In Peacock Hospitality, Inc. v. Association Casualty Ins. Co., — S.W.3d —, 2013 WL 6188597 (Tex. App-San Antonio Nov. 13, 2013), a Texas appellate court overturned a summary judgment ruling in favor of an insurer, Association Casualty Insurance Company, on the grounds that an insured may retain its rights under a property insurance policy for losses predating foreclosure, and an insurer does not have the right to enforce a covenant in an insured’s deed of trust divesting the insured’s rights under the policy to its mortgagee.
Association Casualty’s insured, Peacock Hospitality, Inc. (“Peacock”), sued for the alleged underpayment of a claim for water damage under its property insurance policy. However, subsequent to the loss and the payment of the insurance claim, Peacock’s mortgagee had foreclosed on the subject property. Association Casualty argued that, as a result of the foreclosure, Peacock did not have a cause of action under the policy and, pursuant to its deed of trust with the mortgagee, Peacock divested any rights it may have had under the policy upon foreclosure.
The appellate court ruled that an insured may retain certain rights under its insurance policy in the event a foreclosure occurs after a covered loss. A loss-payable clause in the policy provided that Association Casualty would pay the mortgagee for covered losses even if the mortgagee had initiated foreclosure proceedings on the insured building. The court noted that loss-payable clauses in insurance policies protect mortgagees’ security interests, but only to the extent of the insured’s indebtedness under the deed of trust. Thus, the court reasoned, when the proceeds of a foreclosure and the covered losses from a pre-foreclosure loss fully satisfy a mortgage debt, the mortgagee no longer has a right to further insurance proceeds for the pre-foreclosure loss. In that event, the insured is entitled to the remaining insurance proceeds and may bring an action against the insurer for underpayment, because any excess value in the property at the time of the loss is the property of the insured. Because the court could not ascertain the extent to which the proceeds of the foreclosure and the covered losses for the pre-foreclosure loss satisfied Peacock’s debt, it found that a genuine issue of material fact existed regarding whether Peacock had a cause of action under the policy.
The court further noted that, although the insured had divested its rights under the policy to the mortgagee upon foreclosure, because the insurer was neither a party to nor a third-party beneficiary of the deed of trust, it was not entitled to rely on the covenants in that contract to defend against Peacock’s claims.