THE SOLICITORS INDEMNITY FUND ANNUAL REPORT 1996 FOUND:-- The main claims in 1995/96 arose from property-related claims by lenders, claims arising from firms falling foul of the automatic striking-out provisions under order 17 of the County Court Rules and money fraud claims.-- There was an increase in the number of reported claims where the potential exposure exceeded the limit of indemnity-- The number of reported claims fell slightly from 18,305 in 1994/95 to 15,883-- The smallest firms have seen the most marked rise in contributions over the last nine years-- Paid and reserved conveyancing claims represented 56% of the total claims by number and 67% by value.-- The total amount paid out in 1995/96 was just under £264 million.ROBERT VERKAIK TALKS TO ANGRY FIRMS, SOME OF WHOM BELIEVE THE TIME HAS COME TO DITCH THE COMPULSORY MUTUAL FUNDThe financial crisis in which the Solicitors Indemnity Fund (SIF) now finds itself is the last straw for some City law firms.

The top City firms have shown little restraint in reminding the Law Society of what they claim is the disproportionate rate at which their annual SIF contributions are levied.

This week Dibb Lupton Alsop was the first City law firm to announce its intention to lobby for a break from the SIF.

There are others, and not just in the City, who favour axing the SIF and replacing it with a new system for arranging insurance on the open market.

That is exactly what some senior City lawyers are predicting will happen once the Law Society's review committee has reported.

The top ten firms which each pay around £1 million to the SIF for the first £1 million of cover, could undoubtedly, all negotiate a much better rate on the open market.

The question is would it represent a better deal?Freshfields senior partner Ian Terry said City firms are concerned that the new hikes in SIF rates would translate into a 'disproportionate levy in relation to the funds needed to be raised simply on the basis of us having deeper pockets'.

However, he doubted whether the majority of City firms would follow Dibb's lead and try independently to 'split off' from the SIF.

Anthony Pugh-Thomas, chairman of the City of London Law Society, said although the City was 'peeved,' it was in a better position to absorb the costs.

Perry Simson is responsible for arranging insurance cover at Clifford Chance.

He predicts that the Society will, as Lloyd's of London has done with its syndicates, decide to put the SIF into run-off and make a bre ak for the open market.

Run-off is the process whereby the insurance scheme is closed and future claims are no longer underwritten.

'My prediction is that the Society will come down in favour of getting rid of the SIF.

But I suspect it's going to be a much closer call than people currently think.'He says even if the SIF was put into run-off it would still require funding to the tune of between £60 and £80 million a year just to keep it solvent.

He also questions whether firms will be able to get a better deal in the market place.

Mr Simson says it is too simplistic just to compare the prices of market cover with that of the SIF.

The standard deductible on the open market is set at 1% of fee income, which would mean the big firms would have to pay at least the first £300,000 of any claim.

The maximum a firm has to pay under the SIF rules is the first £150,000 and this is only for the first three claims in a year.

Thereafter, the SIF provides complete cover; the market offers no such concession.Mr Simson says the new providers of cover would be more 'restrictive' in their terms and conditions, retaining the right to repudiation in circumstances where the law firm had not provided full details of the claim.

The SIF does not repudiate under such circumstances.'In our view it's not a situation where one can say the SIF is a disaster, better to put it to bed and let firms go to the market,' says Mr Simson.An alternative scheme, along the lines the accountants operate (see below), might, suggests Mr Pugh-Thomas, facilitate the practices of solicitors who may be seriously under-insured.'If our clients sue a medium- or small-sized firm of accountants they often get fed up when they discover that the insurance cover is only peanuts.

I don't think that does those other professions much good.'There is also a public policy question as to what happens to those firms which cannot find insurance cover on the market.

Should the market decide which lawyers practise law?Manchester law firms are so concerned about the crisis they are planning to ask representatives from the SIF to attend a meeting of Manchester practitioners to explain the current difficulties.

John Potter, president of the Manchester Law Society, says: 'A real consequence of this could be that practices go out of business.

