Insurance Recovery Law - Aug 20, 2013

by Manatt, Phelps & Phillips, LLP

In This Issue:

Win Some, Learn From Another

The cases discussed in this week’s edition of the newsletter present some wins for policyholders as well as some lessons.

First, the California Supreme Court ruled that insureds may bring suit against insurers alleging unfair competition. In a clear win for policyholders, the Court ruled that unfair competition claims may be based on false advertising and poor claims handling practices, as long as they do not rely solely on California’s Unfair Insurance Practices Act or Insurance Code section 790.03 et seq. While the decision contains several caveats and its impact is as yet unknown, it is a favorable holding for policyholders.

Second, two policyholders named as additional insureds in a policy covering construction work in Illinois similarly fared well. Although the named insured failed to comply with the notice requirements of the policy, the court held the additional insureds should not shoulder the burden for the error, awarding coverage to the additional insureds for an employee’s personal injury suit.

In a third case, however, in a dispute seeking coverage for attorney’s fees, one insured was unsuccessful because the underlying case was a contract dispute – meaning no “wrongful act” was alleged against it under the policy. Therefore, the insurer was not obligated to provide coverage for the attorney’s fees awarded in connection with the underlying settlement.

Finally, a lawyer was entitled to coverage for a malpractice suit – despite the fact he had received a letter from the client three years prior calling his work “the laziest lawyering I have witnessed.” While the client was clearly not a fan of the attorney, he continued the representation, leading the court to conclude that the attorney-client relationship (dysfunctional as it was) did not put the lawyer on notice of a malpractice claim that he needed to inform his insurer about.

Insurers Can Be Liable for Unfair Competition in California

The California Supreme Court has declared that insurers can be liable for unfair competition suits if a policyholder can allege violations of other state statutes or common law.

The decision resolves a split among the state’s appellate courts, which struggled to deal with a 1988 decision from the state’s highest court holding that a private cause of action for commission of the various unfair practices listed in the state’s Insurance Code was not created by the Unfair Insurance Practices Act (Moradi-Shalal v. Fireman’s Fund Ins. Companies, 46 Cal. 3d 287).

Clarifying its holding, the Court affirmed that a policyholder cannot simply bring a suit alleging a violation of the state’s unfair competition law (UCL) against an insurer. However, first-party UCL actions based on grounds independent of the UIPA – even where the insurer’s conduct also allegedly violated the insurance law – are allowed.

Plaintiffs may not use the UCL to “plead around” the UIPA, but that fact “does not immunize insurers from UCL liability for conduct that violates other laws in addition to the UIPA,” the court wrote.

The issue arose when Yanting Zhang sought coverage for fire damage to her commercial property from California Capital Insurance under a comprehensive general liability policy. When coverage was declined, Zhang filed suit alleging breach of contract, breach of the implied covenant of good faith and fair dealing, and violation of the UCL. In her UCL claim, Zhang claimed California Capital had “engaged in unfair, deceptive, untrue, and/or misleading advertising” by promising to provide timely coverage in the event of a compensable loss when it had no intention of paying the true value of its insureds’ covered claims.

A trial court initially dismissed the suit, relying on Moradi-Shalal, but was reversed on appeal.

Reviewing Moradi-Shalal and its progeny, the Court said the decision left intact administrative remedies as well as traditional common law theories of private recovery against insurers.

Noting the split among appellate courts when applying the decision, the Court clarified the law in the state. “The legislature did not intend the UIPA to operate as a shield against any civil liability,” the Court wrote. “The UIPA does not immunize insurers from UCL liability that violates other laws in addition to the UIPA.”

Fear of opening the floodgates to litigation against insurers was unfounded, the Court added, because the remedies provided by the UCL are limited to injunctive relief and restitution. In addition, the passage of Proposition 64 requires plaintiffs bringing a UCL action to show economic injury caused by unfair competition, further limiting potential plaintiffs.

