Insurance Claims
It Defends Me, it Defends Me Not: Are You Sure That Your Defense Costs are Covered?
Tyechia L. White and Ashley M. Edmonds
October 30, 2013
At first glance, insurance coverage often appears to be a steady, comforting source of protection in the event that a policyholder faces a lawsuit seeking substantial damages. But, if policyholders are not vigilant in every step of the insurance purchase and adjustment process, such protection can be nothing more than an illusory “peace of mind” leaving a policyholder vulnerable when that protection is needed most. There are several steps policyholders can take to protect their right to a defense.
In addition to providing funding in the event that a policyholder faces a settlement or judgment, insurance often covers the costs of defending lawsuits. This type of insurance is referred to as “litigation insurance” because it covers the costs of both indemnity and defense. Bovis Lend Lease LMB Inc. v. Garito Contracting, Inc., 65 A.2d 872, 875 (N.Y. Sup. Ct. App. Div. 2009). A policyholder would be wise to purchase litigation insurance because it will incur substantial costs in defending against lawsuits, even if the allegations are completely meritless and the policyholder ultimately prevails. Indeed, according to a report by the U.S. Chamber of Commerce Institute for Legal Reform, “litigation costs continue to rise and are consuming an increasing percentage of corporate revenue,” increasing on average by 9% each year. However, unless policyholders carefully review their policies and their insurers’ track records, they will likely find their hope for defense payments blowing in the wind like the petals of a white daisy.
Let’s face it: insurers issue insurance policies to corporations with the hope that they will never actually have to pay claims. It should come as no surprise to policyholders when their insurance companies are less than motivated to pay thousands (or even millions) of dollars in defense costs. Insurance companies use several tactics to avoid their obligations to pay defense costs. The following are three steps policyholders can take to protect themselves against the denial of a defense.
- Carefully and Consciously Purchase Insurance
Insurance companies need to collect premiums to survive. Policyholders should therefore utilize the power of their premiums when purchasing insurance to secure the best coverage. It would be prudent to inquire about and research an insurance company’s track record for defending its policyholders before handing over millions of dollars in premiums. Further, policyholders should be forewarned that not every insurance policy covers defense costs. This should be a key issue to address when purchasing policies, and a policyholder should know whether the policy it is purchasing covers defense costs—and on what terms—in advance. Policyholders should request that their brokers direct them to the key provisions relating to coverage for defense costs before purchasing any policy.
- Duty to Defend
A policyholder should know for certain whether a policy obligates the insurer to “defend” on its behalf or, alternatively, to simply “reimburse” defense costs. When an insurer has a duty to “defend,” it will be intimately involved in the defense strategy, including an obligation to help find counsel to represent the policyholder (and, in some cases, an obligation to pay for counsel independently selected by the policyholder). A policyholder should keep these key points in mind regarding duty to defend policies:
- These types of policies are often primary layer policies, and thus, premiums are usually higher;
- Ensure that the policy will defend claims even if they are “groundless, false, or fraudulent” rather than only providing a defense for claims “to which this coverage applies”;
- As discussed in further detail below, be aware that if the policyholder and insured’s interests come into conflict based on the insurer’s invocation of the “reservation of rights,” the policyholder then has the right to select its own defense counsel.
