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Policyholder Forfeits Coverage by Rejecting Carrier’s Appointed Counsel

By John W. Joyce, Litigation News Associate Editor – May 25, 2011

A federal district court recently held that a policyholder who refused its insurer’s selection of defense counsel breached its duty to cooperate under its insurance policy. Travelers Property v. Centex Homes [PDF]. As a result, the policyholder lost all rights to a defense and indemnity under the policy.


The Underlying Dispute
Homeowners filed several different construction defect suits against their general contractor, Centex, in early 2009. Centex filed cross-claims for indemnity against two of its subcontractors. A few months later, Centex tendered defense of the suits to Travelers as an additional insured under policies issued by Travelers to the subcontractors. The policies gave Travelers the right to select counsel.


Travelers subsequently accepted the tenders subject to a full reservation of rights and agreed that the firm initially retained by Centex could continue to defend. Several months later, however, Travelers selected different counsel for Centex’s defense. Centex refused to accept the newly appointed counsel until it received information establishing that the new firm retained by the insurer could provide it with a conflict free defense.


The Coverage Litigation
Travelers filed a declaratory judgment action in the U.S. District Court for the Northern District of California alleging that it owed no duties to defend or indemnify under California law because Centex’s failure to accept its appointed counsel breached its duty to cooperate, substantially prejudicing Travelers’ ability to defend Centex.


On Travelers’ motion for summary judgment, the district court held that Centex’s refusal to accept appointed counsel breached the policy’s cooperation clause. Acknowledging that an insurer must show actual prejudice from an insured’s breach of the cooperation clause to excuse its duties to defend and indemnify, the court nevertheless decided that “prejudice inherently existed” when Centex refused appointed counsel.


The district court rejected Centex’s argument that a conflict of interest existed by virtue of the fact that Centex had filed cross-claims against its subcontractors, who also were Travelers’ insureds, because the cross-claims were limited to indemnity for Centex’s liability to the homeowners. Therefore, the court held that Centex, the subcontractors, and Travelers all shared the same interest in defeating the homeowners’ claims.


The district court also rejected the argument that a conflict existed because Travelers reserved its right to limit coverage only to events occurring within the policy period. Relying on the California Second District Court of Appeal’s decision in Blanchard v. State Farm Fire & Cas. Co. and California Civil Code § 2860, the district court ruled that a reservation of rights supports retention of independent counsel only when counsel retained by the insurer has the ability to steer the facts in a way to avoid coverage. The district court further held that the reservation of rights related to the timing of factual events, which could not be controlled by counsel and was consistent with Centex’s statute of limitations defense.


Some litigators question the district court’s analysis. “The court misconstrued the purpose of the cooperation clause,” says Erik A. Christiansen, Salt Lake City, editor-in-chief of the ABA Section of Litigation’s Insurance Coverage Litigation Committee Journal Coverage. “A cooperation clause is intended to require that the insured cooperates with the factual development and understanding of the case—it says nothing about accepting the carrier’s choice of counsel,” maintains Christiansen.


Other litigators support the district court’s decision. “The court gave a fair and reasonable reading to the cooperation clause,” says Ray L. Wong, San Francisco, vice-chair of the Section of Litigation’s Insurance Coverage Litigation Committee. “The policyholder asked for a defense, the carrier tried to provide the defense, and the insured blocked that effort; it’s a clear violation of the cooperation clause,” Wong says.


Implications for Policyholders and Carriers
In reaching its decision, the district court resolved an issue that often generates tension between a carrier and its insured—who picks the lawyers that will represent the policyholder in a case when the insurer agrees to defend the case under a reservation of rights. While that issue is often the subject of negotiated agreement between carriers and policyholders, the reasoning set out in Centex might add a different dimension to that dynamic.


“The ruling might create sideshow litigation between carriers and policyholders,” warns Christiansen. “Under this ruling, carriers may seek to exert leverage over policyholders by filing lawsuits for breach of the duty to cooperate any time a policyholder in good faith tries to negotiate over the selection of counsel,” he says.


Wong, however, believes that the decision fosters predictability. “Predictability avoids litigation,” he notes. “This case sends a message to aggressive policyholders who purport to assert rights not set out in their contracts,” he says. “The court will enforce the agreements as written.”


Editor’s note: Centex has filed a motion for reconsideration of the district court’s order. At the time this article was submitted for publication, that motion was still pending.


Keywords: litigation, insurance litigation, Travelers Property v. Centex Homes


 
Related Resources

  • » Travelers Property v. Centex Homes, No. 10-02757, 2011 U.S. Dist. LEXIS 36128 (N.D. Cal. Apr. 1, 2011).
  • » Blanchard v. State Farm Fire & Cas. Co., 2 Cal. App. 4th 345, 350, 2 Cal. Rptr. 2d 884 (1991).
  • » California Civil Code § 2860.

 
  • June 9, 2011 – This is a natural progression of the already established case law in CA. I support the courts decision and this should reduce the contencious relationships when dealing with contruction clients.

  • June 8, 2011 – Several years ago I had a situatiion wherein my insured {a very large Real estate Concern} requested from their carrier {AIG} to use their own Counsel. Due to the close relationship between the Real Estate Concern and their Counsel AIG agreed. I believe the thought on behalf of AIG was that the insureds Counsel would have a better opportunity to previal in the suit. Of all carriers, AIG did not withdraw due to Breach.

  • June 8, 2011 – On 6/6/11 the court denied reconsideration w/o prejudice (dkt#345) because Centex agreed to accept Travelers' selection of counsel from this point on, provided appointed counsel was conflict-free.

 

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