Turning to Zhang’s case, the Court said her UCL claim was premised on allegations of false advertising. According to her complaint, California Capital misleadingly advertised that it would timely pay the true value of her covered claims, but the insurer’s treatment demonstrated it had no intent of honoring this promise. Alternatively, California Capital contended that Zhang’s UCL claim was really an allegation of improper claims handling, and the accompanying claims of unfair competition and false advertising were merely window dressing in an effort to plead around Moradi-Shalal.

“[B]ad faith insurance practices may qualify as any of the three statutory forms of unfair competition,” the Court said. “They are unlawful; the insurer’s obligation to act fairly and in good faith to meet its contractual responsibilities is imposed by the common law, as well as by statute. They are unfair to the insured; unfairness lies at the heart of a bad faith cause of action. They may also qualify as fraudulent business practices. Under the UCL, it is necessary only to show that the plaintiff was likely to be deceived, and suffered economic injury as a result of the deception.”

Zhang’s complaint met the standard, the Court said. “Moradi-Shalal imposed a formidable barrier, but not an insurmountable one.”

The Court also dismissed California Capital’s concerns about the next steps in the case. Noting that it was not troubled at the pleading stage about how Zhang might go about proving her claims, the Court did not credit the insurer’s arguments about potential relief in the suit (how would an injunction be formulated and enforced? the insurer wondered) as well as concerns about how “unmanageable” it would be to examine its claims handling practices in thousands of cases.

“When the legislature enacted the UIPA, it contemplated only administrative enforcement by the Insurance Commissioner,” the Court concluded. “Private UIPA actions are absolutely barred; a litigant may not rely on the proscriptions of [the unfair practices listed in the Insurance Code] as the basis for a UCL claim. However, when insurers engage in conduct that violates both the UIPA and obligations imposed by other statutes or the common law, a UCL sanction may lie. The legislature did not intend the UIPA to operate as a shield against any civil liability.”

To read the decision in Zhang v. Superior Court of San Bernardino County, click here.

Why it matters: The Court has made clear that Moradi-Shalal does not bar first-party UCL claims based on claims handling practices that also constitute violations of the UIPA, as long as they are not exclusively based upon UIPA violations. Thus, the Zhang decision could have a substantial impact in California, allowing policyholders another option when litigating against an insurer. While the impact of the decision might be limited because damages on UCL claims are not allowed, the Zhang decision provides insureds with significant reasons to add a UCL cause of action to a breach of contract and bad faith case.

Additional Insureds Escape Preclusion Based On Named Insured’s Misconduct

Failure by the named insured to comply with the notice provisions of a policy does not preclude coverage for additional insureds, an Illinois appellate court has ruled in a construction dispute.

Cobra Concrete Cutting Service entered into an ongoing subcontract agreement with Robinette Demolition Company under which Cobra would perform concrete cutting services for Robinette. Pursuant to the agreement, Cobra promised to indemnify Robinette and obtain an insurance policy including an endorsement naming Robinette – and any other parties Robinette required – as additional insureds.

The policy issued to Cobra by Mt. Hawley Insurance Company required under section 2(a), notice “as soon as practicable” of an occurrence or an offense which may result in a claim. Under 2(b), when a claim is made or “suit” is brought against any insured, the policy required that the insured immediately record the specifics of the claim or “suit” and the date received, and notify Mt. Hawley as soon as practicable.

Another portion of the notice provision, section 2(c), required that an insured immediately send to Mt. Hawley copies of any demands, notices, summonses or legal papers received in connection with the claim or suit.

In February 2009, a Cobra employee was injured while working on a project and filed suit against Robinette and Valenti Construction, another subcontractor, in October 2010.

Robinette and Valenti tendered their defense and indemnification in the suit to Mt. Hawley in November 2010. The insurer denied the claim, arguing that it had not been notified of the employee’s accident until almost two years had passed, which violated the terms of the policy.

Adjudicating the coverage dispute, the Illinois Court of Appeals said it was undisputed that Cobra, the named insured, had breached the policy notice provision. Despite this error, the court reversed summary judgment in favor of Mt. Hawley.