But the issues are so complex that a knee-jerk response would not be appropriate.' Mr Potter says he would need serious persuading to conclude that the option of rebelling and not paying the increases was a realistic proposition.

The president of the Birmingham Law Society, Michael Shepherd, also accepts the argument that firms must pay.

'Our concern is to find an acceptable formula for spreading the recovery of the shortfall so that our members can afford to pay, and at the same time retaining the confidence of the public.' Nottingham practitioner John Lymbury, former chairman of the Sole Practitioners Group (SPG), predicts 'disaster' for those firms with bad claims records.

He can remember the professional indemnity arrangements before the birth of the SIF.

'A few of the larger insurers offered professional indemnity cover and it worked the same way as motor car insurance.

If your claim records was good, you paid relatively little.

If it was bad, you paid a very substantial sum.

To this day I can't see any fundamental fault in that argument.' The SPG has for a long time been urging the SIF to put a stop to the practice of allowing claims that may involve dishonesty to be ruled as claims of negligence.

This practice, alleges the SPG, has involved pa rtners tapping into the SIF by presenting the dishonesty as resulting from the negligent management of the practice.

'We still don't know how many claims relate to simple negligence and how much relates to possible claims by aggrieved people who have lost money to the dishonesty of a partner where the claim is being dealt by the SIF rather than the Compensation Fund.'For small firms, the increased SIF rates will have to be passed on to the client.

The City will probably be able to take the hit without affecting fees.

At Clifford Chance, the £1 million it pays for SIF cover accounts for a seventh of its total professional indemnity costs.

Under the projected rates of increase in SIF contributions, Clifford Chance is expecting to pay around an extra £600,000.Mr Simson says: 'Without sounding arrogant an extra £600,000 is not enough to cause a blip in the graph.

It's not something we welcome but it's not enough to require an increase.' Mr Simson predicts most firms of 25 partners or more will be able to take the increase without passing it on to clients.'But when you divide £600,000 among 250 partners you can see just what effect it will have on the bottom line.' Even if the Law Society manages to convince the City partnerships that they should take it on the chin and pay the increased levy for the next five years, the burning resentment which is being stored up will only serve further to alienate the profession in the City.

But some of the smaller firms, which cannot afford to absorb the hike themselves, may not even be around in five years time.HOW OTHER PROFESSIONS DEAL WITH INDEMNITYOf the leading professions in this country only solicitors operate a mandatory mutual professional indemnity fund.

There are several such schemes operating in Europe and America but most are experiencing the same sort of crisis currently faced by the Solicitors Indemnity Fund (SIF).The chartered accountants have for a long time used the open market to provide its members with professional indemnity cover to minimum limits.

This is roughly two and half times gross fee income for each firm, with a minimum of £50,000 for a sole practitioner and £100,000 for a firm.

Within this mandatory cover each policy must be worded so it offers an approved standard of protection to the client.

All the participating insurers have not only agreed to the 'minimum policies wording' but also to take part in the 'assigned risks pool'.

This gives those accountants who are considered bad risks a chance to be nursed back to the open market.

They are allowed to stay in the pool, which is underwritten by the participating insurers, for two years.If after two years they are still considered too high a risk then they are effectively forced to stop trading.

The Chartered Institute of Accountants (ICA) has just completed a review of its professional indemnity provisions and declared itself satisfied.

Janet Butwell, deputy director of the ICA's practice regulations department, said: 'It seems to be working very well.'Doctors have a choice between three mutuals, including the Medical Defence Union, and outside insurance professional indemnity cover through the Medical Insurance Agency.

Hospital doctors, like government lawyers, are covered by Crown Indemnity but general practitioners are not forced to have negligence protection, although nearly all of them do.Architects can also practise without any insurance cover.

