Barney Frank (D – MA) recently introduced a bill that would prohibit individuals working for financial institutions from insuring against possible losses, including from having to repay illegally-received compensation or from having to pay civil penalties. The Executive Compensation Clawback Full Enforcement Act (“the Act”) holds “officers, directors, employees or other institution related parties personally liable” and does not allow them to hedge against the personal liability with insurance.
It is our analysis that the Act would apply to limit the coverage available to investment advisers via errors and omissions (E&O) insurance coverage. The Act as proposed would apply to any “nonbank financial company who is required by a Federal financial regulatory law that provides for personal liability, or any rule or order promulgated by a Federal financial regulatory agency to repay previously earned compensation or pay a civil money penalty.” A nonbank financial company “means a company that is incorporated or organized under the laws of the United States or any state and predominantly engaged in financial activities” and would include investment advisers.
E&O insurance protects professionals from various claims including negligence. Investment advisers are not required to carry E&O insurance but it is highly recommended that investment advisers carry E&O coverage. As we have previously discussed, E&O insurance covers settlements, judgments, and defense costs of investment advisers. The Act would prohibit the use of insurance to cover costs related to an individual’s violation of a federal law or regulation which holds the individual personally liable. The Act would not prohibit liability protection via insurance coverage for violations of any law that does not contain provisions for personal liability.
The purpose of the bill according to the Financial Services Committee-Democrats is to “prevent circumventing provisions of federal law that are designed to hold individuals personally responsible when their actions negatively affect their financial firms.” The proposal in intended to prevent situations where individuals responsible for firm management could purchase insurance and make high risk decisions without facing any personal accountability. If passed, this bill removes that layer of protection and creates a built in deterrent for the individual.
The bill was introduced by Rep. Frank on May 30th. RIA Compliance Consultants will keep you up to date on the progress of this legislation.
Posted by Bryan Hill
Labels: E&O Insurance