In the last two months, courts in California have issued several decisions concerning the scope of an insurer’s duty to defend its insured in underlying litigation. These decisions address important matters involving the circumstances under which a duty to defend exists, the commencement of the duty, the obligation to provide independent Cumis counsel and the insurer’s right to reimbursement of amounts paid.
Liability insurance policies impose on the insurer a duty to indemnify its policyholder against covered claims brought by third parties, by settling the claim or paying the judgment entered against the insured. In addition, standard policies impose on the insurer a duty to defend third-party claims against the insured, by providing counsel and paying reasonable attorneys’ fees and costs, when a claim is potentially covered under the policy. When a third-party claim is made, the duty to defend is very important to the insured, which could otherwise be required to incur substantial costs to defend a lawsuit.
This article discusses several recent opinions in California that have considered this duty.
In San Miguel Community Assn. v. State Farm General Insurance Co., the court of appeals of California held that, under a standard liability policy, an insurer does not have a duty to defend its policyholder against a third-party lawsuit seeking injunctive relief but no compensatory damages. There, the underlying lawsuit involved a dispute regarding enforcement of parking restrictions within a residential community. The third-party plaintiffs brought a lawsuit against the insureds, seeking injunctive relief and punitive damages, but it was not until plaintiffs filed a second amended complaint that they sought for the first time an award of compensatory damages.
The court of appeals affirmed summary judgment for the insurer that it had no obligation to provide or pay for a defense until the plaintiffs asserted that claim, because under the policy, the duty to defend applies only to claims or suits “seeking damages payable under th[e] policy.” The court of appeal found it irrelevant that the third-party plaintiffs could have sought recovery of compensatory damages, and rejected the insureds’ argument that the plaintiffs’ request for punitive damages necessarily implied that an award of compensatory damages was also being sought. This case makes it clear that only claims explicitly seeking to recover damages from an insured will trigger the insurer’s duty to defend.
In another recent decision, American Safety Indemnity Co. v. Admiral Insurance Co., the court of appeals held that an insurer’s obligation to provide a defense is not conditioned on the insured’s payment of the policy’s self-insured retention (“SIR”), absent clear language to that effect in the insurance contract.
The insurer in that case took the position that it was not required to defend until the policyholder had paid the $250,000 SIR in defense costs for the underlying subsidence litigation. The court of appeals rejected this argument, because the SIR clause made the insured liable for the first $250,000 in damages payable to a third-party claimant, but did not expressly make payment of the SIR a condition of the insurer’s duty to defend. The court of appeals distinguished primary insurance policies from excess policies, in which the carrier generally has no duty to defend until the underlying primary coverage is exhausted. The court, thus, held that the insurer was required to provide a defense as soon as the claim was tendered — an important issue for policyholders facing costly litigation.
In Swanson v. State Farm General Insurance Co., the court of appeals addressed an issue of first impression concerning an insurer’s duty to provide Cumis counsel. By way of background, when a policyholder gives notice of a third-party claim, the insurer may agree to defend the suit subject to a reservation of rights. This allows the insurer to meet its obligation to furnish a defense without waiving its right to assert coverage defenses against the insured at a later time. Generally, an attorney selected by the insurer to defend a policyholder provides dual representation to the insured and the insurer. However, if the insurer’s reservation of rights creates a conflict of interest between the insurer and its insured, the insured has the right to independent counsel, often referred to as Cumis counsel pursuant to a 1984 case establishing this rule. A conflict of interest sufficient to require independent counsel will arise only when the basis for the reservation of rights will cause the insurer to assert factual or legal theories concerning the coverage which undermine or are contrary to the positions asserted on behalf of the insured in the defense of a third-party claim.
In Swanson, the insurer agreed to defend an underlying tort claim subject to a reservation of its rights, and approved independent counsel selected by the insured to represent her. The insurer subsequently withdrew all reservations of rights and coverage defenses that gave rise to the insured’s right to Cumis counsel, and retained an attorney to take over the defense of the third-party action. The insured then brought suit, to recover the attorneys’ fees incurred by Cumis counsel after the insurer withdrew its reservation of rights.
The court of appeals affirmed summary judgment in favor of the insurer. The court held that the conflict of interest giving rise to the insurer’s duty to provide and pay for Cumis counsel ceased to exist when the carrier withdrew its reservation of rights. At that point, the insurer had the right to take control of the litigation with an attorney of its choosing and to stop paying for the insured’s Cumis counsel. The court further held that an insurer does not waive its right to retake control of the defense by failing to expressly reserve that right.
In the final case addressed here, Great American Insurance Co. v. Chang, the federal district court in San Francisco held that an insurer was entitled to reimbursement of the amounts expended to defend the insured, where there was no coverage for the underlying third-party claims.
The case involved an insurance coverage dispute arising from claims against the insured concerning the contamination of a property he owned. The insurer agreed to defend the claims, subject to a complete reservation of rights. In a prior order, the court had found that the insurer had no duty to defend or indemnify the insured as to the claims asserted against him. The court, thus, held that the insurer was entitled to reimbursement from the policyholder of the total amount of the defense costs the insurer advanced in connection with the claims.
Rejecting the arguments raised by the insured, the court concluded that an insurer has a right to seek reimbursement as to noncovered claims regardless of whether the insurance policy expressly provides for reimbursement, and that the insurer does not have to seek reimbursement from coinsurers first. The court also appeared inclined to award the insurer prejudgment interest on the amounts it paid, but required the insurer to specify exactly when those funds were advanced.
These four recent decisions concerning an insurer’s duty to defend under California law answer some important questions, and provide practical guidance to practitioners in this area.
The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
 163 Cal.Rptr.3d 358 (2013).
 220 Cal.App.4th 1 (2013).
 219 Cal.App.4th 1153 (2013).
 No. 12-0833-SC, 2013 WL 5949619 (N.D. Cal. Nov. 6, 2013).