Can something short of the filing of a complaint trigger an insurer’s duty to defend? It’s not an idle question. Uncertainty on this issue could produce an unintended breach, and, in some jurisdictions, breach of the duty to defend can result in a waiver of otherwise valid defenses to coverage.
In Sanders v. The Phoenix Ins. Co., No. 15-2539 (1st Cir. Dec. 7, 2015), the U.S. Court of Appeals for the First Circuit recently took a hard line, predicting that Massachusetts courts would recognize a pre-suit duty to defend only in exceptional circumstances. But Sanders presents something of an anomaly: the duty to defend was not an important element of the plaintiff’s case, and the court appears to have seized on it primarily as a convenient way to dispose of a dubious coverage claim. The real lesson of Sanders, therefore, is that insurers should take care to ensure that their policy language about defending claims accurately reflects their intentions.
Dear John Doe
The plaintiff in Sanders was the executor of his late wife’s estate. He alleged that his wife had suffered from severe depression and anxiety, and had once attempted suicide. In 2011, after 16 years of marriage, she hired an attorney to represent her in divorce proceedings. Mr. Sanders’s suit identified the lawyer only as “John Doe.”
“With full knowledge” of his client’s history and disabilities (he was also a licensed social worker), the attorney allegedly “seduced her and began a sexual relationship with her.” Mr. Sanders claimed this relationship “exacerbated” his wife’s psychological condition “through a series of break-ups and reunions,” which caused her “severe emotional distress.” In October 2011, after Doe broke a date with her, Mr. Sanders’s wife “drank herself to death.” The complaint alleged that “Doe’s conduct was … the precipitating cause” of the apparent suicide.
A year later, Mr. Sanders—acting as executor of his wife’s estate—sent Mr. Doe a demand letter under the Massachusetts Consumer Protection Law, Mass. Gen. Laws ch. 93A. Section 2 of that law prohibits “unfair or deceptive acts or practices in the conduct of any trade.” Under Section 9, a claimant who intends to file a suit under the law must first deliver a written demand for relief. A bad faith rejection of the demand exposes the recipient to double or treble damages in any subsequent litigation.
Coverage Begins At Home
According to Mr. Sanders, Mr. Doe’s “[s]exual liaisons took place in part at hotels and also at Doe’s home.” That home happened to be insured under a policy that provided $500,000 in liability coverage, and Mr. Doe gave his homeowner’s insurer notice of the demand letter. There ensued a spirited debate over the meaning of several policy terms—none of which had to do with the duty to defend.
The insurer denied coverage, on two grounds. First, it contended that there had not been an “occurrence” within the meaning of the policy’s insuring clause—because the policy defined “occurrence” as “an accident,” and the death in question was not accidental. Second it asserted that the claim fell within the policy’s professional services exclusion, which barred coverage for claims “arising out of the rendering or failing to render professional services.”
A year later, Mr. Sanders served a second demand under the Consumer Protection Law—but this time, it was served directly on John Doe’s insurer. The letter asserted that Mr. Doe—having “interjected” himself as the “protector” of Mr. Sanders’s wife—owed a duty to exercise reasonable care to ensure she did not hurt or kill herself. It contended that the estate’s claim arose out of an “occurrence,” within the meaning of Doe’s policy, because it arose out of Doe’s negligent failure to exercise such care. It also asserted that the professional services exclusion did not apply, because “sexual relations are not part of the provision of legal services.”
Half A Loaf
Separately, Messrs. Sanders and Doe both advised the homeowner’s insurer that they had agreed to participate in a mediation. Notwithstanding Mr. Sanders’s view about the scope of “legal services,” both Mr. Doe’s former law firm and the issuers of the firm’s professional liability policy had also agreed to participate. The homeowner’s insurer declined to attend.
Several months later, the mediation produced a settlement. The professional liability insurers agreed to pay $500,000 in consideration of a release of all claims against the law firm. Mr. Doe settled the claim against him for an additional $500,000, but on a non-recourse basis: he assigned to Mr. Sanders all his rights against his homeowner’s insurer, and Mr. Sanders agreed not to collect the judgment from any other source.