“Only Cobra, as the named insured, was required to comply with sections 2(a) and (b) by providing notice of [the employee’s] accident and the suit to Mt. Hawley,” the panel wrote. Robinette and Valenti “complied with section 2(c) in that they immediately tendered their defense and indemnification request to Mt. Hawley,” less than two months after the employee’s suit was filed.

The court further added, “[w]hile Cobra and [Robinette and Valenti] are under the same policy for purposes of Cobra’s duty to notify Mt. Hawley of [the employee’s] accident, only Cobra, as the named insured, had the duty to provide notice of the occurrence.”

Looking to the intent of the parties gleaned from a review of the policy language, the court said it “does not evidence the parties’ intent to make the coverage for the additional insureds contingent on the named insured’s compliance with its duty to notify under the policy.” Because Robinette and Valenti “complied with their duty under the notice provision of the policy, they are entitled to coverage as additional insureds,” the court concluded.

Mt. Hawley also argued that Valenti was not an additional insured because the company was not referenced in the original agreement between Cobra and Robinette. However, noting that the agreement contemplated future projects, the panel read the document in conjunction with a work order sent by Robinette to Cobra requesting Valenti be added as an insured and the certificate of insurance obtained by Cobra naming Valenti as an additional insured.

“Construed together, the agreement, the work order and the certificate of insurance satisfied the policy requirement that there be a written contract requiring Cobra to name Valenti as an additional insured,” the court wrote. “Contrary to Mt. Hawley’s position and the circuit court’s determination, the policy’s written contract provision did not require that Valenti’s name appear in the agreement.”

To read the decision in Mt. Hawley Insurance Co. v. Robinette Demolition Inc., click here.

Why it matters: Additional insureds scored a victory from the Illinois appellate court, winning coverage despite the conceded failure by the named insured to comply with the policy notice requirements. The court said the only notice requirement relevant to the additional insureds in the policy was complied with when Robinette and Valenti tendered defense of the employee’s personal injury suit shortly after its filing. Because the policy did not explicitly require the additional insureds to comply with the other more stringent notice requirements, the court said the insurer could not avoid coverage based on the failure to comply by the named insured.

Insured Can’t Bootstrap Coverage for Attorney’s Fees Award Onto Contract Claim

Coverage for attorney’s fees could not be bootstrapped onto an underlying contract claim that was not covered by the policy, a U.S. District Court in California recently determined.

Ken Osmond – better known as Eddie Haskell of “Leave it to Beaver” fame – filed a class action against the Screen Actors Guild. He alleged that SAG had collected more than $8 million in “foreign levy funds” (monies due to actors from various foreign countries), and failed to distribute them to SAG members. Osmond claimed SAG had held the funds for an unreasonably long amount of time and asked for an accounting as well as damages, injunctive relief, and attorney’s fees.

SAG reached a settlement with the class, agreeing to pay 90 percent of the funds within a three-year period and to continue paying the foreign funds on a regular basis going forward. The deal was approved by a state court, with the judge adding $330,000 in counsel fees and an incentive payment to Osmond.

Under a D&O policy issued by Federal Insurance Company, SAG sought coverage for the $330,000 awarded to Osmond. The insurer refused to indemnify SAG, arguing that because the underlying complaint did not trigger coverage, payment of this award was similarly not required.

U.S. District Court Judge Dolly M. Gee sided with the insurer. Because the insured was paying an amount it previously had agreed to pay through a contractual obligation, the underlying settlement was not covered.

She cited to Health Net, Inc. v. RLI Ins. Co., 206 Cal. App. 4th 232 (2012), where the court held that “if the entire action alleges no covered wrongful act under the policy, coverage cannot be bootstrapped based solely on a claim for attorney’s fees.”

