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Fifth Circuit Addresses When A Law Firm Should Reasonably Expect A Future Claim In Analyzing Policy Rescission

By Brian C. Bassett

In Imperium Ins. Co. v. Shelton & Assocs., 2019 WL 1096336 (5th Cir. March 6, 2019), the U.S. Court of Appeals for the Fifth Circuit addressed when a lawyer’s professional liability policy may be rescinded based on material misrepresentations in an application concerning potential claims against the firm. 

Shelton & Associates, P.A., (“Shelton”) was issued a professional liability insurance policy from Imperium Insurance Company (“Imperium”), on January 24, 2013. Shelton was designated as the “Named Insured” on the policy and the policy’s coverage period extended from February 1, 2013 until February 1, 2014.

The Shelton firm represented Paul Tyler (“Tyler”) and the Estate of Mamie Katherine Chism (“Chism”) in separate suits. In January of 2014, Chism’s estate sued Shelton, alleging that the firm failed to file a claim in multidistrict litigation over deaths attributed to the anti-inflammatory drug Vioxx before a submission deadline passed in 2009. In February 2014, just one month after the Chism action, Tyler’s bankruptcy estate filed a malpractice suit alleging that the firm mishandled a state court case in 2011 and 2012 that had resulted in a $2.9 million judgment against Tyler.

Imperium agreed to provide a defense to the firm subject to a reservation of rights. In May 2014, Imperium filed a declaratory judgment action to determine its responsibilities, if any, under the policy with respect to the two malpractice claims.  Imperium requested that the court allow it to rescind the policy on the basis that the Shelton firm made a material misrepresentation of fact in the insurance application. Specifically, Imperium asserted that Shelton made a material misrepresentation in response to Question 30(b) on the application, which asked “are any attorneys in your firm aware of any legal work or incidents that might reasonably be expected to lead to a claim or suit against them?” The Shelton attorneys responded “No” to this question.

Under Mississippi law, if an applicant for insurance is found to have made a misstatement of material fact in the application, the insurer that issued a policy based on the false application is entitled to void or rescind the policy. A misstatement is deemed material to the risk if knowledge of the true facts would have influenced a sensible insurer in determining whether to accept the risk. 

Imperium asserted that by Shelton’s failure to disclose the potential that a claim for malpractice might be asserted, as required in Question 30(b) of the application, the Shelton attorneys were clearly guilty of making a material misrepresentation. The Shelton attorneys stressed in response that they did not make a material misrepresentation on the insurance application because no one associated with the firm was aware that an underlying suit would be the basis of a malpractice claim.

However, the inquiry was not whether Shelton or the other members of his firm subjectively knew that a specific malpractice action was going to be filed, but whether they subjectively knew of any legal work or incidents that might reasonably be expected to lead to a claim or suit. The district court therefore held that the Shelton attorneys did, in fact, make a misrepresentation in the application for the insurance policy at issue by giving an incomplete or misleading answer to Question 30(b), and that misrepresentation was material, entitling Imperium to rescind the policy.  Additionally, the district court found that even if the policy were to remain in effect, both the Tyler and Chism actions would be excluded from coverage based on the Prior Knowledge Exclusion in the policy.

On petition for rehearing, the Fifth Circuit Court of Appeals confirmed that the district court correctly ruled in Imperium’s favor. The court held that the failure to disclose the Tyler matter was a misrepresentation in the application. “Every reasonable attorney aware of these facts would know that such facts ‘might reasonably be expected to lead to a claim or suit.’” Shelton should have been aware that Tyler may file a malpractice claim after the adverse judgment entered against him resulted from multiple missteps by Shelton, including the firm’s failure to respond to the opposing parties’ summary judgment motion. The Fifth Circuit stated that any reasonable attorney would know that a judgment of $2.9 million entered against his client based in substantial part on the attorney’s failure to respond to, or even show up at, a hearing for a dispositive motion would be reasonably likely to lead to a malpractice claim. 

The court also found that the misrepresentation was “material.” Materiality can be established by showing that, had the insurer known the truth, “the insurer would not have issued the policy at all or would have issued the policy only with a higher premium.” Imperium offered uncontroverted evidence that, if had known the truth, it would have issued the policy with an incident exclusion, would have issued the policy at a higher premium, or would have declined to write the risk at all.  Imperium was therefore justified in rescinding the policy.