In August 2014, Mr. Sanders sent the insurer another demand letter under the Consumer Protection Law. When the insurer refused the demand, he filed an action in a Massachusetts state court. The insurer removed the case to federal court, asserting diversity jurisdiction.
Be Careful What You Plead For
Mr. Sanders’s complaint against the insurer asserted multiple claims, including breach of contract, negligence and violation of the Consumer Protection Law. In support of those claims, the complaint documented Messrs. Sanders’s and Doe’s “efforts to obtain coverage under the Policy.” But it also alleged, repeatedly and formulaically, that the insurer had breached its duties to Doe by
failing to defend and indemnify Doe despite the fact that liability was reasonably clear and the claims … were … covered under the Policy.
The complaint did not specify when the alleged failure to defend had occurred; it was only later that Mr. Sanders would contend that the duty to defend had been triggered by his original demand letter to Mr. Doe. It is also not clear what additional relief, if any, Mr. Sanders was seeking for the alleged breach of the duty to defend, since the complaint did not allege that Doe had incurred any defense costs.
Deliberately or not, the allegation added a new dimension to the case. When the insurer moved to dismiss, it did so on several grounds, the first of which was that it “had no duty to defend Doe, because there is no allegation that a lawsuit was ever filed.”
The motion also asserted defenses to the claims for indemnification: it contended that the policy did not cover settlements to which the insurer had not agreed; that the underlying claim fell within the policy’s professional services exclusion; and that Doe could not be liable, in his non-professional capacity, for what the insurer described as “negligent dating.”
The Duty To Defend
The duty to defend was governed by the policy’s Section II(E), which provided:
If a claim is made or a suit is brought against any insured for damages because of bodily injury …, even if the claim or suit is false, we will:
Pay up to our limit of liability for the damages for which the insured is legally liable …; and
Provide a defense at our expense by counsel of our choice, even if the suit is groundless, false or fraudulent. We may investigate and settle any claim or suit that we decide is appropriate.
According to the insurer, the meaning of this language depends on the omission of the word “claim” from the phrase, “even if the suit is groundless.” On that reading, the phrase limits the language that comes before it (“we will … [p]rovide a defense”) to situations in which a suit has been filed. In response, Mr. Sanders focused on the language preceding the final phrase: “If a claim is made or a suit is brought … we will … [p]rovide a defense … .” He argued that the “plain meaning” of that sentence was that a duty to defend could arise “from a claim alone.”
The district court found for the insurer, but its decision was based on what is arguably a grammatical error. That is, the court treated subpart “b” of Section II(E) as a complete sentence, the meaning of which was not affected by the language preceding it:
The sentence dealing with provision of a defense refers only to suits, not claims. … The Policy does not state that Defendants will provide counsel if a claim is made, or that it must settle claims that are made.
Even worse for Mr. Sanders, the court went on to find that it could dispose of the rest of the case on the basis of its ruling on the duty to defend:
The duty to indemnify is narrower in scope than the duty to defend. ‘Thus, [if] an insurer has no duty to defend …, it necessarily follows that the insurer does not have a duty to indemnify.’ …
Because … the Defendant had no duty to defend or indemnify Doe, there was no duty to settle any claims against him.
The court granted the insurer’s motion to dismiss, and Mr. Sanders appealed.
In The Court of Appeals
The First Circuit opened its analysis of this dispute by asserting:
The precise scope of an insurer’s duty to defend is defined by the insurance policy itself, to which we apply familiar rules of contract interpretation.
That certainly has been the approach taken in other cases. E.g., Post v. St. Paul Travelers Ins. Co., 691 F.3d 500 (3rd Cir. 2012) (where policy stated insurer would “have the … duty to defend any protected person against a claim or suit,” duty attached before suit, when the policyholder received a letter accusing him of legal malpractice); Mahan v. American Standard Ins. Co., 862 N.E.2d 669 (Ind. Ct. App. 2007) (no duty to defend, where policy required insurer to “defend any suit or settle any claim for damages,” and no suit had been filed).