But to belong to the register of the Royal Institute of British Architects (RIBA), practitioners are obliged to have 'appropriate cover' for the work they undertake.DAVID WARD REPORTS ON THE STATE OF THE SIF AND STRESSES THAT THE MUTUAL FUND IS NOT FACED WITH AN IMMEDIATE CASH CRISISIt was a serious blow to the Solicitors Indemnity Fund (SIF) and even more so to those who pay contributions when the projected net shortfall of £248 million for the seven closed years up to 1993/94 was reported to the SIF board in December 1996 and announced in January 1997.Only a few months earlier the projected deficit had been £36 million.

The increase of £212 million was the result of reassessments by the SIF management and independently by Tillinghast Towers Perrin as consulting actuaries.

The ultimate claims liability for those closed years is now estimated at £1,535 million against forecast net income of £1,287 million.

A year is closed at 36 months by which time most of the claims for that year will have been notified.

In addition revised calculations for the open years 1994/95 and 1995/96 have increased the total estimated shortfall by £206 million to £454 million, although the figures for the open years are more speculative as claims are still developing.While it is solicitors and not the SIF who generate claims, the announcement by the SIF of a sudden increase of this size is cause for serious alarm.The committee of non-executive directors has reported to the board on the reasons for the shortfall, the timing of its discovery, and the steps to be taken to avoid similar problems in the future.

The report is intended to be factual rather than rhetorical.

There is no immediate cash problem.In September 1996 the value of the fund excluding fixed assets was £458 million.

Monthly claims payments this year average £22 million as compared with £23 million last year.

Taking net income into account the value of the assets in August 1997 is likely to be about the same as in September 1996.Forecasting inevitably involves a degree of guesswork.

Ultimate liabilities for any one year are not finally known for ten years.

The potential liabilities of solicitors can be horrendous particularly as the profession is directly and indirectly responsible for many billions of pounds each year.

In one sense, it is surprising that claims are not higher.That is not complacency but recognition that the public increasingly expects that someone must compensate whenever loss or damage is incurred.

In the case of the SIF there is little margin for any error in its forecasting.

There is no share capital to cushion losses, projected investment income is credited to the profession up front, management expenses are 1.5% compared with up to 20% for management and marketing expenses for a commercial insurer and there are no other lines of business to set off against losses.The advantage to the profession is that the contribution is kept to the minimum.

The disadvantage is that if the contribution turns out to be too little, the shortfall needs to be made up by the profession at a later stage.

Over the closed years the number of claims (frequency) and the overall size of claims (severity) have increased broadly in line with gross fees -- with one exception.

The exception is that the average size although not the number of conveyancing and commercial property claims has increased at rates well in excess of the increase in gross fees.

If it had not been for that exceptional increase the ultimate claims liability would be £1,200 million and there would be no shortfall.

In retrospect this surge in claims liabilities -- which followed the rise and subsequent fall in the property market -- was not fully take n into account in the contributions.

Contribution recommendations are made by the SIF underwriter.

In recent years this was John Speedman who retired in August 1996.

He understood the problems of the profession and was anxious not to over-burden it unnecessarily.

With hindsight a more optimistic view was taken than now appears to be justified.While accepting this fact, Mr Speedman considers that the revised SIF figures are too high.

The final outcome will not be known for several years, but meanwhile the revised SIF figures supported by the consulting actuaries must be used as the basis for contributions.

Over the years various actuarial and statistical methods have been used for calculating both the initial contribution and the development of claims.

They give a wide range of results which need to be subjected to an underwriter's judgment.

Since 1989 the SIF has developed a system of assessing each claim on the basis of probable maximum loss (PML).

In the early stages a discount of 20% to 30% of unpaid PML figures seemed to be justified for forecasting.

The SIF had gradually developed a more accurate basis and now considers a maximum discount of 10% should be applied.

That change in forecasting together with an increase in PML projections of £71 million between 1995 and 1996 because of deteriorating claims, largely correspond with the increase in shortfall.

