Detecting Uncertainty in the Meaning of Insurance Policy Wording

Ambiguity

Language is ambiguous when it is susceptible to more than one interpretation. The writing says two (or more) things. The principal types of ambiguity are:

• Semantic—the meaning of words or phrases
• Syntactic—the meaning derived from the arrangement of words in a sentence
• Contextual—The meaning of one part of a document differs from the meaning in another part of the document

A case involving all three types of ambiguities is Morgan Stanley Group v New England Insurance Company. Morgan Stanley provided investment advice to customers and brokered investments to some of the same customers. When the investments went sour, two financial institutions sued Morgan Stanley.

Under the insurance policy, New England agreed to indemnify Morgan Stanley for:

[l]oss . . . by reason of any actual or alleged negligent act, error or omission committed in the scope of the Insured's duties as investment counselors.

The court found that the term "investment counselors" was ambiguous. Morgan Stanley argued for an interpretation that covered all instances in which Morgan Stanley provided investment advice. New England claimed that "investment counselor" covered only those instances in which Morgan Stanley had a contract with a client to provide investment advice for a fee.

The trial court ruled that "the hallmark of investment counseling is independent analysis." The appeals court adopted still another interpretation, juxtaposing a counselor and a seller. In a reductio ad absurdum argument, the court stated:

To hold Morgan Stanley acted as an investment counselor in this case would transform every effective salesman into an investment counselor.

Resolution of this semantic ambiguity in favor of New England did not end the matter. The insuring agreement contained a syntactic ambiguity: did "any actual or alleged" modify only "negligent act, error or omission" or did it also modify "investment counselors." In the later case, Morgan Stanley was entitled to coverage if one or both of the financial institutions alleged that Morgan Stanley acted as "investment counselors." The court remanded the case to the trial judge with instructions to determine whether one of the financial institutions alleged that Morgan Stanley acted in the insured capacity.

The 1986 and the 1987 policies contained a notice of circumstance provision. As claims-made gurus know, this provision treats a claim arising out of a notice of circumstance given during one policy period as a claim reported (or made) when the notice of circumstance was given. Both policies also had a traditional claims-made coverage trigger.

Morgan Stanley gave notice of circumstance during the 1986 policy period, and the claims were made during the 1987 policy period. Morgan Stanley argued that this triggered coverage under both policies. Apparently, the 1987 policy did not contain a prior notice of circumstance exclusion or other provision explicitly precluding (or allowing) duplicate coverage limits for the same claim.

The court interpreted the 1987 policy in the context of renewal of the 1986 policy. The court noted that the word "renewal" appeared in forms submitted by Morgan Stanley and forms attached to the 1987 policy. Morgan Stanley's risk manager testified that the 1987 policy was a renewal of the 1986 policy. According to the court, the renewal arrangement operated to allocate claims to particular policy years. The case was remanded to the trial judge to determine whether the 1986 or the 1987 policy afforded coverage.

Vagueness

Whereas an ambiguous term suggests two or more connotations, a vague term is imprecise. A court may infer a precise meaning or it may refuse to enforce a vague term.

Conventional owners, landlords, and tenants liability insurance policies cover liability arising out of the ownership, maintenance, or use of the premises described in the declarations as well as "incidental" operations. Exactly what is "incidental" is the subject of many court decisions. A couple of these court decisions are summarized below:

• Transmission of a disease when the policyholder had sex on the described premises was held not incidental to ownership, maintenance, or use of the described premises.
• Coverage was held to apply to an accident taking place at a local chapter of a fraternity. The court found that the chapter houses were operations incidental to the ownership, maintenance, or use of the fraternity headquarters.

Sometimes a word or phrase that appears vague is not. The courts have adequately defined many words and phrases found in insurance policies. A vague term may also be appropriate in situations where specificity is not desirable, such as a requirement to report a claim to the insurer "as soon as possible" or "as soon as practical."

Obscurity

Courts have refused to enforce provisions because the policyholder was mislead or surprised. In one case, a requirement that the insured notify the insurer of an unusual occurrence was contained in a section headed "PROCEDURE OF INSURED IN CLAIM OR SUIT."

The court found that the heading was misleading because the heading omitted mention of the insured's duty regarding an unusual occurrence. Therefore, the court held that the insurer was not entitled to deny coverage because that the insured did not notify the insurer of the death of a patient until after the patient's family sued.

The reasonable expectations doctrine is mainly concerned with unfair surprise—the insertion of a provision that conflicts with what the policyholder would suppose based on the purpose of the insurance contract. Under the doctrine, the text of a contract is de-emphasized and the objectively reasonable expectations of the consumer are stressed in construing the contract.

Absurdity

Absurdity includes incongruity of a provision in relation to other provisions of the insurance policy. In my experience, this usually happens when a provision is "cut" from one policy and "pasted " to another policy.

In one case, a provision in an aircraft policy issued to a corporation excluded coverage for liability arising out of personal injuries to members of the insured's family. The court held that this provision was absurd, since the insured was a corporation and members of its family could not possibly have personal injuries. Therefore, the court disregarded any reference in the policy to personal injuries of the insured's family.

Another type of absurdity is a provision that is so patently unfair that no reasonable person would voluntarily accept the provision. In such case, a court may reject or reform the provision.

Conclusion

The pressure on courts to be "fair" and to follow precedent sometimes results in interpretations that appear inconsistent with the intent of the parties to a contract. These are the ordinary hazards of contracting. However, the parties can considerably reduce the opportunities for misunderstanding and misinterpretation by making an effort to detect and clarify uncertainties in the meaning of contract language.