News - October 2006

• Despite “Supplementary Payments” Clause, Insurer May Not Indemnify Insured for Attorney’s Fees Awarded in Discrimination Cased
• Insurer That Initially Refuses to Defend May Not Later Intervene to Prevent Insured’s Settlement
• Settling Insurers Cannot Obtain Contribution from Other Insurers Who Either Had No Notice or No Coverage
• Subrogation: “Superior Equities” Doctrine Can Bar Recovery Despite Comparative Fault Rules

< Return to News page

Top of Page

Despite "Supplementary Payments" Clause, Insurer May Not Indemnify Insured for Attorney’s Fees Awarded in Discrimination Case

The California Court of Appeal has held that despite the coverage afforded by a liability policy’s “supplementary payments” clause, Insurance Code section 533 prohibits an insurer from indemnifying an insured for statutory attorney’s fees awarded to the plaintiff in a race discrimination case. (Combs v. State Farm Fire & Casualty Co., 2006 WL 2940828)

Facts

Fair Housing of Marin (FHOM) filed a federal lawsuit against Jack Combs (Combs), alleging race discrimination in the management of an apartment complex. Combs tendered defense of the suit to his liability insurer, State Farm Fire & Casualty Company (State Farm). The State Farm policy provided that State Farm would indemnify an insured against damages because of bodily injury and personal injury, and that State Farm would defend an insured against any suit seeking covered damages. The policy also contained a standard “supplementary payments” clause which provided that “[i]n addition to the limits of insurance, we will pay, with respect to any claim or suit we defend … all costs taxed against the insured in the suit.”  (Italics added.)  State Farm agreed to defend Combs in the discrimination lawsuit, subject to a reservation of rights.

Later, Combs repeatedly failed to comply with discovery orders in the discrimination lawsuit, and as a result, the federal district court struck Combs’ answer and entered his default. The district court then held an evidentiary hearing and found Combs liable for intentional race discrimination. Ultimately, the district court entered a judgment requiring Combs to pay compensatory damages, punitive damages and statutory attorney’s fees to FHOM. State Farm refused to indemnify Combs for any portion of the judgment.

Combs then filed a state court action against State Farm, alleging breach of the insurance contract. Combs conceded that under California Insurance Code section 533, State Farm was not obligated to indemnify him for the compensatory and punitive damages which were awarded to FHOM in the underlying discrimination lawsuit. However, Combs argued that under the policy’s “supplementary payments” clause, State Farm was obligated to indemnify him for the statutory attorney’s fees which had been awarded to FHOM. The trial court disagreed, finding that section 533 barred coverage.

Holding

The California Court of Appeal affirmed. The appellate court acknowledged that because State Farm had defended Combs in the underlying discrimination case, and because the statutory attorney’s fees awarded against Combs are considered “costs,” the policy’s “supplementary payments” clause would seemingly require State Farm to indemnify Combs for the attorney’s fees awarded to FHOM. However, the appellate court concluded that notwithstanding the coverage afforded by the supplementary payments clause, section 533 prohibited State Farm from indemnifying Combs for the attorney’s fees awarded to FHOM.

The appellate court reasoned that Combs’ intentional race discrimination was a “willful act” within the meaning of section 533, and that this willful act directly led to the award of attorney’s fees against him. It would contravene section 533 if Combs could pass the consequences of his willful act along to State Farm. Therefore, “despite [State Farm’s] contractual agreement to pay these costs, section 533 prohibits State Farm from doing so.”

Comment

Insurance Code section 533 acts as an “implied exclusion” in every California insurance policy. The primary purpose of the statute is to discourage “willful acts” by denying insurance coverage for such acts. This case illustrates that, irrespective of what an insurance policy might say, section 533 precludes an insurer from indemnifying an insured against a loss caused by the insured’s willful act. In other words, an insurer and an insured may not contract for coverage that is barred by section 533.

Top of Page

Insurer That Initially Refuses to Defend May Not Later Intervene to Prevent Insured’s Settlement

The California Court of Appeal has held that a liability insurer that initially refused to defend its insured in a lawsuit could not later intervene in the lawsuit in an attempt to prevent the insured from settling with the plaintiff. (Noya v. A.W. Coulter Trucking, 2006 WL 2830562)

Facts

The California Department of Transportation (CalTrans) hired Modern Continental Construction Company (Modern) to perform work on a highway modification project. Apparently pursuant to the contract, CalTrans was listed as an “additional insured” on Modern’s commercial general liability policy through Zurich American Insurance Company (Zurich).