The court then stated that because Imperium could rescind the law firm’s policy in its entirety based on the Tyler claim, no coverage was available for the Chism estate’s suit since the rescinded policy was the only policy that would have covered the Chism estate’s malpractice claim. Accordingly, the Fifth Circuit affirmed the district court’s decision permitting Imperium to rescind the policy.

Michigan Court Addresses Claim Reporting Obligations Under E&O Policy

By Brian Bassett

In Illinois National Ins. Co. v. AlixPartners, LLP, 2019 WL 939018 (Mich. App. Ct. Feb. 26, 2019), a Michigan appellate court addressed an insured’s obligation to report a claim under a professional liability policy in order to satisfy the policy’s claims made and reported requirements.

Illinois National Insurance Company (“Illinois National”) sued to recoup the payment of an arbitration award on AlixPartners LLP’s (“AlixPartners”) behalf in February 2013. After making the payment, Illinois National asserted that it should not have paid because the claim was not covered under any of the professional liability policies it issued to AlixPartners. 

The award pertained to a claim made by Kingsbridge Capital (“Kingsbridge”), an investment advisor firm headquarted in London, against AlixPartners. Kingsbridge entered into a consulting agreement with AlixPartners whereby AlixPartners was to provide Kingsbridge with support during its acquisition of Marklin, a model train company headquartered in Germany. AlixPartners issued a due diligence report and in reliance on this report, Kingsbridge purchased 100% of Marklin’s equity as well as a large portion of its debt. Kingsbridge relied on the potential turnaround discussed in the report. Soon after, AlixPartners entered into a separate agreement with the newly acquired Marklin to provide it with management services to aid its turnaround.

However, Marklin did not perform as AlixPartners had projected and in December 2007, Marklin’s board Chairman blamed the multi-million Euro loss on AlixPartners’ inadequate management. Marklin sent a letter in March 2008, and a subsequent letter the following month, requesting that AlixPartners return part of its fees. Kingsbridge’s counsel then requested statements and figures from AlixPartners. In July 2009, upon receipt of the documents, Kingsbridge’s counsel sent a draft arbitration complaint to AlixPartners, alleging that AlixPartners was responsible for Kingsbridge’s investment losses on the Marklin acquisition. The draft complaint alleged AlixPartners’ breach of duties in preparing the due diligences for Kingsbridge and did not address any deficiencies in AlixPartners’ performance as Marklin’s consultant. In October 2011, an arbitration panel found in favor of Kingsbridge and Illinois National agreed to fund the multi-million dollar arbitration award subject to a reservation of rights.

After payment of Kingsbridge’s award, Illinois National continued to investigate the matter and determined that the Kingsbridge claim was not covered under the policy then in effect (“Policy 2”) nor under the Tail Policy (“Policy 1”), due to the policies’ “claims first made and reported” language. The language provided:

“We shall pay on your behalf those amounts, in excess of the retention, you are legally obligated to pay as damages resulting from a claim first made against you and reported to us during the policy period or Extended Reporting Period (if applicable) for your wrongful act in rendering or failing to render professional services for others, but only if such wrongful act first occurs on or after the retroactive date and prior to the end of the policy period.”

Illinois National argued that “claims first made and reported” policies only covered claims that were both made against AlixPartners and reported by AlixPartners to Illinois National during the policy period or an ERP. Illinois National concluded that the Kingsbridge and the Marklin claims were one in the same claim because they both stemmed from the same wrongful act, i.e. AlixPartner’s due diligence concerning the Marklin acquisition. From this conclusion, Illinois National asserted that the Kingsbridge claim was first made in December 2007 or at the latest March 2008, but not reported to Illinois National until the notification of the arbitration complaint in 2009. Illinois National, applying the “claims first made and reported” language of the policy, argued that the Kingsbridge claim was not covered because it was not reported to Illinois National when it was first made in December 2007 or March 2008.

