A hammer clause is a specific provision within an insurance policy that allows the insurer to compel the insured to agree to a settlement of a claim. If the insured refuses the settlement and chooses to continue legal proceedings, the insurer’s liability may be limited to the amount of the proposed settlement, plus defense costs incurred up to the point of the refusal.
Mechanism of a Hammer Clause
How it Works
When a claim is made against the insured, the insurance company evaluates the claim and may decide that settling the case out of court is the most cost-effective option. The hammer clause gives the insurer leverage:
If the insured refuses the settlement, the insurer is no longer obligated to cover any additional costs beyond the proposed settlement amount and defense costs up to that point.
Example
Consider an insured party facing a lawsuit with a potential cost of $1,000,000:
- The insurer proposes a settlement of $200,000.
- The insured refuses the settlement.
- The case goes to court and incurs additional costs, resulting in a final judgment of $800,000.
Under a hammer clause, the insurer would only be responsible for the $200,000 settlement amount plus previously incurred defense costs (e.g., $50,000), totaling $250,000. The insured would be responsible for the remaining $550,000.
Historical Context
Hammer clauses emerged as a way for insurance companies to control claims costs and mitigate the risks associated with prolonged litigation. Initially prevalent in professional liability insurance, these clauses have become more common in various types of liability coverage.
Applicability and Considerations
Types of Insurance Policies
Hammer clauses are typically found in:
- Professional Liability Insurance: Especially in medical malpractice and errors and omissions (E&O) policies.
- Directors and Officers (D&O) Insurance: Where corporate directors and officers are at risk of being sued for their decisions.
Special Considerations
When reviewing insurance policies, it is crucial to:
- Understand the Terms: Ensure clarity on the specific terms and conditions of the hammer clause.
- Evaluate the Costs: Consider the potential financial implications of refusing a settlement.
- Legal Advice: Consult a legal professional to comprehend the full impact of the clause.
Comparisons and Related Terms
Soft Hammer Clause
A soft hammer clause offers more flexibility than a standard hammer clause. It typically stipulates that the insurer and insured will share the costs beyond the proposed settlement in a predetermined ratio.
Duty to Defend
This term refers to the insurer’s obligation to defend the insured in a lawsuit. It differs from the duty to indemnify, which relates to the insurer’s responsibility to pay the claim.
FAQs
Can an insured negotiate the terms of a hammer clause?
Are hammer clauses common in personal insurance policies?
What should be done if a settlement offer is refused?
References
- “Insurance Policy Provisions.” Insurance Information Institute.
- Smith, John. “Understanding Corporate Insurance.” Legal Publishing, 2022.
- “The Impact of Litigation on Insurance Companies.” Journal of Insurance Studies, Vol. 34, 2021.
Summary
The hammer clause is a critical component in various insurance policies, giving insurers a mechanism to limit their financial exposure by forcing settlements. Understanding its implications is essential for policyholders to navigate claims efficiently and make informed decisions about settlement offers.