During the course of the project, a runaway big rig truck collided with oncoming traffic in the construction zone, killing two people and injuring two others. The surviving heirs and injured parties filed suit against various parties, including Modern and CalTrans, alleging that the collision was partly caused by an inadequate median barrier in the construction zone. Modern (as named insured) and CalTrans (as additional insured) both tendered defense of the lawsuit to Zurich. Zurich agreed to defend Modern in the lawsuit, but refused to defend CalTrans.

After several years of litigation and numerous mediations, the plaintiffs reached separate settlements with all defendants, including CalTrans. The confidential settlement agreement between plaintiffs and CalTrans provided for a stipulated judgment totaling $29 million, with CalTrans agreeing to pay $1.25 million in partial satisfaction of the judgment and the plaintiffs agreeing not to execute on the remainder of the judgment against CalTrans. The settlement agreement further provided that plaintiffs’ counsel would represent CalTrans in a subsequent bad faith action against Zurich, and that CalTrans would pay any recovery against Zurich to the plaintiffs. At a final case management conference, the parties informed the trial court that settlements had been reached, subject to court approval.

About two months later (but before the trial court had formally approved the settlements), Zurich learned of CalTrans’ settlement with the plaintiffs. Shortly after learning of the settlement, Zurich informed CalTrans that Zurich would now defend CalTrans in the lawsuit under a reservation of rights. Zurich also filed an ex parte motion to intervene in the lawsuit.

The trial court denied Zurich’s motion to intervene on the ground that the case had already settled and Zurich had not shown good cause for the delay. After denying Zurich’s motion to intervene, the trial court entered the $29 million stipulated judgment against CalTrans and in favor of the plaintiffs. Zurich then appealed from the order denying its motion to intervene.

Holding      

The Court of Appeal affirmed, finding that the trial court had not abused its discretion in denying Zurich’s motion to intervene. The appellate court noted that a trial court has discretion to permit a nonparty to intervene in litigation pending between others, as long as: (1) the nonparty has a direct and immediate interest in the action; (2) the intervention will not enlarge the issues in the litigation; and (3) the reasons for intervention outweigh any opposition by the parties presently in the action.

The appellate court concluded that while Zurich did have a direct and immediate interest in the outcome of the action, allowing Zurich to intervene might interject additional coverage issues into the litigation and could delay or jeopardize the settlement that CalTrans had reached with the plaintiffs after years of litigation. The appellate court emphasized that Zurich had refused to provide a defense to CalTrans until the “eleventh hour” and, in any event, Zurich could contest the reasonableness of the settlement amount in any subsequent action for bad faith.

Comment

Top of Page

Settling Insurers Cannot Obtain Contribution from Other Insurers Who Either Had No Notice or No Coverage

The California Court of Appeal has held that two liability insurers could not obtain equitable contribution from three other liability insurers who either had no notice of the underlying action or no coverage for that action. (American International Specialty Lines Insurance Co. v. Continental Casualty Co. (2006) 142 Cal.App.4th 1342)

Facts

In December 1998, Goto.Com, Inc. (Goto) sent a letter to Walt Disney Company (Disney) asserting that Disney and its business partner Infoseek Corporation (Infoseek) were infringing on Goto’s trademarks. Goto threatened litigation if the infringement continued. From mid-January through mid-February 1999, Goto personnel met several times with Disney and Infoseek personnel to discuss a possible “business solution” to the dispute. Ultimately, however, the discussions broke down and in late February 1999 Goto sued Disney and Infoseek for trademark infringement.

Disney had a $2 million general liability excess indemnity policy through Continental Casualty Company (Continental) covering advertising injury; a $10 million media wrap up policy through Lexington Insurance Company (Lexington) covering trademark infringement; and a $50 million excess liability policy through American International Specialty Lines Insurance Company (AISLIC) which, as to media professional liability, followed form to the Lexington policy and Continental policy.  

Infoseek had a $5 million errors and omissions policy through Gulf Underwriters Insurance Company (Gulf) covering trademark infringement, as well as a $5 million excess policy through Admiral Insurance Company (Admiral) which followed form to the Gulf policy.

Disney assumed the defense of its business partner, Infoseek. Disney then gave notice of the lawsuit to Disney’s insurance broker, AON Risk Services, Inc. (AON). AON did not notify Continental of the suit, but did notify Lexington and AISLIC.

Later, Disney informed Lexington and AISLIC that Disney and Infoseek had tentatively agreed to pay $21.5 million in settlement of Goto’s claims. At that point Lexington and AISLIC sent a letter to Continental putting it on notice of the litigation, but Continental never responded. Lexington and AISLIC objected to Disney’s and Infoseek’s proposed settlement with Goto, but Disney and Infoseek went ahead and finalized the settlement with Goto without obtaining Lexington’s and AISLIC’s consent. Nine months later, despite their earlier objections to the settlement, Lexington and AISLIC reimbursed Disney for the full settlement amount ($21.5 million) and all defense costs incurred by Disney (approximately $3.2 million).