In June 2014, Illinois National filed an action against AlixPartners seeking reimbursement of the arbitration claim it paid. Both parties moved for summary disposition. AlixPartners argued that the Kingsbridge claim was covered under Policy 2 because it was first made and reported during the policy period for Policy 2. AlixPartners further argued that the Kingsbridge and Marklin claims were distinct from each other as the Marklin claim involved a fee dispute, which AlixPartners asserted were excluded from coverage and it thus had no duty to volunteer this information when it was not requested in the policy renewal application. In 2017, the trial court issued a written opinion and order finding for AlixPartners and denying Illinois National’s claims. The Court agreed with AlixPartners’ arguments and Illinois National appealed.

The cornerstone of Illinois National’s argument was the assertion that the claims made in December 2007 and in the March and April 2008 letters were the same as those made in the Kingsbridge arbitration complaint. However, Kingsbridge’s claim was centered on AlixPartners’ advice on the Marklin acquisition, while Marklin’s claim concerned the consulting firm’s alleged mismanagement of Marklin. The Kingsbridge arbitration complaint clearly referred to issues specific to the AlixPartners’ contract with Kingsbridge in the same way that the March and April 2008 letters referred to matters unique to the AlixPartners’ agreement with Marklin.  Accordingly, the failure to report the 2008 letters was not fatal to AlixPartners’ claim for coverage.

Illinois National further argued that it was entitled to reformation based on unilateral mistake where AlixPartners was aware of a possible claim in the March 2008 letter and withheld that information from Illinois National, to its detriment, while negotiating the terms of Policy 2. Illinois National claimed that a duty to report arose from the language in the March 2008 insurance quote for Policy 2 stating:

“This quote is strictly conditioned upon no material change in the risk occurring between the date of this letter and the inception date of the proposed policy.”

However, The Appellate Court concurred with the trial court’s determination that AlixPartners had no responsibility to report the Marklin claims because of the contract’s exclusionary language regarding fee disputes. Plainly read, the March and April 2008 letters were a claim regarding a dispute of the fees due under the Marklin agreement that AlixPartners was not required to report to Illinois National because the policies excluded coverage for fee disputes. The Michigan Supreme Court held in Federal Land Bank of St. Paul v. Edwardsthat an insured is not required to disclose information not requested by its insurer. The Appellate Court also concurred with the trial court that none of the questions in the renewal application requested information regarding any situations that may have resulted in a claim against AlixPartners. Illinois National’s failure to show that AlixPartners was required to disclose the March 2008 fee dispute defeated its claim of concealment. The trial court’s decision to deny Illinois National reformation of the terms of Policy 2 was thus not erroneous. Accordingly, the Appellate Court affirmed the decision of the trial court, finding that the Kingsbridge claim was covered under the policy and Illinois National cannot recover the sums it paid on AlixPartner’s behalf.

 

United States Supreme Court Declines to Extend Special Tolling Rule to Insurance Adjusters

By J. Patrick Carley, III

On February 19, 2019, the Supreme Court of the United States denied a petition for a writ of certiorari, requesting review of the decision in Bloom v. Aftermath Public Adjusters, Inc., 900 F.3d 516 (5thCir. Sept. 4, 2018). In Bloom, the United States Court of Appeals for the Fifth Circuit ruled that Texas’s special tolling rule suspending the statute of limitations on legal malpractice claims until completion of the underlying litigation from which the claims arose did not extend to claims against public adjusters. In connection therewith, the Fifth Circuit noted that the application of the special tolling rule was limited to cases involving legal malpractice, and rejected the argument that public adjusters are lawyers in disguise who effectively provided legal services. While the denial of the petition does not reflect the Supreme Court’s views as to the merits of the decision, it does ensure that Bloom remains legal precedent.

Georgia District Court Finds Reservation of Rights to Named Insured Ineffective as to Individual Insureds

By Jason M. Taylor

In Auto-Owners Ins. Co. v. Cribb, 2019 WL 451555 (N.D. Ga. Feb. 5, 2019), the U.S. District Court for the Northern District of Georgia found that an insurer, Auto Owners, was estopped from denying coverage to two individual insureds under a commercial general liability policy issued to B.R. Mountain Homes, LLC.  Specifically, the District Court held that a reservation of rights issued to the Named Insured was ineffective as to two individual defendant-insureds, who were not explicitly included in the original reservation of rights.

