The Claims-Made Trap
Clearwater Engineering designs water treatment systems. On January 10, 2022, it completes a design for a municipal plant. On June 1, 2022, the plant experiences a failure that releases untreated water, causing $2,000,000 in cleanup costs and bodily injury to two workers. Clearwater's professional liability policy is claims-made with a retroactive date of January 1, 2022, a $1,000,000 limit, and a $50,000 deductible. The policy period runs July 1, 2022 to July 1, 2023. Clearwater did not report the June 1 failure to the insurer until August 15, 2022, after the city filed suit. Clearwater also had a CGL policy in force on June 1, 2022, with a $1,000,000 limit and an exclusion for professional services.
1. Determine which policy responds to the city's lawsuit and the workers' bodily injury claims, and whether the retroactive date helps Clearwater.
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The professional liability policy is claims-made, so coverage depends on when the claim was made, not when the failure occurred. The city filed suit after August 15, 2022, which falls within the July 1, 2022 to July 1, 2023 policy period. The retroactive date of January 1, 2022 precedes the design completion in January 2022, so the design is not barred as prior acts. The $50,000 deductible applies. However, the claims-made policy may have a prior-knowledge condition: if Clearwater knew of the June 1 failure before the policy incepted on July 1, it cannot treat the claim as first made during the period. Clearwater knew on June 1, so the insurer may deny on prior-knowledge grounds. The CGL policy was in force on June 1 and covers bodily injury to the workers, but the professional services exclusion bars the city's claim for design negligence. The CGL policy may still respond to the workers' bodily injury if it arose from the failure rather than from professional advice, though causation will be disputed. Clearwater should tender to both insurers and demand a defense, because the duty to defend is broader than indemnity.
2. Explain how the timing of notice and the prior-knowledge condition affect the claims-made policy, and what Clearwater should argue.
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Claims-made policies require notice during the policy period or within a specified extended reporting period. Clearwater gave notice on August 15, 2022, within the policy period, so the notice timing itself is fine. The bigger issue is the prior-knowledge condition, which typically bars coverage for claims arising from circumstances known before inception that a reasonable person would expect to lead to a claim. Clearwater knew of the failure on June 1, and a $2,000,000 release with injuries would lead a reasonable insured to expect a claim. Clearwater should argue that it did not know the failure resulted from its design, that the cause was under investigation, and that a reasonable engineer would not have expected a claim until the city alleged design fault. It should also check whether the policy has a "claims-made and reported" requirement with a short reporting window and whether the insurer was prejudiced. Clearwater should preserve the investigation file and tender to the CGL insurer as well, because the two policies may share defense obligations.