Average legal fees, as reported, increase as the size of the firm increases. Annual legal fees average approximately $2,000 per firm. Insurance Firms were asked whether they carried professional liability insurance and, if they did, whether it was carried because of client requirements. Seventy-six percent of the firms surveyed indicated that they did carry professional liability insurance. Forty-six percent of these firms carried the insurance because of client requirements. Firms carrying liability insurance also supplied information about their insurance policy limits, deductible amounts, and premiums over the past five years. The results were averaged to obtain annual figures for purposes of interpretation. The average yearly policy limit was $449,000 and the deductible amount averaged $8,000. Only 12 firms reported coverage in excess of $1 million. In the case of premium costs, the replies were broken down by firm size and compared with average annual gross billings. The following table reflects the results. The highest premium to gross billing ratio is experienced by firms in the one to nine employee category, the smallest in size. Then, as firm size increases, the premium/gross billing ratio decreases. However, in no size category does this ratio fall below 2 percent for firms with fewer than 200 employees. The results of the survey show that 64 percent of the responding firms pay in excess of 2 percent of their gross receipts for insurance premiums. For the smallest firms with one to nine employees, premiums reported were as high as 37.5 percent of gross billings; 78 percent of these firms reported premiums in excess of 2 percent of gross billings. Firms that carry liability insurance were asked their view on its present cost. Seventy-three percent of the firms believe that insurance that insurance premiums were somewhat low or very low. Thus, in 95 percent of those that carry liability insurance feel the is at least somewhat high. firms that do not carry liability insurance at present, 80 percent high cost as their main reason for being uninsured. Only 9 persaid it was because professional liability was not a concern, only 2 percent said they could not obtain the desired coverage. Reserves 22 firms of the 588 surveyed indicated that they currently set e funds or established reserves. This amounts to less than 4 cent of the firms. In total, these firms reported that they set e or reserved $166,000 annually. ws on proposal Firms that would use proposal s were asked whether they would be likely to establish a tax-exempt ility trust to partially or fully self-insure against liability es. A detailed breakdown of their responses is given in the followtable. erall, two-thirds of all firms responding to this question indicated at they were likely to establish a professional liability trust. on further analysis of these results, we found that of the firms exriencing liability claims, 76 percent said they would use the prosed trust. Sixty percent of those that did not have a history of aims said they were likely to use the trust. ceptance of the proposal regardless of a Thus, there is a high firm's claims history. Fifty-six percent of those firms that do not carry liability insurance at present favored the proposal; over two-thirds of those that said the present cost of their insurance is very high indicated they would probably use the trust. Firms that would not use the proposal Those who replied "no" to establishing a professional liability trust A ranking of were asked to rank their reasons in order of importance. 'one' was assigned to the most important reason, "two" for the next most important, and so on. The following table shows the proportion of firms not likely to establish a professional liability trust voting for that particular reason within a ranking. The major reason for firms not using the proposed trust is that they cannot afford to set aside the funds. Preference for commercial liability insurance and the tax penalty on unauthorized distributions rank as the second most important reasons for not being likely to use the trust. A significant percentage of firms indicated as their second most important reason that the tax benefits of the proposal are not a sufficient incentive to set aside funds. A very low percentage of firms indicated that their reason was that professional liability was not a concern. The limitations on investments only became significant as the third or fourth reason for not being likely to establish a trust. 10 Amount to be set aside The firms that indicated they would use a professional liability trust said they would set aside a total of $3,481,000 annually, amounting to an overall average of approximately $10,000 per firm. The replies from these firms were analyzed further to determine the amount which would be set aside by size of firm and the relationship to their gross billings. The results of this analysis are illustrated as follows. Table 11 AVERAGE AMOUNT TO BE SET ASIDE AND COMPARISON The amount to be set aside as a percentage of gross billings is highest for firms in the one to nine employee category and lowest for firms in the 30- 199 employee category. Each classification of firm by size would set aside at least 2 percent of their annual gross billings. Fifty-two percent of the firms responded that the amount they would set aside would be sufficient to cover their needs. Action to be taken on insurance coverage Firms in favor of establishing a The professional liability trust were asked what they would do with their present insurance coverage. following table summarizes their replies. the third. These results indicate that firms are more likely to retain their present insurance policies, while altering their terms, rather than discontinue their insurance coverage altogether. Estimate of tax savings If the proposed professional liability trust legislation, as outlined in the survey, is enacted with an effective date that would allow its use for taxable years beginning after December 31, 1980, the expected federal income tax savings for members of the A/E profession for 1981 is approximately $50 million. The proposal is designed to encourage firms to set aside funds for future liability losses and expenses by allowing a tax deduction at the time the funds are set aside instead of at the time the losses and expenses are incurred. Because of this, the tax benefit derived in 1981 is not permanent but rather is an acceleration of deductions that would otherwise be allowable in the future years when the losses and expenses are actually incurred. This acceleration of tax deductions amounts to a deferral of income tax payments. At the time the trusteed funds are used to satisfy these losses and expenses, the deferral is terminated. Based on the history of claims reported in the survey over the last five years, it is estimated that $25.8 million of the initial $50 million tax deferral will be terminated as it is used to pay liability claims within the first five years of the proposal's existence. Furthermore, based on the history of legal fees paid as reported in the survey, it is estimated that $7 million of the 1981 tax deferral will be terminated within the same period. The methodology used to make these estimates is explained in Exhibit D. EVALUATION OF RESULTS The A/E profession is dominated by small firms. The nature of the professional liability problem projected by the firms appears to be twofold. First, they clearly expressed the view that insurance costs are high. This was especially true for the smaller firms. The second part of the problem is the claims experience. As the size of a firm grows, so does the likelihood of experiencing claims. Although insurance costs and claims experience are problems expressed by all sizes of firms, the relative importance appears to shift from insurance costs to actual claims as the size of the firm increases. A large majority of firms favor federal legislation that would allow a tax deduction for contributions to a tax-exempt professional liability trust. This is true whether or not the firms currently have insurance or have experienced claims. If the legislation were enacted, most firms would qualify as having a severe liability problem. Over half of the firms |