In the underlying action, B.R. Mountain Homes was sued by Jimmey Cribb for injuries suffered on a construction site.  Cribb initially sued BR Mount Homes, but later amended his complaint to add claims against James Brian Thurman (“Thurman”) and Richard Scott Davis (“Davis”), who were officers and employees of B.R. Mountain Homes.  Auto-Owners agreed to defend BR Mountain Homes under a reservation of rights issued and addressed to BR Mountain Homes, and retained defense counsel to file an answer on behalf of the company.  When the complaint was amended to add Thurman and Davis as parties, defense counsel filed an answer on their behalf and began defending the individuals.  Auto-Owners, however, did not immediately issue any coverage position letter or reservation of rights to the individuals, who were identified as “Insureds” on the policy.  Ultimately, Auto-Owners filed a declaratory judgment action seeking a coverage determination with respect to several policy exclusions and “late notice” of an occurrence under the policy.

In the coverage action, the insureds argued that Auto-Owners was estopped from denying coverage to Thurman and Davis due to its failure to effectively reserve rights before providing Thurman and Davis with a defense.   The District Court agreed.  According to the court, an insurer that defends an insured in the absence of an express and specific reservation of rights to deny coverage is estopped from later denying coverage.  

The District Court noted that the policy was issued to “Insured: Brian Thurman & Richard Davis DBA BR Mountain Homes, LLC.”  Per the language of the policy, each insured is treated separately for purposes of coverage, by way of the “separation of insureds” provision in the policy.  The first reservation of rights letter was addressed to “BR Mountain Homes, LLC, Attn: Mr. Brian Thurman.”  While Auto-Owners ultimately sent second and third reservation of rights letters to Thurman and Davis respectively, “c/o B.R. Mountain Homes, LLC,” they were not sent until months after Auto-Owners began defending the individuals.  In addition, the first reservation letter was not addressed to Thurman or Davis individually and was sent before Thurman and Davis were ever sued by Cribb.  Thus, the District Court concluded that the first reservation of rights letter was insufficient for the insurer to reserve its rights as to Thurman and Davis, and therefore, ineffective as to the individual insureds.  Under the circumstances, the District Court held that Auto-Owners’ defense of Thurman and Davis in the absence of an effective reservation of rights served to estop Auto-Owners from denying coverage to the them, regardless of the merits of Auto-Owners’ coverage defenses.

Insurers in New Jersey Secure a Victory on Water Damage Claims, But How Big a Victory Likely Remains to be Seen

By Kevin Sullivan

Property insurance policies commonly cover water damage caused by an accidental discharge or leakage of water from an on-site plumbing system and commonly exclude water damage caused by a sewer backup.  So it’s not surprising that the cause of water damage is a common battleground between policyholders and insurers.  In Salil v. Ohio Security Insurance Co., 2018 WL 6272930 (N.J. App. Div. Dec. 3, 2018), insurers scored a victory when the court held that the release of water and sewage into a restaurant was subject to a $25,000 sublimit for water damage caused by a sewer backup.  But claims adjusters and policyholders confronted with water damage claims in New Jersey will no doubt continue to do battle over whether the Salil decision was a decisive victory for insurers or a limited one.  

 In Salil, the insured landlord leased its building to a restaurant operator.  After the insured’s tenant reported water and odor at the restaurant, the insured contacted a plumber, who informed the insured that a clog in the restaurant’s toilet caused Category 3 water to flow into the restaurant.  The insured allegedly sustained approximately $160,000 in restoration costs and loss of business income.  The plumber used a snake to clear the sewer line to remedy the issue.  The restoration company confirmed the cause of the loss was a sewer back up.  On this basis, the insurer determined that the cause of loss was a sewer backup.  The policy excluded coverage for water damage caused by a sewer back-up, but an endorsement restored that coverage, subject to a $25,000 sub-limit for “direct physical loss or damaged caused by water… which backs up into a building or structure through sewers or drains which are directly connected to a sanitary sewer or septic system.”  Pursuant to this endorsement, the insurer paid its $25,000 sublimit.  

The insured sued seeking its full damages “because the damage resulted from an accidental discharge of water from a blockage in the plumbing system within the property, rather than a sewer back-up originating outside the property….”  The trial court rejected this argument, stating that the insured could only seek coverage for the accidental discharge of water from the toilet if it was caused by a sewer back up.  On appeal, the insured argued that the trial court misinterpreted the policy language and mischaracterized the loss as a sewer backup.  The Appellate Division held that there were no disputed issues of fact, which presumably included the cause of the loss.  And the court also rejected both of the insured’s arguments.  The court held that the water damage endorsement was unambiguous and applied, and also rejected the insured’s attempt to distinguish a “sewer back-up from an accidental discharge of water.”