Under California law – even in the absence of an express exclusion – “a claim alleging breach of contract is not covered under a professional liability policy because there is no ‘wrongful act’ and no ‘loss’ since the insured is simply being required to pay an amount it agreed to pay,” she added. “This policy makes sense when considered in practical terms: if a contracting party fails to pay amounts due under a lawful contract and is sued for that failure to pay, it cannot then obtain a windfall by having its payments covered by an insurance policy covering only ‘wrongful acts.’”

SAG itself explained that it collected the foreign funds on behalf of its members but did not distribute the monies due to the lack of an automated system, Judge Gee noted. It also acknowledged that it “will continue to distribute funds to performers on whose behalf it collects foreign royalties.”

“SAG’s own coverage position and assertions lead to but one result, which is that, insofar as SAG is and was, prior to the Osmond action, obligated to account for and distribute the foreign levy funds to the plaintiff class, SAG fails to establish that the $330,000 award arises from a ‘covered’ claim under the policy,” Judge Gee said, concluding that Federal owed no duty to indemnify SAG for the amount.

To read the decision in Screen Actors Guild v. Federal Ins. Co., click here.

Why it matters: The SAG decision provides a valuable lesson for policyholders: a claim for coverage of damages under a professional liability policy needs to allege a wrongful act against the policyholder and cannot be based upon a breach of contract. The underlying complaint in SAG was not covered because the contract dispute was not a “wrongful act” as defined by the policy, the judge determined – leaving SAG on the hook for the cost of the class action settlement as well as the $330,000 in attorney’s fees.

Angry Client Letter Didn’t Trigger Notice Requirement Under Lawyer’s Malpractice Policy

An attorney applying for a claims-made malpractice policy “need not inform the prospective insurer about every client who has expressed dissatisfaction with the attorney’s services,” an Illinois appellate court decided, awarding coverage to the insured when a claim was later made against the attorney.

Arthur Gold received a 2004 letter from his client, William Messner, expressing great displeasure with his representation. Recapping Gold’s work to date, Messner wrote that he was “extremely angered by the way you have handled this case,” calling it “the laziest lawyering I have witnessed.”

Messner then laid out three options for the relationship going forward: appealing a trial court’s dismissal of his suit, keeping Gold as his lawyer; settling the case, again with Gold maintaining his representation; or “go[ing] to war against you, for full reimbursement of all fees.”

The client chose the first option and Gold continued to represent him in the appeal of his lawsuit. Later that same year, Gold purchased professional liability insurance from Illinois State Bar Association Mutual Insurance Company. He did not disclose the letter from Messner in his application.

Three years after Messner sent the letter (with an appellate court affirming dismissal of the lawsuit in the interim) he filed a malpractice suit against Gold. The lawyer tendered defense to ISBA Mutual, which filed suit seeking a declaration that it had no duty to defend or indemnify.

Because Gold failed to notify the insurer of the potential liability before he purchased the policy, as it required, ISBA Mutual argued it was off the hook.

The Illinois Court of Appeals disagreed.

“The letter Messner sent in 2004 informed Gold that Messner had considered ‘go[ing] to war’ against Gold, but the letter did not state a clear and unmistakable intent to bring a claim for professional malpractice,” the panel wrote. Messner continued to seek and use Gold’s professional services, both in the letter he sent in 2004 and thereafter, in negotiations and the appeal of his lawsuit.

“The entire course of the attorney-client relationship showed that the threat of a claim had apparently dissipated before Gold applied for the policy,” the court concluded. “We find that the policy did not require Gold to inform ISBA Mutual of every client who had expressed some dissatisfaction with Gold’s services.”

To read the decision in Illinois State Bar Association Mutual Ins. Co. v. Gold, click here.

Why it matters: Despite efforts by insurers to deny coverage based upon claims that insureds failed to notify them of potential liability during the application process, the court here recognized that insureds will not lose their coverage for a failure to disclose information about every client that has expressed dissatisfaction with services performed without more. Instead, a court will look at the entire course of the relationship to determine whether notice was required to the prospective insurer.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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