In the course of affirming the district court’s decision, however, the First Circuit did not engage in exegesis of the language of Section II(E). In particular, it did not attempt to show that Mr. Sanders’s interpretation (based on the words, “If a claim is made or a suit is brought … we will … [p]rovide a defense …”) was so unreasonable that it could not even support an argument based on ambiguity. Instead, the court briefly rejected the plaintiff’s argument that language in other parts of the policy demonstrated a duty to defend both “suits” and “claims.” The opinion then quickly moved on to the much narrower question of whether Mr. Sanders’s original demand under the Massachusetts Consumer Protection Law might qualify as a “suit” under Mr. Doe’s policy.
That issue arose, because the court was bound to apply Massachusetts law, and, in that state, there are some circumstances in which notice of a claim can be the “functional equivalent of a suit.” In Hazen Paper Co. v. United States Fidelity & Guar. Co., 555 N.E.2d 576 (Mass. 1990), an insurer had promised only “to defend any suit against the insured,” and the policyholder, without being sued, received a letter from the federal Environmental Protection Agency, providing notice that it was a “Potentially Responsible Party” (“PRP”) under the Comprehensive Environmental Response, Compensation, and Liability Act, 42 U.S.C. §9601 et seq. (“CERCLA”). The Supreme Judicial Court of Massachusetts ruled that the CERCLA notice was close enough to the complaint in a “suit” to trigger the insurer’s duty to defend, because failure to respond to the letter would permit the EPA to conduct an administrative action unilaterally, and any review of the outcome would be limited to the record of that action. In other words, the policyholder had “no practical choice other than to respond actively to the letter.”
In Sanders, the court distinguished Hazen Paper, on the ground that a demand under the Massachusetts Consumer Protection Law resembles a “conventional demand letter based on a personal injury claim” more closely than it does a PRP notice under CERCLA. (Because the opinion in Sanders was written by Judge Selya, who is equally committed to clarifying the law and to helping attorneys pass the verbal SATs, the decision stated that a “Chapter 93A demand letter is simply not a fair congener to the CERCLA letter.”) The court explained:
Doe’s underlying liability could not have been affected by the Chapter 93A letter — and his potential exposure to multiple damages … would only come to fruition if a court established that underlying liability.
Tell Us What You Really Think
The court didn’t stop there, and the balance of its analysis more clearly expressed the court’s impatience with the underlying coverage claim—which it described as “a series of imaginative questions regarding the coverage available under a standard form homeowner’s insurance policy.” Further distinguishing Hazen Paper, it cited allegations in the coverage suit, to the effect that Doe’s liability arose out of his personal conduct—an assertion that was necessary to avoid the professional services exclusion in the homeowner’s policy. But Mr. Sanders’s first letter to Mr. Doe—the letter that allegedly triggered the insurer’s duty to defend him—was delivered under the Consumer Protection Law, which deals with “unfair or deceptive acts or practices in the conduct of any trade.” Thus, the complaint against the insurer actually undercut any assertion that Mr. Doe would have paid double or treble damages for failing to respond to the demand letter he received.
Moreover, as in the district court, these conclusions about the duty to defend were also deemed fatal to the plaintiff’s “gallimaufry of other theories of liability.” Where there is no duty to defend, the Court of Appeals explained, it is “pellucid” that there is no duty to indemnify. Because all but one of Mr. Sanders’s common law claims were based on the insurer’s failure to defend or indemnify, the Court of Appeals found that all of those claims had been correctly dismissed. The remaining claim, alleging bad faith failure to settle, was also found to be unavailing, because an insurer “has no duty to settle absent a duty either to defend or to indemnify.”
A Perfect Storm
In Sanders, the court vigorously rejected the suggestion that the plaintiff’s demand letter might constitute a “suit,” but it had little or no response to the much simpler contention that the language of the policy imposed a duty in connection with a “claim.” Thus, notwithstanding the court’s discussion of “the general rule that there is no duty to defend before the filing of a suit,” and the narrowness of what it called the “Hazen Papers exception” to that rule, it is by no means clear that the case would have turned out as it did, if the plaintiff had had a stronger case for coverage.
Furthermore, it is possible that the scope of Hazen Papers would never have come up at all, had Mr. Sanders drafted his complaint more carefully and avoided the issue of the duty to defend.
Thus, while Sanders creates a strong precedent, it should also stand as a warning. Unless the insurer expects to have a good reason to participate in claims before they mature into litigation, policy language should unambiguously provide that the duty to defend begins with the filing of a suit.