The Salil court’s holding is a victory for insurers facing water damage claims caused by backflow.  But before this victory can be deemed decisive, it likely will need to be subjected to further litigation.        

Illinois Court Addresses Insurer’s Duty To Pay For Insured’s Affirmative Claim

By Brian Bassett

In its recent decision in Great American E&S Insurance. Co. v. Power Cell LLC, 2018 WL 6696550 (N.D. Ill. Dec. 20, 2018), the United States District Court for the Northern District of Illinois held that Great American Insurance Company had a duty to defend Power Cell, LLC, d/b/a Zeus Battery Products in a lawsuit involving the recall of the claimants’ products, and the duty extended to Zeus’s affirmative claims.

The origin of the parties’ dispute was a product recall initiated by Spring Window Fashions (“SWF”), a business that sells battery-operated window shades.  SWF assigned blame for window shade failures to the Zeus batteries the company used. However, Zeus believed the window products’ failure was due to a design flaw in SWF’s products. Zeus stated that SWF’s false recall notices had harmed Zeus’s reputation, and it subsequently filed suit against SWF seeking a declaration that its batteries were safe along with recovery for the alleged misrepresentation. In response, SWF counterclaimed, alleging breaches of warranty and negligence and demanding indemnification for the cost of the Zeus batteries, the cost of replacing the batteries in the window products, and damages associated with the recall.

Zeus’ insurer, Great American, filed a declaratory judgment action seeking a ruling that it owed no coverage for the losses SWF was seeking to recover from Zeus.  Great American cited two reasons for its position: First, Great American argued that the Counterclaim filed against Zeus did not seek compensation for losses “because of” “property damage” caused by “an occurrence” within the meaning of the policy. Second, Great American asserted that Zeus failed to provide Great American with timely notice of the potential claim.

With respect to the first issue, the Great American policy stated that it will “pay those sums that the Insured becomes legally obligated to pay as damages because of ‘property damage’ caused by an ‘occurrence.’” The Policy defines “property damage” as “physical injury to tangible property, including all resulting loss of use of that property.”

Although the complaint against Zeus cited certain instances where customers’ window shades were alleged damaged as a result of the Zeus batteries, there was no suggestion in the complaint that SWF itself was seeking recovery for that property damage. Great American argued that property damage that is not itself part of the injured party’s damage calculation is “tangential” to the relevant claim and not covered under the Policy.  

The court rejected that argument, finding that it was not necessary for SWF be seeking recovery for “property damage” it suffered, but rather all it must show is that it is seeking damages “because of” property damage, even if that damage was suffered by a third party.  The court concluded that damages sought “because of” property damage include consequential damages precipitated by property damage, including those that do not affect the plaintiff’s own tangible property.

Great American also argued that Zeus failed to provide timely notice of SWF’s claim. The notice provision in Great American’s policy provided that an insured party “must see to it that we [Great American] are notified as soon as practicable of an occurrence which may result in a claim or suit which may involve this policy…” The Illinois Supreme Court has held that “as soon as practicable” means “within a reasonable time,” and in assessing the reasonableness of the time for providing notice to an insurer, Illinois courts consider five factors: “(1) the specific language of the policy’s notice provision; (2) the insured’s sophistication in commerce and insurance matters; (3) the insured’s awareness of an event that may trigger insurance coverage; (4) the insured’s diligence in ascertaining whether policy coverage is available; and (5) prejudice to the insurer.” West Am. Ins. Co. v. Yorkville Nat. Bank, 238 Ill.2d 177 (Ill. 2010). Here, the court found that each of the five factors were either neutral or tilted in Zeus’s favor and in view of the presumption that the court should construe an insurance policy strictly against the insurer, Zeus was entitled to summary judgment on the issue of notice.

