- Insurance coverage
Partner - London. United Kingdom
As our colleagues Heather Simpson and Joshua Wirtshafter recently discussed in their article, in American West Home Insurance Co. v. Gjonaj Realty & Management Co., 2018-03435, 2020 WL 7767944 (N.Y. App. Div. 2d Dep’t Dec. 30, 2020), the New York Appellate Division, Second Department held that, absent express policy language, an insurer is not entitled to recoup defense costs despite a determination that the insurer had no obligation to defend or indemnify the insureds. The insurer reserved its rights to seek reimbursement of the defense costs it paid, but the court found that because the policy did not contain language allowing for recoupment, permitting the insurer to do so would essentially create a contractual right not provided for in the policy.
Courts in other jurisdictions, including Pennsylvania, have similarly declined to allow insurers to recover defense costs in the absence of express policy language permitting reimbursement. In American and Foreign Insurance Company. v. Jerry’s Sport Center Inc., 2 A.3d 526 (Pa. 2010), the insurance policy at issue did not contain a provision allowing for reimbursement of defense costs. Rather, the insurer sought defense costs based on its reservation of rights letter. The court concluded that permitting reimbursement of defense costs “absent an insurance policy provision authorizing the right in the first place” was equivalent to permitting the insurer to unilaterally amend the policy. The United States District Court for the Middle District of North Carolina, applying North Carolina law, reached a similar conclusion as a matter of first impression in Hanover Ins. Co. v. Blue Ridge Prop. Mgmt., LLC, 1:18cv1018, 2020 WL 5764369 (M.D.N.C. Sept. 28, 2020).
Texas courts have also determined that insurers do not have a right to reimbursement of defense costs, although they do look to the contents of the reservation of rights letter as part of the inquiry. In Matagorda County v. Texas Ass’n of Counties County Gov. Risk Mgmt. Pool, 975 S.W.2d 782 (Tex.App.–Corpus Christi 1998) aff’d 52 S.W.3d 128 (Tex. 2000), the Texas Court of Appeals found that the insured was not entitled to reimbursement of defense costs because the reservation of rights letter was silent on any intention of the insurer to later seek recovery. In affirming the decision below, the Supreme Court of Texas clarified that an insurer’s unilateral reservation of rights letter would not create a right of reimbursement that was not contained in the insurance policy in any event. Texas Ass’n of Counties County Gov. Risk Mgmt. Pool, 52 S.W.3d 128 at 132.
Not all jurisdictions agree, however. A well-known decision from the California Supreme Court, Buss v. Superior Court, 939 P.2d 766 (Cal. 1997), explained that an insurer may recover defense costs for claims that are not potentially covered when its right to reimbursement was properly reserved, but is not permitted to recover defense costs for those claims that are potentially covered. This reasoning was based on the basic principle that insurance policies require insurers to defend actions involving claims that are potentially covered, while insurers are not required to defend claims that are not covered. The Buss court noted that when an action is “mixed” – involving both potentially covered claims and uncovered claims – it is the insurer’s burden to prove what defense costs it is entitled to recover. In reaching this conclusion, the Buss court did not specifically consider whether the policy at issue contained language permitting the insurer to seek reimbursement of defense costs.
Several jurisdictions’ holdings are in line with the Buss decision. For example, Florida permits reimbursement of defense costs when the insurer specifically reserves its right to do so, regardless of the policy language at issue. See, e.g., Colony Ins. Co. v. G&E Tires & Service, Inc., 777 So.2d 1034 (Fla. 1st DCA 2000). In Colony, the insured specifically reserved its rights “with respect to defense costs incurred or to be incurred in the future, to be reimbursed and/or obtain an allocation of attorney’s fees and expenses if it is determined that there is no coverage.” The Colony court found that by accepting the insurer’s defense, the insured “manifest[ed] acceptance of the terms on which [insurer’s] offer to pay of the defense was tendered,” which included the right to be reimbursed. To compare, Texas Ass’n of Counties expressly rejected an insurer’s argument that insured implicitly agreed to reimbursement by not responding to insurer’s reservation of rights letter because “silence and inaction will not be construed as an assent to offer”. In the same vein as Colony, in United Nat. Ins. Co. v. SST Fitness Corp., 309 F.3d 914 (6th Cir. 2002), the court applied Ohio law and found that the insurer was entitled to recoup defense costs because its reservation of rights letter specifically notified the insured that it reserved its right to do so if a court determined that it had no duty to defend). In Illinois Union Ins. Co. v. NRI Const. Inc., 846 F.Supp.2d 1366 (N.D. Ga. 2012), the court held that the insurer was entitled to reimbursement where its reservation of rights letter was timely and expressly advised insured of its rights to recoup any expenses incurred in the defense.
When the scope of coverage is in question, insurers often opt to provide a defense under a reservation of rights. Those reservations of rights typically include the right to seek reimbursement for defense costs related to uncovered claims. However, case law from certain jurisdictions calls into question an insurer’s right to recoup defense costs in the absence of explicit policy language permitting it to do so. Accordingly, it is important for insurers to consider whether their policies contain a right of recoupment and whether the relevant jurisdiction permits recoupment without express policy language. Insurers should cite to such language in their reservation of rights letter, where applicable, and reserve the right to seek reimbursement for defense costs of claims not covered by the policy.