Insurance Coverage

Unraveling the Mysteries of 'Additional Insured' Rights

John N. Ellison and Miranda A. Jannuzzi | The Legal Intelligencer
May 27, 2015

The legal status and rights of an "additional insured" are among the most misunderstood and incorrectly used concepts in the law. The Texas Supreme Court recently analyzed issues surrounding this concept and offered some guidance for those involved in transactions requiring the extension of additional insured rights and obligations. While each state has its own rules and requirements on this subject, the Texas court's guidelines can provide useful guidance to those who are looking to correctly provide this status to another party or obtain it themselves.

On Feb. 13, as part of the ongoing insurance coverage dispute following the April 2010 explosion and sinking of the Transocean offshore oil-drilling rig Deepwater Horizon, the Texas Supreme Court ruled on certified questions propounded by the U.S. Court of Appeals for the Fifth Circuit on, inter alia, the scope of coverage owed to BP America Production Co. and related entities as additional insureds under certain liability insurance policies procured by Transocean Offshore Deepwater Drilling Inc. and related entities, in In re Deepwater Horizon, No. 13-0670 (Tex. Feb. 13, 2015). The question presented to the Texas court centered on the interplay between the insurance policies and provisions in a drilling contract, which obligated Transocean to name BP as an additional insured. In response to this issue, the Texas court held that, despite the fact that the policies contained no express limitations on the scope of additional insured coverage, BP's coverage as an additional insured was limited to the liabilities Transocean assumed in the drilling contract between the parties.

By way of background, the Deepwater Horizon operated in the Gulf of Mexico. Under a drilling contract executed in 1998 between the predecessors of Transocean and BP, the parties had set forth their rights and obligations regarding each other, according to the opinion. In the drilling contract, Transocean, as the owner of the rig, and BP, as the oil field developer, agreed to a "knock-for-knock" allocation of risk, which is standard in the oil and gas industry. Among other indemnity provisions, Transocean agreed to indemnify BP for above-surface pollution regardless of fault, and BP agreed to indemnify Transocean for all pollution risk Transocean did not assume, i.e., subsurface pollution. Without limiting Transocean's indemnity obligations or the liability of Transocean or its insurers, the drilling contract further required Transocean to carry comprehensive general liability insurance, including contractual liability insurance for its obligations under the indemnity agreement. The contract also required Transocean to name BP and related entities and individuals as additional insureds in each of Transocean's insurance policies "for liability assumed by [Transocean] under the terms of [the drilling] contract."

In accordance with its contractual obligations, Transocean maintained a $50 million primary liability policy and four layers of excess liability coverage with $700 million in additional indemnity limits. The policies did not contain any provision or endorsement expressly naming BP as an additional insured. However, the policies extended "insured" status to "any person or entity to whom [Transocean] is obliged by oral or written insured contract to provide insurance such as afforded" by the policies. The policies further specified that "where required by written contract, bid or work order, additional insureds are automatically included hereunder." None of the policies contained any provisions restricting the scope of additional insured coverage.

In addressing BP's additional insured status, the Texas Supreme Court initially noted that an insurance policy's language must be consulted in determining the extent to which underlying service contracts, if any, impact the existence and scope of additional insured coverage. Turning to the facts before it, the Texas court rejected BP's contention that its coverage must be determined solely on the basis of the four corners of the insurance policies, which contained no express restrictions on coverage for additional insureds. Rather, the court opined that the policy language necessitated consulting the drilling contract, and any limitations contained therein. The court noted that the policies: (1) premised coverage on the existence of an "insured contract," which the policy defined as "any written or oral contract or agreement entered into by the 'insured' ... and pertaining to business under which the 'insured' assumes tort liability of another party to pay for 'bodily injury' or 'property damage' ... to a 'third party' or organization"; and (2) specified that additional insured coverage is extended as "obliged" and "where required" by written contract. Given the requirement of a "contract or agreement" to assume the tort liability of another, the court held the drilling contract was necessarily incorporated in the insurance policies.

Looking at the contract's terms, the court then concluded that BP's additional insured status applied only to above-surface pollution, the risk that Transocean agreed to undertake, and not to subsurface pollution, the responsibility for which BP (not Transocean) assumed. The court also made clear that the mere fact that the indemnity and insurance requirements in the drilling contract were separate and independent obligations did not entitle BP to broad additional insured coverage. The court noted that a contract may reasonably be construed as extending additional insured status only to the extent of the risk the party providing the insurance agreed to provide.

The practical implication of the Texas court's decision is that, in order to ensure that the desired additional insured coverage is provided, companies must be vigilant in selecting and understanding the language used in additional insured provisions as well as indemnity and insurance provisions in underlying service agreements. While companies are often careful to limit their indemnification obligations in service contracts, they do not always understand the insurance implications these indemnity provisions may have. Companies also rarely verify that the additional insured coverage procured is consistent with the insurance obligations in their underlying contracts. To avoid similar, as well as related, problems as those faced by BP in Deepwater Horizon, both policyholders and additional insureds must ensure they exercise caution in negotiating and procuring these contracts.

First, the parties to the servicing contracts must ensure there are full and detailed discussions regarding expectations of insurance coverage. Once the parties reach an agreement on what is to be covered under the insurance policies, they can competently draft language that effectuates this intent.

To the extent the parties desire the scope of additional insured coverage to be dictated by an underlying contract, the policyholder should take care to ensure that an underlying contract's restrictions are expressly incorporated into the insurance policy. While there are no magic words required, negotiating a policy endorsement that clearly sets forth that additional insured coverage is provided only for liabilities assumed under the indemnity provisions of a service contract will accomplish the parties' objectives and minimize unnecessary litigation. The parties must also ensure that the incorporated contract is up to date and reflects the parties' intentions. Notably, the drilling contract at issue in Deepwater Horizon was executed in 1998. Parties should be cognizant of the need to review and consider the respective rights of their commercial partners on an annual basis, and adjust them accordingly.

To the extent the parties desire additional insured coverage to be governed solely by the terms of the insurance policy, the parties can negotiate inclusion of policy language to the effect that additional insured coverage is determined exclusively by the four corners of the policy, without regard to any underlying contracts. While additional insureds cannot directly negotiate policy terms with the insurer, they can consider including certain express provisions in their respective service contract. For example, additional insureds can negotiate a provision in the service contract that provides that all of the indemnity obligations under the contract are distinct from the contract's insurance provisions.

Policyholders will need to consider the effects of the aforementioned alternatives on the extent of their indemnity limit being placed at risk for third parties unrelated to the policyholder itself. While this consideration may require a substantial undertaking if multiple service agreements must be reviewed, the effort on the front end should reduce the likelihood of any unanticipated or unforeseen extensions of insurance coverage to third parties that would impact indemnity limits available to the policyholder itself, and allow the policyholder to maintain positive business relationships.

Additional insureds must also be mindful of the effects of the above alternatives. Regardless of which path is chosen, additional insureds should: request a copy of the insurance policy; read the policy alongside the service contract to understand any possible limitations; and verify that the policy and contract together effectuate the parties' intent.

While each state has its own rules regarding additional insured rights and how they interrelate with indemnity provisions in service contracts, the Texas Supreme Court's decision provides a useful and helpful reminder of the traps that can exist for those who do not analyze and take seriously the potential impact and restrictions that may exist on these types of relationships. Parties to these types of agreements should be mindful and vigilant to ensure that these rights and obligations comport with their intent in creating them.

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.thelegalintelligencer.com

Return to Research Center Page

Access Premium Content

Email Marketing You Can Trust