If regular, independent actuarial checks had been obtained, the developing shortfall might have become apparent at an earlier stage.The SIF Board has accepted recommendations to improve the statistical reporting and presentation of the accounts; to take regular independent actuarial advice; to separate the underwriting and management roles; to warn the profession that if estimates at the lower end of the range are adopted, any shortfall must be made up later; and to consider in detail current policies and methods of claims handling.The SIF board is also asking the Law Society to review the structural arrangements as the board has in practice been responsible both for running the fund and advising the Law Society through the standards and guidance committee on the interests of contributors.

Meanwhile, advantage can be taken of the status of the SIF as a statutory mutual fund rather than an insurance company to collect the shortfall over a period of years.

Although this will not remove the burden it may mitigate it.-- The Ward Committee report to the SIF Board was compiled by non-executive directors David Ward, past President of the Law Society; Ray Treen, chief executive of Cornhill Insurance plc; and Paul Venton, former chairman of the standards and guidance committee.Copies of the full report can be obtained from the SIF on telephone number 0171 566 6000.PETER WATSON-LEE DESCRIBES HOW A CLAIM AGAINST HIS FIRM, PAID OUT BY THE SIF, HAS CAUSED HIS INDEMNITY BILLS TO SOARWilliams Thompson has always prided itself on providing quality work.

It has been in business since 1908 and as far as the staff are aware it has never had a claim against it.Until 1991 that is, when the inevitable happened.

An overlooked diary note led to the firm having to make its first and only insurance claim.The firm duly reported the claim and accepted liability from the outset.

The firm paid the excess.

This had the effect, under the insurance rules, of increasing the firm's premium for the next few years by a set amount.

The firm received a letter from the Solicitors Indemnity Fund's (SIF) solicitors and agreed the estimate of the claim.

Office procedures were tightened up even further an d the matter was closed.

After all the firm was insured.The first bomb-shell hit the firm last summer.

The SIF decided to change the ground rules.

It announced a new system of premium loading.

Naively the firm thought this may not be unreasonable.

If the SIF said that from now on it was going to look at all the firm's claims and this would affect future premiums, then how could the firm complain.However, it does not work like that.

The SIF does not operate on a commercial view of specific firms.

It operates on a complex formula.

The claims loading was not going to be based on the current or future years.

The SIF was going to re-open the years 1989 to 1992.

It would make comparisons with the contributions the firm made during those years.

That was not the deal on which this firm paid its insurance premiums in 1991.

But, of course, the SIF is a compulsory monopoly and there is no choice.A second shock was still to come.

As the firm had paid everything due under the then rules, no one had thought to keep us informed of how the SIF dealt with our claim.

Without any reference to the firm, the fund had proceeded to settle the claim at a figure two and half times greater than that discussed.

A claim which at worst would be £83,000 had been settled for £230,932 for which, it now appears, £50,854 was interest and £23,500 costs.

No one had thought to tell, let alone consult the firm about it.

Nevertheless, this figure was now going to be used to load all future premiums.As a result, when comparing this sum against the firm's premiums between 1989 and 1992 -- it was not such a large firm in those days -- the firm was told that the insurance premium was to be increased by 75%.

Not just for this year but for the next two as well.That is a penalty of an extra two and a quarter years premiums due to a single error six years ago.

In real terms a penalty cost of approximately £54,000 over and above the normal premium.

It did not escape the firm's notice that the premiums since 1991 now exceed the claim paid.A third bomb-shell, has now of course, appeared.

Even the SIF it seems is open to errors.

There is a suggestion of a further 80% increase in premiums for the next and future years (see also the article by Sam Wilson on this page).

If this was to be an extra 80% on top of the existing 75%, it would mean a 215% increase in the firm's basic premium.

An increase from approximately £25,000 to £56,250, based on the average gross fees for a four partner firm; that means 8.65% of every bill will go straight to the SIF.One cannot but compare the situation with the other professional insurance we pay -- the top-up.

The ability to go to the commercial market for top-up insurance has resulted over the same period in the firm's top-up insurance for £1 million extra cover reducing from £2,330 annually through the then LIB to £495 from commercial insurers.

