The Office of General Counsel issued the following opinion on November 29, 2004, representing the position of the New York State Insurance Department.
Re: Grounds for Cancellation Under § 3425
Under the circumstances described below, may an insurer cancel a policy mid-term based upon the reasons specified in N.Y. Ins. Law § 3425(c)(2)(D) or (E) (McKinney 2000 & Supp. 2004)?
See analysis below.
No specific facts are provided. The inquirer raised certain fact patterns and inquired whether an insurer may midterm cancel a homeowners insurance policy subject to N.Y. Ins. Law § 3425 (McKinney 2000 & Supp. 2004) based upon N.Y. Ins. Law § 3425(c)(2)(D) or (E). For purposes of § 3425, a homeowners' policy comes within the definition of a covered policy of personal lines insurance that is contained in § 3425(a)(2).
N.Y. Ins. Law § 3425(c) provides in pertinent part:
(c) After a covered policy has been in effect for sixty days, or upon the effective date if the policy is a renewal, no notice of cancellation shall be issued to become effective unless required pursuant to a program approved by the superintendent as necessary because a continuation of the present premium volume would be hazardous to the interests of policyholders of the insurer, its creditors or the public, or unless it is based on one or more of the following:
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(2) With respect to personal lines insurance policies:
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(D) discovery of willful or reckless acts or omissions increasing the hazard insured against; [or]
(E) physical changes in the property insured occurring after issuance or last annual anniversary date of the policy which result 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 voluntarily renewed .
In interpreting the provisions, the legislative intent of § 3425 and its predecessor sections should be borne in mind. The current language is derived originally from former § 167-b of the Laws of 1939, which was added by Chapter 189 of the Laws of 1969. As stated in the Memorandum of the State Executive Department:
Although prompt cancellation of an insurance policy during its term can work great hardship on the policyholder, cancellations based on reasons that are not the policyholder's fault or are beyond his control are permitted by law and do occur, too often, in practice. Present law protects the policyholder against cancellation only in automobile liability insurance [then Section 167-a]. To assure fair treatment of policyholders by insurance companies, this bill would extend legal protection against mid-term cancellation to all personal property-liability lines.
Section 167-b(2) provided:
After such policy has been in effect for sixty days or, if the policy is a renewal, effective immediately, no notice of cancellation shall be effective unless it is based on the occurrence, after the effective date of the policy, of one or more of the following:
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(d) discovery of moral hazards arising out of acts or omissions increasing the hazard insured against; [or]
(e) physical changes in the property insured which result in the property becoming uninsurable .
In 1974, § 167-a and § 167-b were repealed and a new § 167-a was enacted. (Chapter 1072 of the Laws of 1974). While many substantive changes were accomplished by this bill, with respect to the relevant grounds of cancellation, the Insurance Department, in its May 17, 1974 Memorandum to the Governor, stated that the reasons for cancellation listed in proposed § 167-a(3) " are essentially a recodification of existing provisions in Sections 167-a and 167b."
The increased hazard exception was enacted as § 167-a(3)(b)(iv) and remains unchanged as today's § 3425(c)(2)(D). The principal difference between the old § 167-b language and the current language is the elimination of the concept of "moral hazard" and the substitution of the "willful or reckless act" standard.
In recodifying the physical changes exception as new § 167-a(3)(b)(v), the exact language of old 167-b(2)(e) was used, but in doing so, the requirement that the physical change had to occur after the effective date of the policy was removed, apparently inadvertently. This was corrected by Chapter 348 of the Laws of 1976 which added such language as well as the requirement that the property becomes uninsurable in accordance with the insurer's underwriting standards. This language is currently codified as § 3425(c)(2)(E).
Section 167-a was combined with § 167-aa (which applied only to motor vehicle insurance) and recodified without material change in 1984 as present § 3425.
With that background, we turn to the examples that the inquirer provided with respect to a homeowners policy and requested guidance as to how to apply those two grounds under those circumstances.
1. An insurer will not insure property where there is an "attractive hazard." As examples of "attractive hazards", the inquirer mentions a swimming pool or a trampoline. After the policy is issued or renewed, the insured adds a pool or trampoline but the insurer does not find out about it until six months into the policy term.