Finally, the court held that Great American’s policy also required it to prosecute Zeus’s affirmative claim against SWF as that claim included a request for a declaration that Zeus’ batteries were not defective. The court recognized that the duty to defend “encompasses all litigation by which the insured could defeat its liability.” Great W. Cas. Co. v. Marathon Oil Co., 315 F. Supp. 2d 879, 882-83 (N.D. Ill. 2003). Great American expressly conceded that “any declaration Zeus Batteries were safe would . . . bind SWF and prohibit SWF from collecting its recall costs.” As success on its affirmative claim would reduce or eliminate Zeus’s liability to SWF, the court concluded that Great American’s policy required it to pursue both Zeus’s affirmative claim against SWF and defend against SWF’s counterclaims.

 

Supreme Court of Wisconsin Applies Pro Rata Allocation Based on Policy Limits to Co-Insurance Dispute

By Brian Margolies

In its recent decision in Steadfast Insurance Company v. Greenwich Insurance Company, 2019 WL 323702 (Wis. Jan. 25, 2019), the Supreme Court of Wisconsin addressed the issue of contribution rights as among co-insurers.

Steadfast and Greenwich issued pollution liability policies to different entities that performed sewer-related services for the Milwaukee Metropolitan Sewerage District (MMSD) at different times.  MMSD sought coverage under both policies in connection with underlying claims involving pollution-related loss.  Both insurers agreed that MMSD qualified as an additional insured under their respective policies, but Greenwich took the position that its coverage was excess over the coverage afforded under the Steadfast policy, at least for defense purposes, and that as such, it had no defense obligation.

Both the trial court and the intermediate appellate court held that because the Steadfast and Greenwich policies insured different insureds, during different time periods, the policies were not concurrent and that Greenwich, therefore, could rely on its other insurance clause.  The appellate court further concluded that Greenwich breached its defense obligation and that Steadfast, being equitably subrogated to MMSD’s rights under the Greenwich policy, was entitled to recover 100% of defense costs it had spent in connection with the underlying claim.

On appeal, the Supreme Court of Wisconsin, in a majority decision, affirmed the lower courts’ rulings concerning the other insurance issue, concluding that insurers can rely on other insurance clauses only in the situation of concurrent policies.  The Court agreed that the Steadfast and Greenwich policies were not concurrent, but instead successive, because they insured different insureds for different periods of time.  The Court concluded, therefore, that both insurers had a primary defense obligation to MMSD and that Greenwich breached this duty.

The Court went on to disagree with the lower courts’ rulings concerning the remedy available to Steadfast.  In particular, the Court reasoned that the appellate court erred in awarding Steadfast recovery of 100% of defense costs based on an equitable subrogation theory as this resulted in a windfall to the company that plainly had a defense obligation.  It reasoned that the appropriate remedy to Steadfast was based on equitable contribution, whereby it would be entitled to recover a share of defense costs from Greenwich.  The Court ruled, as a matter of first impression, that the contribution for defense costs should be pro rated based on policy limits.  Since the Greenwich policy had a $20 million limit of liability and the Steadfast policy had a $30 million limit of liability, the Court concluded that Steadfast was entitled to recover three-fifths of the defense costs it had paid.

Insurer Cannot Sue Law Firm It Hired to Defend Its Insured for Legal Malpractice

By Bradley Guldalian

In Arch Ins. Co. v. Kubicki Draper, LLP., 44 Fla. L. Weekly D269a (Fla. 4th DCA Jan. 23, 2019), the insurer hired a law firm to defend its insured. During litigation, the law firm failed to file a defense which resulted in the insurer paying a large settlement. Once the underlying litigation ended, the insurer filed a legal malpractice action against the law firm alleging its negligence caused the insurer to pay a settlement it should never have had to pay.  The law firm filed a Motion for Summary Judgment alleging the insurer lacked standing to sue the law firm because Florida law limited an attorney’s liability for legal malpractice to clients with whom the attorney shares privity of contract and the insurer and the law firm were not in privity of contract with one another.  The trial court granted the law firm’s motion and, on appeal, the Fourth District Court of Appeal affirmed.  In so holding, the court found nothing in the record to indicate the insurer was in privity of contract with the insured.  Rather, all evidence revealed the attorney was only in privity of contract with the insured.  Although the insurer alleged that it paid the law firm’s fees, was an intended third-party beneficiary of the relationship between the attorney and the insured, and that privity of contract with the attorney was unnecessary, the court rejected that argument holding none of the recognized exceptions to the strict privity requirement in Florida applied. 

