In the following guest post, Megan Black, a D&O broker in the Financial Services Group at Aon, reviews and analyzes how private company D&O insurance policies address legal defense costs. This overview highlights the key differences between Duty to Defend and Reimbursement approaches. The original article was previously published on the AON Financial Services Group’s web presence and can be found here. My thanks to Megan for allowing me to publish her article as a guest post on this site. Here is Megan’s article.

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When renewing or purchasing a management liability insurance policy, one of the most important and often overlooked considerations is how your legal defense will be managed if a claim arises. This overview will help you understand the difference between Duty to Defend and Reimbursement policies, and the typical claims experience for each.

Why It Matters

Legal defense is often the largest expense in management liability claims, including lawsuits from shareholders, employees, or regulators. The way your policy handles defense can impact:

• Who selects and manages your legal counsel
• How quickly your insurance limits are exhausted
• How much control you have over the defense process
• What costs you might incur out-of-pocket

Making an informed decision ensures that you are well-prepared to navigate stressful and complex situations.

What Is Duty to Defend?

With a Duty to Defend policy:

• Your insurer is obligated to provide and pay for your legal defense, even if the claim is groundless or false.
• The insurer selects the law firm (typically from a list of experienced panel firms) and manages the defense process.
• Legal bills are paid directly by the insurer at pre-negotiated, often discounted rates.

Example:
Your nonprofit is sued for alleged mismanagement. With a Duty to Defend policy, the insurer immediately appoints a specialized law firm and pays the bills directly, allowing you to focus on your organization rather than legal logistics.

What Is Reimbursement?

With a Reimbursement policy:

• You choose your own legal counsel, subject to insurer approval of the attorney and their rates.
• You pay for your legal defense upfront and then submit bills to the insurer for reimbursement, based on policy coverage.
• You control the defense strategy, but settlements and other key decisions may still require insurer approval.

Example:

Your company is investigated by a regulator. Your policy extends to coverage for investigations, and you want to use your trusted outside counsel. With a Reimbursement policy, you can do so (with insurer approval), pay their bills, and then seek reimbursement from your policy, keeping in mind that not all costs may be covered.

Comparing Your Options: Duty to Defend vs. Reimbursement

Duty to Defend: The insurer selects the attorney, who is typically from their panel and experienced with these types of claims. You may be able to request your own, but this is subject to approval. The insurer then manages the case and pays attorneys directly at their negotiated rates. The insurer also typically pays all defense costs for covered claims, and the administrative work for you is minimal.

Reimbursement: You (with the insurer’s approval of the attorney and rates) select and manage the attorney, who may be familiar with your business. You pay fees upfront, then seek reimbursement and manage invoices. Keep in mind that the costs and what is reimbursed are allocated between covered and uncovered matters.

Additional Considerations

• Using Your Preferred Attorney: Some Duty to Defend policies may allow you to use your own attorney, provided the insurer agrees. Insurers will evaluate the qualifications of the firm and may endorse the firm at pre-negotiated defense rates.
• Switching to Duty to Defend: Some reimbursement policies allow you to transfer control back to the insurer for a specific claim.
• Rising Legal Costs: Legal fees and court awards are increasing. The way your policy handles defense can help protect your insurance limits.

Real World Scenarios: Duty to Defend vs. Reimbursement

In real-world scenarios, Duty to Defend and Reimbursement can play out very differently. In a complex lawsuit with multiple allegations, under a Duty to Defend policy, the insurer covers all defense costs for covered claims, even if some parts of the lawsuit are not covered. You may also be required to use the insurer’s panel firm unless you receive special approval.

For the same complex lawsuit, under a Reimbursement policy, you will need to track and allocate costs between covered and uncovered matters, which can be time-consuming and may leave you with unreimbursed expenses. You do, however, have the flexibility to choose the attorney (subject to insurer approval), but you may incur higher out-of-pocket expenses if their rates exceed what the insurer allows.

Key Considerations

• How much control does your organization want over legal strategy and attorney selection?
• Does your organization have a relationship with an attorney who understands your business and these types of claims?
• Is your organization prepared to handle the paperwork and cash flow involved in paying for legal defense upfront?
• How important is it to ensure that all your legal bills will be paid (subject to policy limits)?
• Are there reputational or operational issues that make control over the defense particularly important for your organization?

Conclusion

There is no single “right” answer, as each approach has its own benefits and trade-offs. The best choice depends on your organization’s needs, resources, and risk appetite. Understanding these options now will help ensure your insurance policy functions as expected if a claim arises.