According to them, the firm is a classically good risk.

Pity they cannot tell the SIF.So why have the partners agreed to go public and publish the firm's claims record? It hardly reflects well and certainly the natural instinct is to keep quiet.

However, the firm believes it is not alone.

SIF figures show 1,842 firms have some degree of claims loading.

The firm thinks that in some cases the system works unjustly and that there maybe many other firms which have similar stories.

If so, can you let me know.UNFORTUNATELY, THE LAW SOCIETY HAS NO OPTION BUT TO FIND A WAY TO COLLECT THE SIF SHORTFALL, EXPLAINS SAM WILSON.In June, the Law Society's standards and guidance committee (SGC) wa s faced with the unenviable task of recommending to the Council the indemnity contributions for 1997/98.

After a lengthy deliberation the committee decided to recommend:-- that £269 million was the total contribution required from the profession for indemnity cover for the 1997/98 year.

The Solicitors Indemnity Fund (SIF) and independent actuaries Tillinghurst Towers Perrin, confirmed the reasonableness of the SIF's projected figure;-- that the loading formula be maintained but that the maximum discount should be increased from 20% to 35%.

This adjustment, coupled with a few minor items, would have meant an increase in rates of an average of 55% from 1996/97 if the contribution of £269 million was to be collected;-- that a start should be made in collecting the estimated shortfall for the closed and open years by taking a 'top down' approach of an 80% overall increase.

Of this increase, some 24% would have gone towards the shortfall.

At the Law Society Council meeting, only the first recommendation was accepted, the remainder being referred back to the SGC for further consideration, including a reduced 'top down' target of approximately 50%.The shortfall, will have to be collected.

However, mindful of the Council's resolution, the SGC has decided to recommend that the contribution requirement for the 1997/98 year of account should be separated from the collection of the estimated shortfall.

The 1997/98 contribution must be collected in the next indemnity year and the SGC is likely to offer the Council a choice, with overall increases ranging from approximately 44% to 56%.

The decision which the Council will have to make -- and which dictates where within this range the increase will fall -- depends upon the extent to which the discount formula is to be increased from last year.

Broadly speaking, the choice is between minimising the increase in contribution rates, and maximising the extent to which the burden falls on those with poor claims records.So far as the shortfall is concerned, the SGC, together with the SIF, will give further consideration in the new Council year as to how, and from whom, it should be collected.

The SGC is well aware of the need to make its proposals known as soon as possible.

Sadly, the SGC has no option but to set a policy for the collection of the figure required.I hope that, from amongst the revised proposals, the Council will find an acceptable, even if unpalatable, solution.SOLICITORS INDEMNITY FUND TASK FORCE BY MICHAEL LANGThe SIF task force, which was established by the Law Society Council to investigate whether there are ways of mitigating the impact of SIF contributions on the profession, held its first meeting on Wednesday 18 June 1997.

In the limited time available before the next Council meeting, the task force will be concentrating on what practical help the Law Society can provide to assist firms to cope with the expected sharp increase in contributions to the SIF.The proposed increases in contributions to the SIF for 1997/98 will undoubtedly pose an additional strain on firms which are finding it hard to make ends meet.

By helping firms to improve financial management, some firms may be able to find ways to improve cashflow and meet the increased overheads.

The Law Society's policy committee has already approved funds to support the cost of financial management consultancy and a proposal is being worked on over the next few weeks.The task force has also given some consideration to longer term measures and will make recommendations to the Law Society's indemnity insurance review group, which is considering the best way of providing professional indemnity cover for solicitors.The task force considers that further time is needed to give more thought to how and from whom the shortfall in SIF contributions for previous years should be collected.

The task force will make recommendations to the Law Society's standards and guidance committee and the Council as to principles that might be applied when collecting the shortfall that would operate fairly across all sectors of the profession, and if possible, ease the burden on those not practising at the time the shortfall arose.

The task force will meet again on Friday 4 July 1997 and will report to the Council on 17 July 1997.