Insurers generally accept that they face potential exposure, above their limits of liability, if they fail to settle a claim within such limits, where the opportunity existed, and they did so it bad faith. In other words, a determination is made that, based on the potential for liability and damages, the insurer should have settled the claim within policy limits and eliminated the insured’s potential for personal liability. And, importantly, its failure to do so was unjustified, based on a certain state-specific standard, for analyzing its decision, being satisfied.
But what is generally not accepted by an insurer is that it faces exposure, above its limits of liability, for a decision not to settle, or any other action taken – even if ultimately determined to have been incorrect -- if such decision was not made in bad faith. In other words, courts frequently hold that an insurer, simply being wrong, has not acted in bad faith.
But not so in Century Insurance Company v. Andrew. The Supreme Court of Nevada held that the insurer breached its duty to defend – but did not do so in bad faith. Nonetheless, the court concluded that the insurer could, perhaps, be liable for a judgment that is $17,000,000 in excess of its policy limit. Given that the question whether an insurer has breached its duty to defend is one of the most common at issue in coverage litigation (it has no tie to any particular type of claim), the potential exposure the decision creates, that the issue has not been addressed by many courts and that the court adopted what it called the minority view, it was not difficult to put Andrew on the list of the year’s ten most significant liability coverage decisions. And for good measure -- the decision is the most significant one to date involving the new Insurance Restatement.
The case grew out of a motor vehicle accident. Michael Vasquez used his truck for personal use and for his mobile auto detailing business, Blue Streak Auto Detailing, LLC. Vasquez struck Ryan Pretner, causing significant brain injuries. Blue Streak was insured under a commercial liability policy issued by Century Surety Company. The policy had a limit of $1 million.
Century Surety conducted an investigation and concluded that, at the time of the accident, Vasquez was not driving in the course and scope of his employment with Blue Streak. On that basis, Century rejected a demand to settle the claim within the policy limit. Pretner filed suit, alleging that Vasquez was in fact driving in the course and scope of his employment. Century refused to defend Blue Streak. Vasquez and Blue Streak defaulted. Century, made aware of the default, maintained that the claim was not covered.
Vasquez and Blue Streak entered into an agreement with Pretner not to execute on any judgment against them. Blue Streak assigned its rights against Century to Pretner. The court entered a default judgment against Vasquez and Blue Streak for $18,050,183. The court’s findings of fact stated that “Vasquez negligently injured Pretner, that Vasquez was working in the course and scope of his employment with Blue Streak at the time, and that consequently Blue Streak was also liable.”
Pretner, as an assignee of Blue Streak, filed suit against Century in state court, for breach of contract, breach of the implied covenant of good faith and fair dealing and unfair claims practices. The bad faith suit was removed to federal court.
The federal court concluded that Century breached its duty to defend Blue Steak, but such breach was not in bad faith. The court then went back and forth on whether Century’s liability was capped at its $1,000,000 limit plus the defense costs incurred by Blue Streak (of which there were none). The court concluded that bad faith was not a requirement to hold Century liable in excess of the policy limit. However, the court stayed its decision, as that question was certified to Supreme Court of Nevada.
The Nevada high court concluded that, even in the absence of bad faith, an insurer may be liable for a judgment that exceeds the policy limits –“if the judgment is consequential to the insurer’s breach.” In coming to this conclusion, the court observed that it was adopting the minority view, with the majority rule being that an insurer’s liability, for a non-faith breach of the duty to defend, is capped at its policy limit plus the insured’s defense costs.
The court’s rationale, for adopting the minority rule, was that “[u]nlike the minority view, the majority view places an artificial limit to the insurer’s liability within the policy limits for a breach of its duty to defend. That limit is based on the insurer’s duty to indemnify but a duty to defend limited to and coextensive with the duty to indemnify would be essentially meaningless; insureds pay a premium for what is partly litigation insurance designed to protect . . . the insured from the expense of defending suits brought against him.”
In adopting the minority rule, the court cited to section 48 of the ALI’s Restatement of the Law of Liability Insurance – Damages for Breach of a Liability Policy -- which provides, in part: “The damages that an insured may recover for breach of a liability insurance policy include … (4) Any other loss, including incidental or consequential loss, caused by the breach, provided that the loss was foreseeable by the insurer at the time of contracting as a probable result of the breach, which sums are not subject to any limit of the policy.”
While the court’s decision was hardly driven by the Restatement, it played some part. Even if minor, given the potential impact of Andrew, it is fair to say that the decision represents the most significant one to date involving the Restatement.
Despite reaching this decision, the Andrew court was quick to point out that the insurer’s excess liability was not automatic: “However, we are not saying that an entire judgment is automatically a consequence of an insurer’s breach of its duty to defend; rather, the insured is tasked with showing that the breach caused the excess judgment and is obligated to take all reasonable means to protect himself and mitigate his damages.”
The court’s opinion suggests that an insurer will be more likely to be saddled with an excess judgment when its insured is faced with defending a lawsuit, on its own, but cannot afford a lawyer. Here, any default judgment, and consequent settlement over the limits, would be more likely to have been caused by the breach of the duty to defend. As the court further explained, compare this to an insured that can afford to mount a defense -- and it is as good as one that the insurer would have provided. In such case, the entire judgment would not be consequential to the insurer’s breach of the duty to defend. Thus, the insurer’s liability should be capped at the policy limit.
The take-aways from Andrew are two-fold. Even if it’s the minority rule, the amount of case law nationally, addressing this issue, is not abundant. Thus, Andrew could have a bigger impact than if it were just one more case out of many on the issue. The decision’s impact will certainly be felt in the frequent situation of auto policies with low limits. A person purchasing a $15,000 auto policy would seemingly not be able to afford to mount a defense in its own. Thus, it would have the argument that the insurer’s breach of the duty to defend was the cause of the excess judgment. But Andrew could also be relevant in the context of liability claims under homeowner’s policies and general liability policies – even with high limits. Whether the insured could have defended itself is not necessarily tied to the insured’s ability to afford an insurance policy, even one more than bare bones.
The Andrew court’s test, for establishing an insurer’s excess liability, is quite fact specific and it is easy to imagine litigation over proof of satisfaction of the insured’s “task:” “showing that the breach caused the excess judgment and [that it satisfied its] obligat[ion] to take all reasonable means to protect himself and mitigate his damages.”
