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Vol. 7, Iss. 3
Aprill 11, 2018


NJ MUST READ – No Surrender If Insurer Violates Merchants V. Eggleston

Those who handle coverage cases in New Jersey have long-known that, if an insurer retains counsel, and defends its insured under a reservation of rights, the insured must consent to such an arrangement. This rule dates back to the New Jersey Supreme Court’s landmark 1962 decision in Merchants Insurance Co. v. Eggleston.

New Jersey courts have imposed a simple sanction on insurers that fail to obtain their insured’s consent to being defended under a reservation of rights – loss of the insurer’s ability to assert an otherwise applicable defense to coverage.

Despite its significance, the consent issue in Eggleston has not generated many decisions in the past 50-plus years. This dearth has left open to discussion whether an insurer that defends its insured, under a reservation of rights, but without obtaining its insured’s consent, has automatically lost its coverage defenses -- or must the insured have been prejudiced by the lack of consent.

The New Jersey Appellate Division’s 2009 unpublished decision in Nazario v. Lobster House concluded that loss of coverage defenses was automatic, with prejudice suffered by the insured not being a consideration. The court was clear: “We find nothing in Eggleston or its progeny which suggests that the insured must prove actual prejudice to create coverage, or that the carrier may prove lack of prejudice to avoid coverage by estoppel, when a fully informed written consent is lacking. The control of the litigation without proper consent equates to creating the coverage without qualification under Eggleston.”

Notwithstanding Lobster House (and the Appellate Division’s 1967 decision in Sneed v. Concord Insurance Co.), the New Jersey Appellate Division just held, in a published opinion, that an insurer that defends its insured, under a reservation of rights, but without obtaining consent, is not automatically in boiling water.

Admittedly, while Northfield Insurance Company v. Ht. Hawley Insurance Company, No. A-1771-16T4 (N.J. Super. Ct. App. Div. Mar. 28, 2018) involves a unique scenario that played into the decision, the opinion still concludes that an insurer’s failure to follow Eggleston does not automatically lead to an insurer’s loss of coverage defenses.

The Empress Hotel, located near the ocean in Asbury Park, sustained roof damage during Superstorm Sandy. This caused water damage to the hotel’s interior. Prior to the storm, CDA Roofing Consultants had performed roof installation work on the hotel. Empress and its insurer, Mt. Hawley Insurance Co., filed suit against CDA and its subcontractor, alleging that CDA’s negligence enabled the damage to the roof to take place.

CDA’s liability insurer was Northfield. The insurer advised CDA that, for a host of reasons, it was disclaiming coverage for the Empress suit. However, Northfield stated that it was “willing” to provide CDA with a “courtesy defense,” subject to a reservation of rights. Northfield later commenced a suit against CDA, seeking a declaration that it had no duty to defend or indemnify CDA in the Empress suit.

Putting aside some procedural issues, Mt. Hawley and Empress argued, in the Northfield coverage action, that Northfield should be estopped from denying coverage for the claim against CDA, in Empress action, because Northfield violated Merchants v. Eggleston by failing to properly seek CDA’s consent to its control of the defense. The trial court agreed with Mt. Hawley and granted its motion for summary judgment.

The issue made its way to the New Jersey Appellate Division, which reversed the grant of summary judgment in favor of Mt. Hawley.

First the court addressed whether Northfield had complied with Eggleston by stating that it was “willing to provide” a courtesy defense. The court concluded that, at least for summary judgment purposes, it was possible that “CDA’s failure to decline that ostensible favor justifies a finding that CDA acquiesced in Northfield’s control of the defense of the underlying action. . . . [T]he statement that a ‘courtesy defense’ would be provided might plausibly be interpreted as an offer of a defense, and not as the insurer’s insistence on controlling the defense. And, if interpreted as an offer, CDA’s following silence could be interpreted as acquiescence in Northfield’s control of the defense; such a circumstance would not offend Eggleston or its progeny.”

This aspect of the opinion, involving a “willingness” to provide a “courtesy defense,” is unique. But it offers this take-away, as the court put it: rejection of “the argument that Eggleston permits avoidance of estoppel only if the insurer uses certain magic words in communicating with its insured.”

The more important aspect of the opinion is the court’s conclusion that, even if Northfield did not satisfy the Eggleston consent requirement, loss of its coverage defenses was not automatic. The court stated: “We reject Mt. Hawley’s argument and the motion judge’s determination that estoppel must always follow an insurer’s failure to fairly seek consent. Indeed, Eggleston hardly supports such a view because waiver instead of estoppel was found implicated there. Eggleston in no way suggests that estoppel immediately attaches when an insurer, while reserving its rights or declining coverage, assumes control of the defense without first obtaining the insured’s consent. On the other hand, we recognize that Sneed [v. Concord Ins. Co., N.J. App. Div. (1967)] would appear to have drawn such a conclusion; in fact, in Sneed, the panel held that ‘Eggleston adumbrates’ the conclusion that estoppel will automatically follow and ‘[p]rejudice to the insured will be assumed.’ We do not agree with that blanket statement.”

The court based its decision -- and recognizing that it was applying a summary judgment standard -- on two factors.

First, as a matter of law, estoppel precludes a party “from asserting rights which might perhaps have otherwise existed . . . as against another person, who has in good faith relied upon such conduct, and has been led thereby to change his position for the worse.”

Then, as matter of fact, looking at the reliance test, the court explained: “First, it has not been shown that CDA relied on what Northfield wrote and changed its position to its detriment. The factual record suggests that CDA was defunct when Northfield declined coverage and assumed CDA’s defense. Consequently, one might ask what CDA would have otherwise done if it had rejected Northfield’s ‘courtesy defense.’ It certainly did not appear to be prepared to defend itself; no doubt CDA would have defaulted if Northfield had not provided a defense, just as CDA defaulted in this declaratory judgment action. So, it is fair to conclude — at least for summary judgment purposes — that CDA did not adjust its conduct one way or another when advised by Northfield that it would provide a ‘courtesy defense.’ In short, the evidence is inconclusive if not lacking at this time as to whether CDA detrimentally relied.”

The court also concluded that there was no evidence to suggest that Northfield acted with an intention or expectation that its actions would be acted upon by the other party: “The ‘other party’ — CDA — wasn’t ‘acting’ at all; it was moribund if not completely defunct at the time. Whatever Northfield did or would do in defense of the underlying action was not likely to cause injury to CDA regardless of the outcome.”

Admittedly, that CDA was defunct made it easier for the court to conclude that CDA did not rely on Northfield’s actions and change its position to its detriment. Policyholders in future cases will no doubt raise that to distinguish their own Eggleston violation scenarios. Nonetheless, the decision is a significant one.

Complying with Eggleston is, of course, the best way for an insurer to proceed when retaining counsel and defending an insured under a reservation of rights. However, for insurers that fail to do so, an Asbury Park hotel teaches that it does not necessarily have to be no surrender.

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