What Is a Hammer Clause?

Hammer Clauses Explained

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A hammer clause is a clause in an insurance policy that allows the insurance company to force you to settle a claim when an injured party seeks damages against you. If you decide not to accept a settlement, you are responsible for the legal costs associated with this decision. 

While you can find a hammer clause in any type of insurance policy, they are most common in professional liability policies, also known as errors and omissions insurance, which cover instances of professional negligence, misrepresentation, and bad advice. Learn more about this clause and how it could affect you.

Hammer Clause Definition and Examples

A hammer clause limits how much money an insurer has to pay in a lawsuit if the insured party refuses to approve a settlement offer.

  • Alternate names: Cooperation clauses, settlement cap provisions, consent to settle provisions

For example, if your client or patient sues you and you have professional liability coverage, your insurance company will cover the expense for your defense, including any ultimate payout to the injured party. However, insurance companies know that lawsuits can drag on for years along with expenses. 

Plus, as a business owner, it might not make sense for you to settle the suit if you’re not pleased with the outcome or feel you’re not at fault for the injury—especially if you’re not the one paying for it.

A hammer clause exists to avoid this scenario. The insurance company can force you to accept a settlement offer and end the lawsuit or be on the hook for your own legal expenses.

How Does a Hammer Clause Work?

Your insurance company wants to limit the amount of money it has to pay to close a claim against you. If your insurer and the plaintiff agree to a settlement but you refuse, a hammer clause gives the insurer the right to cap its liability. 

This benefits the insurance company so it doesn’t have to pay additional court fees as the case continues through the legal system. 

But if you don’t agree to the settlement terms and want to keep fighting the lawsuit, the insurance company can use the hammer clause to compel you to settle. By not settling, you agree to take the financial risk of continuing the legal fight.

Hammer Clauses in Action

Let’s say you’re sued for malpractice and the claim is $200,000. You think the lawsuit is frivolous and want to fight it in court. You begin the legal process and quickly accumulate $40,000 in legal fees. 

The plaintiff then offers to settle for $100,000, and your insurer is willing to accept. You don’t want to settle, however, because you think the lawsuit is silly, so you decide to keep fighting. 

If your professional liability insurance policy doesn’t have a hammer clause, your insurance company must keep fighting on your behalf. However, if the policy has a hammer clause, the insurer may have the right to cap its liability at $140,000 ($40,000 in legal fees and the $100,000 settlement offer).

Once the insurer invokes the hammer clause, you have a choice to make: Are you going to agree to the settlement or take the risk of having to pay more out of pocket if you choose to fight? If you decide not to settle because you believe you can win the lawsuit, you’ll be responsible for any additional legal fees and any amount of judgment over the original settlement. 

To continue the above example, let’s say you decide not to settle. You continue fighting in court, and your legal fees rise to $80,000. The jury decides you’re guilty, and the judge determines you have to pay $150,000. 

Your insurance company will pay only $140,000 of that $230,000. You are on the hook for $90,000. 

Types of Hammer Clauses

There are two main types of hammer clauses: hard and soft. 

Hard Hammer Clauses

The hammer clause described earlier is a hard hammer clause. The insurance company caps its payout at a certain dollar amount; after that, you are on your own to cover legal expenses and any money the court requires you to pay.

Soft Hammer Clauses

Soft hammer clauses are also known as “coinsurance hammer clauses” because the insurance provider shares the risk of not accepting a settlement with you via coinsurance. 

There are three common types of soft hammer clauses, which differ based on how much of the cost is split between you and your insurer: 

  • 80/20: In an 80/20 coinsurance hammer clause, 80% of the cost falls on the insurer and 20% falls on the insured. This is the most common arrangement.
  • 50/50: With a 50/50 coinsurance hammer clause in place, the insurer and the insured split costs evenly. This is a fairly standard arrangement, although it does occur less frequently than the 80/20 split.
  • 100/0: A 100/0 coinsurance hammer clause means that the insurer needs your permission to settle, and if you choose not to settle, you won’t be responsible for any of the cost. These arrangements are not available through certain insurers and for businesses in certain industries.

So, if you choose not to accept a $100,000 settlement and end up with a $150,000 judgment against you, an 80/20 soft hammer clause would require that the insurer pays $120,000 and you’d pay $30,000.

How Does a Hammer Clause Affect You?

When your insurance policy has a hammer clause, you give the insurance company a bit more control over the outcome of claims against you. 

Without a hammer clause, your insurance company must respect your decision to keep fighting. 

With a hammer clause, the insurer has the right to compel you to take the settlement, even if you aren’t comfortable with it. The insurance company can hold the hammer to you, figuratively speaking, putting all the financial risk of continuing the legal proceedings on you. 

To prevent this, always read the details of your insurance policy and review it regularly. If there’s a hard hammer clause and you aren’t comfortable with the wording, look for a different policy that has a soft hammer clause or no hammer clause at all. 

Key Takeaways

  • A hammer clause is part of an insurance policy that allows the insurance policy to compel the insured into settling any matter outside of court.
  • Hammer clauses cap the amount of money the insurance company must pay to close a claim against you. 
  • If you decide not to settle with a hard hammer clause, you’re responsible for any additional legal fees and judgments above the cap your insurance company placed on the claim. 
  • If your insurance policy has a soft hammer clause, you and the insurance company share the risk of not agreeing to a settlement.