offers sufficient "deterrence" to discrimination). The focus will be on whether the particular insured who seeks coverage was the person who acted intentionally.

WHICH ALLEGATIONS WILL BE COVERED?

A good way to answer this question is to compare the usual allegations in an employment suit with some of the policy language quoted above. In the author's experience, the following are examples of more or less "garden variety" allegations:

1. Discrimination.
2. An implied agreement not to terminate the employee except for good cause.
3. Tort, especially defamation and interference with advantageous relationships against the supervisor who terminated the employee.
4. Statutory or common law claim based on "public policy" grounds (e.g., "whistleblower statutes").

Polly's complaint contains six claims for relief. Her first claim for relief is for age discrimination against Megabucks Bank. Her second claim is for sex discrimination against Megabucks. The pleading is extremely vague as to any facts showing discriminatory intent. The third claim is for breach of an implied contract with Megabucks that her employment would not be terminated without just cause. Her complaint quotes language from the Bank's personnel manual in support of this claim. In her fourth claim for relief the plaintiff sues both Megabucks Bank and the supervisor who terminated her, alleging defamation. In her fifth claim she sues her supervisor, claiming interference with advantageous relations. Polly's sixth claim for relief is of the common law "whistleblower" variety. In it she alleges that her employment was terminated because of remarks she made to a bank examiner. Polly seeks actual damages for front pay, back pay, and emotional distress. She also demands punitive damages.

Polly's claims of age and sex discrimination fit nicely within the policy's definition of "discrimination." The only potential problem is the intentional acts exclusion. Here the key issue is who is being sued. Since it is Megabucks Bank, a corporation, the exception in the exclusion for not "directly" participating in the conduct that caused the harm, or "knowingly" allowing the wrongdoing, would apply (unless the allegations of the complaint claimed such conduct).

Polly's claim for breach of an implied contract is also covered. While the policy's definition of "wrongful discharge" excludes "breach of an express written contract of employment," it does cover "an implied agreement to continue employment." Many states allow such claims based on a "totality of circumstances" approach which includes factors such as length of employment, company policies, assurance of continued employment, and industry practices. Foley v. Interactive Data, 47 Cal.3d 654, 254 Cal.Rptr. 211 (1988). The overall effect of this language is to exclude a claim for breach of the "golden parachute" type of written employment contract that employers are likely to make only with their senior executives. On the other hand there is coverage for the sort of claim the ordinary worker would be likely to make.

The fourth claim, for defamation, probably falls within the policy's definition of "wrongful discharge." While the policy does not cover defamation claims in a general way, it does insure the specific type that Polly is likely to make: i.e, a claim arising out of a supervisor's statements made during the termination process ("unfair or unjust termination of an employment relationship which....defames the employee..."). Again, the intentional acts exclusion is of crucial importance. As to Megabucks, it does not apply, assuming the pleading seeks to impose purely vicarious liability for an employee tort. Since the policy covers "[y]our employees....but only for the conduct of your business within the scope of their employment," Polly's boss is an insured. The question of his coverage is a bit sticky. Liability for defamation is strict liability, not based on the fault of the publisher. Thus, at first blush the intentional acts exclusion doesn't apply. However, Polly's boss enjoys a conditional privilege and cannot be liable unless he acted maliciously. This equates to the intentional or reckless conduct that the policy excludes. Probably Polly's boss is entitled to a defense but not to indemnity if a jury finds him liable. (If Megabucks agreed to hold him harmless and was not otherwise found liable for his acts, the contractual risks exclusion would apply to anything Megabucks owed to the supervisor).

Polly's claim for interference with advantageous relations is and can be made only against her supervisor. As indicated he is an insured when acting within the scope of his employment. A coverage analysis should track the discussion of defamation in the prior paragraph. In both situations a conditional privilege applies which precludes liability except for malicious actions. Thus, there can be no coverage due to the intentional acts exclusion.

Polly's sixth claim for relief is of the "whistleblower" type. It is made only against the Megabucks Bank. It seems to fall within the policy's definition of "wrongful discharge" as an "unfair or unjust termination of an employment relationship which....inflicts emotional distress upon the employee...". Since only the bank is sued, the discussion of how the intentional acts exclusion applies to discrimination claims fits this type of claim as well.

Finally, Polly's claim for punitive damages is clearly excluded by the term "punitive or exemplary damages" in the invented policy's exclusions.

Coverage for claims at administrative agencies such as the Equal Employment Opportunity Commission presents fewer problems. The jurisdiction of administrative agencies is usually limited to specified statutory violations. Trial courts always have a much wider jurisdiction. Under the Federal and probably most state statutory systems, intermediate level supervisors are not liable for discrimination claims. The statutes apply to "employers." Danio v. Emerson College, 963 F.Supp. 61 (D.Mass. 1997). Thus intentional acts exclusions would play no role as the actual wrongdoer can't be found liable. Additionally, employers are not strictly liable for wrongdoing under the federal and most state systems. Their liability usually arises from negligent failure to respond to complaints rather than knowing or willful misconduct. Few of these agencies have the authority to impose punitive damages.

DEFENSE OF EPL CLAIMS

The development of this new coverage has a practical significance for the defense bar. It is likely to bring about a sea change in the counsel selection process.

In the past, the Fortune 500 type of employer used large law firms. At the other extreme, the "Mom and Pop" employers relied on a neighborhood solo practitioner to deal with employment claims. The average employer faced with these claims probably used defense counsel with no particular skill in employment litigation. All this will change since most EPL policies grant the carrier the right to control the defense. The industry is selecting special panels of employment lawyers to defend EPL claims.

While the employer has a good chance of winning on the merits, defense costs can be substantial. Employment litigation often becomes acrimonious and time-consuming. Because the employee's burden of proof is difficult, employers win an overwhelming majority of these suits. Even state human rights agencies with a reputation for sympathy towards employees report that a great majority of employment discrimination claims are dismissed for want of proof. See Annual Massachusetts Commission Against Discrimination Report (1996), p.25 (nearly 90% of charges of discrimination dismissed for want of probable cause).

This opportunity for the average insured to receive skilled counsel and payment of defense costs may well be the principal reason why most employers would benefit by purchasing EPL coverage.

CONCLUSION

This article has attempted a very basic introduction to employment practices liability insurance. A general description of the new type of policy is straight-forward: the basic idea is to cover the typical employment claims currently made by ordinary employees. The specific coverage issues have been more of a challenge. These questions have never been directly adjudicated by courts or given detailed consideration in published insurance literature.