Illinois Appellate Court Finds Insurer Estopped From Denying Coverage Where Declaratory Judgment Suit Filed Too Late

In an unpublished opinion from the Illinois Appellate Court, Country Mutual Insurance Co. v. Badger Mutual Insurance Co., 2018 IL App (1st) 171774-U, the court held that because an insurer breached its duty to defend and failed to file a declaratory judgment action before the underlying lawsuit was resolved, it was estopped from denying coverage for the default judgment entered against its insured in the underlying lawsuit.

The underlying lawsuit concerned a claim that plaintiff’s property allegedly sustained damage when the insured performed work on the plaintiff’s residence. The complaint in the underlying lawsuit did not specifically identify when the property damage occurred. However, the complaint did state that the insurer’s investigator alerted it in 2010 that the property damage was due to the insured’s faulty work during the policy period. The insurer did not defend the insured during the action and a default judgment was entered against the insured.

The insurer filed a declaratory judgment action days after the default judgment was entered. The insurer sought declarations that the property damage occurred outside the policy period, one or more exclusions precluded coverage, and the insurer had no obligation to defend the insured. In their counterclaim, the underlying plaintiffs alleged that the insurer hired a third party to investigate the property damage prior to the underlying lawsuit. The report informed the insurer that the insured’s faulty workmanship during the policy period caused the property damage. Therefore, they argued, the insurer had an obligation to defend the insured and was estopped from denying coverage for the default judgment.

The court acknowledged that estoppel only applies if the insurer breached its duty to defend, and therefore first analyzed the insurer’s duty to defend. The court found that the underlying complaint raised the potential that the underlying plaintiff suffered damage resulting from the insured’s work, as it alleged that the insured’s work caused the underlying plaintiff’s building to sustain “property damages, including water damage.” The court also found that the complaint created the potential that the damage occurred between 2005 and 2010, which overlapped with the insurer’s policy period. As such, the complaint did not foreclose the possibility that the damage occurred during the policy period, and the insurer had breached its duty to defend.

Turning to estoppel considerations, the court reasoned that the insurer breached its duty by waiting until after the default judgment was entered to file a declaratory judgment action. The court criticized the insurer for waiting to bring a declaratory action until eight days after the default judgment was entered. Instead, the court required an insurer to file a declaratory judgment “before the underlying proceeding is resolved.”

The insurer argued that the issue of whether damage occurred during the policy period was not subject to estoppel as it did not constitute a “policy defense.” The court rejected that argument and determined that estoppel precludes the insurer from denying coverage, and does not depend on whether the insurer is raising a “policy defense.” As the insurer was estopped from denying coverage, it was responsible for the full amount of the default judgment.