Massachusetts Federal Court Holds No Coverage for Mold and Water Damage Claim

By Brian Margolies

In its recent decision in Clarendon National Ins. Co. v. Philadelphia Indemnity Ins. Co., 2019 WL 134614 (D. Mass. Jan. 8, 2019), the United States District Court for the District of Massachusetts had occasion to consider the application of a prior knowledge provision in the context of a claim for mold and water-related bodily injury and property damage.

Philadelphia insured a condominium property management company under a general liability insurance policy for the period September 1, 2007 through September 1, 2008.  In 2009, the insured was sued by a unit owner alleging bodily injury and property damage resulting from toxic mold conditions resulting from leaks that had been identified in her unit as early as 2004.  Notably, the complaint alleged that mold was identified in 2006 and that repair efforts were undertaken, but that these efforts all proved unsuccessful. Plaintiff alleged that she was forced to vacate her apartment in 2008 as a result of the conditions.

Philadelphia denied coverage to its insured for the underlying suit on several grounds, including a mold exclusion in its policy.  An argument was raised, however, as to coverage for property damage resulting solely from water intrusion, which was not subject to the exclusion.  Philadelphia argued that any such water-related damage was precluded from coverage on the basis of a provision in its policy’s insuring agreement stating that no coverage would be available for any property damage known to exist by the insured prior to the policy’s inception date and that “any continuation, change, or resulting of such … ‘property damage’ … will be deemed to have been known to have occurred at the earliest time when an insured … becomes aware” of such occurrence.

Looking to the allegations in the complaint – that water damage had been identified as early as 2004 – the court agreed that the damage was known by the insured prior to the inception of the Philadelphia policy.  In so concluding, the court rejected the counterargument that the complaint suggested the possibility of new property damage during the policy period given that the insured had undertaken repair efforts after the initial damage was originally identified.  As the court explained, “attempts to remediate the damage, even temporarily successful ones, do not transform the later continuation or recurrence of that very damage into new instances of property damage that would potentially be covered.” 

Nevada Supreme Court Holds Insurer Can Be Liable In Excess of Policy Limits for Breaching Defense

By Brian Margolies

In its recent decision in Century Surety Co. v. Andrew, 2018 WL 6609591 (Nev. Dec. 13, 2018), the Nevada Supreme Court had occasion to consider the damages available to an insured resulting from an insurer’s breach of its defense obligation.

Century insured Blue Streak under a commercial auto policy and was determined to have breached a duty to defend its insured in an underlying personal injury lawsuit arising out of an auto accident.  The lower court concluded that Century improperly relied on extrinsic facts in determining its defense obligation, and that as such, the disclaimer was improper.  The Nevada federal district court nevertheless concluded that while Century breached its defense obligation, its conduct was not in bad faith and that as such, Century’s payment obligation in connection with the resulting judgment was limited to its policy’s limit of liability.

On appeal, however, the question was raised as to whether Century could be liable for consequential damages in excess of its policy’s limit of liability as a “reasonably foreseeable result” of its breach of the duty to defend. This question ultimately was certified to the Nevada Supreme Court.  In considering this question, the Court observed that the majority rule, by far, is that an insurer’s damages for breaching the duty to defend are limited to reimbursement of defense costs and for payment of a resulting judgment or settlement up to policy limits, and only for covered damages, absent some finding of bad faith misconduct. 

The Nevada Supreme Court, however, found the majority rule to lack sufficient protections for insureds.  Citing to commentary in the ALI’s Restatement of Liability Insurance, the Court observed that the minority rule is fairer to insureds since it offers an insured the better opportunity for being made whole as a consequence of the breach of the duty to defend rather than placing “an artificial limit to the insurer’s liability within the policy limits for a breach of its duty to defend.” 

Thus, the Court adopted the rule that when an insurer breaches the duty to defend, it can be held liable for a resulting judgment in excess of its policy limits, irrespective of whether the insurer acted in bad faith.  The Court did, however, place a limit on this outcome by stating that the insured still has the burden of showing that the excess judgment was a consequence of the insurer’s breach and that the insured took all reasonable measures “to protect himself and mitigate his damages.”