OGC Op. No. 11-01-02

The Office of General Counsel issued the following opinion on February 7, 2011, representing the position of the New York State Insurance Department.

Re: Cancelling a Business Owners Insurance Policy Due to Change in Occupancy

Questions Presented:

1) May an insurer cancel a business owners insurance policy based on a material change in the occupancy and use of the property when the change occurred before the policy was renewed?

2) May an insurer issue a midterm rate increase on a business owners insurance policy based on a material change in the occupancy and use of the property when the change occurred before the policy was renewed?

Conclusions:

1) No. An insurer may not cancel a business owners insurance policy based on a material change in the occupancy and use of the property when the change occurred before the policy was renewed.

2) No. An insurer may not issue a midterm rate increase on a business owners insurance policy based on a material change in the occupancy and use of the property when the change occurred before the policy was renewed.

Facts:

A property/casualty insurer wrote a business owners insurance policy since October 10, 1999 for a commercial property landlord. An inspection by the insurer in 2005 revealed that the tenants occupying the insured property included a law office, retail store and natural food store on the first floor, and the insured’s office and apartment on the floor above. The insurer inspected the property again in 2010 and discovered that the tenants that now occupy the insured property are, on the ground floor, a lounge/bar that provides entertainment and, on the second floor, a restaurant and kitchen. Because the insurer does not write lounge/bar risks, the property does not meet its underwriting guidelines.

“ISO New Changes, BP 15 01 paragraph A.2.b. Cancellation of Policies in Effect For More Than 60 Days,” which the insurer included in its business owners policy, reads as follows:

(e) Material physical change in the property insured, occurring after issuance or last annual renewal anniversary date of the policy, which results in the property becoming uninsurable in accordance with our objective, uniformly applied underwriting standards in effect at the time the policy was issued or last renewed; or material change in the nature or extent of the risk, occurring after issuance or last annual renewal anniversary date of the policy, which causes the risk of loss to be substantially and materially increased beyond that contemplated at the time the policy was issued or last renewed.

The insurer did not become aware of the change in occupancy of the insured property until it inspected the property in 2010, which occurred after the most recent renewal of the policy. The policy’s declarations page indicates that coverage is rated on the basis of occupancy of the property by an office, retail store, and apartment. The premium, if calculated based on the actual occupancy, would be 22 percent higher than the current premium.

Analysis:

Cancellation Due to Change in Occupancy

New York Insurance Law § 3426 (McKinney 2007), which applies to most property/casualty commercial lines insurance (e.g., a business owners insurance policy), is relevant to this inquiry. That statute sets forth, among other things, the minimum cancellation provisions applicable to such policies.

Pursuant to Insurance Law § 3426(b), an insurer may cancel a new commercial lines insurance policy during the first sixty days the policy is in effect for any reason not prohibited by law. Thus, Insurance Law § 3426(b) provides a “free look” period of sixty days, during which time an insurer may complete its review of the risk and determine whether the risk meets its underwriting standards. After the sixty-day “free look” period has expired, however, an insurer may not cancel coverage during the policy term or any renewal thereof unless cancellation is based on one of the criteria specified in Insurance Law § 3426(c). The specific criterion that is relevant to this inquiry is set forth in Insurance Law § 3426(c)(1)(E), which reads as follows:

(c) After a covered policy has been in effect for sixty days unless cancelled pursuant to subsection (b) of this section, or on or after the effective date if such policy is a renewal, no notice of cancellation shall become effective until fifteen days after written notice is mailed or delivered to the first-named insured and to such insured’s authorized agent or broker, and such cancellation is based on one or more of the following:

(1) With respect to covered policies:

* * *

(E) material physical change in the property insured, occurring after issuance or last annual renewal anniversary date of the policy, which results in the property becoming uninsurable in accordance with the insurer’s objective, uniformly applied underwriting standards in effect at the time the policy was issued or last renewed; or material change in the nature or extent of the risk, occurring after issuance or last annual renewal anniversary date of the policy, which causes the risk of loss to be substantially and materially increased beyond that contemplated at the time the policy was issued or last renewed . . . .

Insurance Law § 3426(c)(1)(E), which is recited near-verbatim in the cancellation provision that was included in the business owners policy, would permit the insurer to cancel the policy if there were a material physical change in the property insured, or a material change in the nature or extent of the risk insured, that occurred after the policy was issued or after the last annual renewal anniversary date of the policy. Because the insurer provided no evidence, and it appears extremely unlikely, that the occupancy of the property had changed after the insurer had issued the most recent renewal of the business owners insurance policy (i.e., the October 10, 2010 renewal), the insurer may not cancel the policy based on Insurance Law § 3426(c)(1)(E). The insurer has continually renewed the policy over the past ten years, and thus has had every opportunity to make proper inquiries about and inspect the property on a more regular basis.

Midterm Rate Increase

Insurance Law § 3426(d)(1) is relevant to this inquiry about the issuance of a midterm rate increase due to a material change in the occupancy and use of the insured property, which occurred before the policy was renewed. Insurance Law § 3426(d)(1) reads as follows:

After a covered policy has been in effect for sixty days, or on and after the effective date if such policy is a renewal, no premium increase for the term of the policy shall be made to become effective unless due to and commensurate with insured value added, subsequent to issuance or the last renewal date, pursuant to the policy or at the insured’s request or, in lieu of cancellation, where such increase is based upon one or more of the grounds for cancellation set forth in subparagraph (D) or (E) of paragraph one of subsection (c) of this section.

Because the insurer is neither providing added value to the policy nor has a basis under Insurance Law § 3426(c)(1)(D) ¹ or (E) to cancel the policy, it may not issue a midterm rate increase.

To increase the rate of the next renewal policy, the insurer must mail or deliver to the first-named insured and the insured’s authorized agent or broker notice of the insurer’s intention to condition the renewal of the policy on an increase in premium, pursuant to Insurance Law § 3426(e), because the rate increase will be more than ten percent. There are additional requirements that apply to the mailing or delivery of a conditional renewal notice in Insurance Law § 3426, which should be read in its entirety to ensure full compliance.

For further information you may contact Associate Attorney Sally Geisel at the New York City Office.

____________________________________________________________________________________________________________

¹ Insurance Law § 3426(c)(1)(D) permits cancellation of a renewed commercial lines insurance policy “after issuance of the policy or after the last renewal date, [for] discovery of an act or omission, or a violation of any policy condition, that substantially and materially increases the hazard insured against, and which occurred subsequent to inception of the current policy period[.]” This section is not relevant to the circumstances presented here.