There really is no such thing as a “Hammer Clause”, but that is the common term for the Consent to Settle Clause in your E&O policy. The Consent to Settle clause dictates what the insurance company will do when the company and a party making a claim against you agree on a settlement, but for whatever reason, you decide not to settle. Remember, the insurance company cannot settle a claim without your agreement, so there is a provision in the policy that determines what happens if this situation occurs.
There are various reasons why this might come up. The insurance company is interested in settling claims with the least amount paid in attorney’s fees and damages and that is not always what is best for you as an insured. Think about a transaction where you did your job perfectly and your client turned around and sued you for some nonexistent undisclosed defect in the property. The insurer might want to offer the claimant $5,000 to sign a waiver and drop the suit rather than hire an attorney and defend you. Some agents, in the interest of time and aggravation, may agree to settle. But you have the option to fight the claim. This is where the Consent to Settle clause comes into play.
When an insured refuses to agree to a settlement, the policy dictates the amount that the policy will pay over and above the amount that the claim could have been settled for. A standard Consent to Settle limits the insurer’s liability to the amount that the claim could have been settled for plus legal fees up to the time the settlement offer was made. Some policies have what’s known as a “Modified Hammer” in that the insurance company agrees to pay up to what the claim could have been settled for plus 50% of the damages in excess of the original settlement offer.
The important thing to remember if you are faced with this situation is that, by refusing to settle, you are taking on the chance that a court or arbitration may find in the favor of the claimant, and you could end up paying out of pocket for damages that could have been avoided.