- Duty to Reimburse
Conversely, if a policy only provides that the insurer will “reimburse” defense costs, then the insurer is less likely to be involved with the day-to-day defense strategy and will only reimburse reasonable defense costs as they are incurred. Policyholders should bear in mind several points when considering a policy with an obligation to “reimburse” defense costs:
- These types of policies are often only available on an umbrella or excess basis, and the premiums are often, but not always, lower than the premiums for duty to defend policies;
- These policies’ defense obligations are generally not triggered until the underlying policy limits are exhausted;
- Moreover, while some courts have held that the scope of the duty to reimburse is narrower than the duty to defend and that the duty to reimburse is not triggered until the underlying claim results in an indemnity payment (see, e.g., Xebec Dev. Partners, Ltd. v. Nat’l Union Fire Ins. Co., 12 Cal. App. 4th 501, 565 (Cal. Ct. App. 1993), more recently, courts have held that the scope of the duty to reimburse is the same as the duty defend, including the insurer’s duty to defend or pay defense costs for lawsuits that allege both covered and non-covered claims. See, e.g., Aspen Ins. UK, Ltd. v. Certain Underwriters at Lloyd’s, No. 09-cv-02770-CMA-CBS, 2010 WL 5129529, at *3 (D. Colo. 2010)
- Panel Rates
Often an insurer will reserve its rights to deny coverage later, even if it agreed to provide a defense or to reimburse defense fees initially. In such a case, the policyholder and insurer likely have a conflict of interest such that the insurer will benefit from an outcome that is adverse to the policyholder. When there is a conflict of interest between a policyholder and its insurer, most states have held that the policyholder is entitled to select its own, independent defense counsel. The carrier may attempt to restrict the rates that it will pay for such policyholder-chosen defense counsel to amounts the insurer deems to be reasonable “panel rates,” which can vary. Although policyholders have had success in recovering full defense costs in the face of this “panel rate” argument (see Northern Security Insurance Co. v. R.H. Realty Trust, 941 N.E.2d 688 (Mass. App. Ct. 2011)), policyholders should be aware that a judge could, in his or her discretion, reduce the recoverable amount of defense fees to the insurer’s panel rate. Accordingly, to the extent that a policyholder seeks to have a particular law firm handle certain types of cases, the policyholder should seek to obtain insurer consent when the policy is being negotiated – not when the claim arises – to avoid any arguments that the selected counsel’s rates are unreasonable.
- Policy Limits
Finally, a policyholder should make a point to identify the policy language that provides whether the insurer will pay defense costs in addition to the limits set aside for indemnity, or whether defense costs will reduce the limits available to pay for a settlement or judgment. At a minimum, if a policyholder does not know the answer to any of these questions, or if there is any lingering uncertainty, it should directly request that the insurance company clarify these points before making a premium payment.
- Beware of “Consensual” or One-Sided Promises
A policyholder may believe it is secure if the insurance policy it has purchased expressly provides that an insurer may “consent” to reimburse it for defense costs, even in the absence of a duty to defend. Surely, such a simple clause should provide some basic peace of mind to the policyholder. But, be forewarned: while some courts have confirmed that an insurer may only “reasonably” withhold such consent (see, e.g., North River Insurance Co. v. CIGNA Reinsurance Co., 52 F.3d 1194, 1210 (3d Cir. 1995)), others have ultimately excluded coverage where such “consent” was not formally granted – even in the face of basic insurance law tenets requiring that exclusions from coverage be stated clearly and that ambiguities be resolved in favor of the non-drafting party (see, e.g., Continental Casualty Co. v. Pittsburgh Corning Corp.,917 F.2d 297, 299 (7th Cir. 1990)). Policyholders should be aware of whether their policies contain such a clause and carefully consider whether they are willing to agree to this one-sided provision, which could potentially allow an insurer to refuse to “consent” to a reasonable request for coverage of costs whenever the insurer does not desire to pay.
- Avoid Corroded Protection
While it may sound counter-intuitive, do not assume that the insurance company is always cheering for its policyholder to defeat the underlying lawsuit. On the contrary, some insurers have convinced courts that they are only obligated to reimburse defense costs when their policyholder loses the lawsuit and is required to pay a settlement or judgment. See, e.g., Cent. Ill. Light Co. v. Home Ins. Co., 342 Ill. App. 3d 940 (3rd Dist. 2003); Stonewall Ins. Co. v. Asbestos Claims Mgmt. Corp., 73 F.3d 1178, 1219 (2d Cir. 1995). This incredible argument is premised on the notion that the insurer has only agreed to pay for a so-called “covered occurrence,” and an occurrence is not covered unless the policyholder is held liable in the underlying claim. While the argument has not been universally accepted, it would be shrewd for a policyholder to carefully vet potential insurers and policy language during the procurement process to determine the likelihood that a potential insurer will attempt to shirk its defense cost obligations.
Finally, even if all precautions are taken to obtain defense coverage when purchasing insurance, it is still possible for a policyholder to be left holding a petal-less daisy, full of empty promises. A policyholder, however, does not need to feel defenseless when faced with these schemes. Sit down with your broker before each renewal. If necessary, seek the advice of a lawyer who knows insurance law. Policyholders should always be prepared to assert their right to a zealous defense, but they do not need to do so alone.
The content of this article is intended to provide general information and as a guide to the subject matter only. Please contact an Advise & Consult, Inc. expert for advice on your specific circumstances.
SOURCE: www.lexology.com