The inquirer does not indicate how much greater of a risk would actually be engendered by the addition of the pool or trampoline or other attractive hazard. We are not aware of any insurer that either charges more or excludes coverage for a pool. Some insurers have explicit exclusions for trampolines. We also note that any greater exposure in risk would likely be on the liability portion of the coverage, not the property coverage. Since the portion of the premium attributable to the liability risk is usually less than 20% of the homeowners' premium, it is not clear to us how significant of an additional risk there would be. If the insured's act or omission results in an insignificant or minor increase in risk, it should not trigger a cancellation on the grounds that it was willful or reckless.
Both pools and trampolines are fairly common household additions and even if the hazard could be increased by their addition, one cannot generally characterize such addition as being "reckless" within the meaning of subparagraph (D). However, the failure of the insured to take ordinary and proper safety precautions, such as having a fence around the pool or trampoline, may constitute reckless behavior if the insured, after being notified of the increased hazard or danger, fails or refuses to take measures to ensure the safety of the pool or trampoline.
With respect to "willful", although the term implies merely a knowing act, in the context of subparagraph (D) and given the legislative intent of § 3425 to protect the insured from unwarranted cancellations, we think that such an interpretation in this context would be too broad. Because pools and trampolines are common and policies typically do not exclude liability exposure arising from them, insureds, in the absence of specific knowledge of the underwriting guidelines, have a reasonable expectation that the insurer would cover such risks and would not cancel a policy merely because a pool or trampoline was added. We do not think that an insurer should characterize the mere addition of a pool or trampoline as being willful in the absence of the insurer having specifically advised the insured that the insurer would not insure such risk. Moreover, if the policy contains a specific exclusion, as many do for trampolines, there would not appear to be any greater hazard insured against.
With respect to subparagraph (E), the addition of an above-ground pool or a trampoline would not be a physical change in the property since there has been no change to the dwelling or other permanent structure. However, an inground pool would be a physical change. In the inquirer's example, since the inground pool would have been added subsequent to the issuance or last renewal of the policy, the addition of the pool would be grounds for cancellation; provided, however, that the insurer considers such a risk to be uninsurable in accordance with the insurer's objective, uniformly applied underwriting standards in effect at the time the policy was issued or last voluntarily renewed. Please note that since insurers commonly insure properties that have inground pools, there is usually no reason for the insured to suspect that the insurer would consider that the addition of a pool would make the risk uninsurable. Accordingly, it may be advisable that the insurer initially advise the insured that the risk would become uninsurable if a pool were added.
2. The insured has added a home business. The insurer has a written objective criteria that it will not insure property on a homeowners form if the property is used for anything but residential purposes. In the inquirer's example, in the sixth month of the policy term, the insurer discovers that the insured is operating a business, such as a beauty salon, on the first floor of the home.
We first note that the inquirer does not state that the insurer would not write a commercial risk; merely that the insurer would not do so on a homeowners form. It may well be that the insured's operation of the business removes the policy from the purview of § 3425. Section 3425(a)(4) provides that "[a] contract which insures any of the foregoing contingencies described in paragraph one [automobile insurance] or two [personal lines insurance] hereof as well as other contingencies shall be a covered policy if that portion of the annual premium attributable to such foregoing contingencies exceeds that portion attributable to other contingencies."
Assuming that the policy remains subject to § 3425, the inquirer's asks whether the insurer may cancel the policy under subparagraph (D) or (E). For the reasons noted above, we do not believe that the mere addition of a business would in of itself be either a reckless or willful act within the meaning of subparagraph (D). However, the size and scope of the business would clearly be a relevant factor. If the insured conducted the business in a manner that was unsafe or unlawful or where the insurer has advised the insured that a business would violate the insurer's underwriting guidelines, or if the insured has reason to suspect that the operation of such a business would violate the underwriting guidelines, then such conduct may be reckless or willful. However, since the policy probably excludes liability or physical damage arising out of a business, it is not clear to us that another element of subparagraph (D) would apply; namely, an increase of the hazard insured against.
In the inquirer's example, he also asked us to consider the impact of the size of the business. In other words, would it matter if the business were conducted in one room or an entire floor. As noted, the size of the business may clearly have an impact as to whether the policy remains a § 3425 policy and may be a factor in establishing whether the insured acted in a willful or reckless manner.
With respect to subparagraph (E), the mere addition of a home business would not constitute physical changes in the property except if there have been alterations to the property, which changes would result in the property becoming uninsurable in accordance with the insurers objective, uniformly applied underwriting standards in effect at the time the policy was issued or last voluntarily renewed.
For further information you may contact Principal Attorney Paul A. Zuckerman at the New York City Office.