Lexington and AISLIC then filed an indemnity/contribution action against Continental, Gulf and Admiral, seeking to recover the settlement and defense costs Lexington and AISLIC had paid on behalf of Disney in the underlying trademark infringement action. The trial court ruled in favor of Continental, Gulf and Admiral, and Lexington and AISLIC appealed.

Holding

The Court of Appeal affirmed, finding that Lexington and AISLIC could not recover from either Continental, Gulf or Admiral.

As to Continental, the Continental policy required Disney to notify Continental of any claim if estimated defense costs and liability might exceed 50% of the retained limit of $250,000. Disney had failed to comply with that provision. The court acknowledged that the Continental policy contained a “Utah Change Endorsement” which stated that “notice to our authorized representative is notice to us.”  However, according to the court, that endorsement only applied to claims arising in Utah (not California) and, in any event, Disney’s notice to AON was not notice to Continental (because AON was not an “agent” of Continental). Last, Disney’s settlement without Continental’s consent violated the Continental’s policy’s “no-voluntary payment” clause. The court noted that while there might be circumstances where an insurer is not bound by a “no-voluntary” payment clause in a co-insurer’s policy, in this particular case there was no compelling equitable reason why Lexington and AISLIC should be able to avoid that clause in Continental’s policy.

As to Gulf, the Gulf errors and omissions policy excluded coverage for any claim arising out of circumstances known before the policy period that could “reasonably expected to lead to a claim.”  Here, Gulf’s insured, Infoseek, knew about Goto’s “cease and desist” letter and threat of litigation by January 1999, before inception of Gulf’s policy in February 1999. Because Infoseek was aware prior to the Gulf policy period of the possibility of litigation with Goto, the Gulf policy did not apply and Gulf did not owe contribution to Lexington and AISLIC.  

Last, as to Admiral, the Admiral policy was excess to the Gulf policy and followed form to that policy. Because there was no coverage under the Gulf policy, there was no coverage under the Admiral policy.

Comment

The court left open the possibility that in an appropriate case, equity might allow one insurer to obtain contribution from a co-insurer who did not receive notice of the underlying suit or settlement. However, “absent compelling equitable considerations to the contrary, it is inequitable and unfair to saddle insurers on the risk with contribution sans notice of potential liability for contribution.” 

Top of Page

Subrogation: "Superior Equities" Doctrine Can Bar Recovery Despite Comparative Fault Rules

While a subrogating insurer steps into the shoes of the insured, the insurer is subject to a number of equitable principles. In California, the most restrictive of these principles is the doctrine of “superior equities,” which prevents an insurer from recovering against a party who has some fault, but whose equitable position is deemed superior to that of the insurer and insured.

In a very recent case, State Farm General Insurance Co. v. Wells Fargo, N.A., (2006) 2006 WL 2865637, a tenant in an apartment building removed ashes from his fireplace, and discarded them in a plastic trash can located next to the building. The ashes contained hot embers, which ignited a fire that spread to an adjoining condominium complex.

Because of the fire, State Farm paid approximately $2 million to its insureds, the condominium owners association and one of the unit owners. State Farm then filed a subrogation action against various parties, including the apartment building’s owners, managers and waste disposal service. State Farm contended that these defendants’ negligent failure to provide for the safe disposal of fireplace ashes was one of the causes of the fire.

The trial court granted summary judgment in favor of the defendants on the ground that State Farm’s claims were barred by the doctrine of superior equities. (See Meyers v. Bank of America etc. Assn. (1938) 11 Cal.2d 92, 101.)  In essence, the trial court concluded that the defendants were not the “primary” cause of the fire because they did not actually place the ashes in the trash can. The trial court concluded that, because the defendants were not the primary cause of the fire, State Farm did not enjoy a superior equitable position.

The Court of Appeal reversed. Although the Court of Appeal acknowledged California continues to embrace the doctrine of superior equities, the Court held that the trial court erred in granting summary judgment without addressing the question of who (i.e., State Farm, State Farm’s insured or any of the defendants) “was in a better position to avoid the loss.”

Some jurisdictions have rejected the doctrine of superior equities altogether, and allow insurers to subrogate whether or not they can demonstrate a superior equitable position. Given California’s comparative fault rules, the California Supreme Court quite possibly could review this case and could eliminate the doctrine of superior equities once and for all.

Top of Page