Gordon & Rees Partner Matthew S. Foy Appointed to Chair of DRI’s Insurance Law Committee

San Francisco partner Matthew S. Foy was recently appointed to serve a two-year term as Chair of the Defense Research Institute’s (DRI) Insurance Law Committee. The Insurance Law Committee is one of DRI’s largest and most active committees with more than 2,700 members and is the resource for professionals whose careers are devoted to or influenced by insurance.

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Matthew Foy is a partner in Gordon & Rees’s San Francisco office and serves as the National Practice Group Leader for the firm’s Property and Casualty Practice Group. Mr. Foy maintains a national practice and has represented the insurance industry for 20 years at the claims stage, in trial, and on appeal. Matt can be reached at (415) 875-3174 or MFoy@gordonrees.com.

The Scope of Continuous Trigger in Pennsylvania

The continuous trigger rule is well-known to those in the insurance industry. However, the scope of its application continues to evolve as new risks emerge. While the concept of continuous trigger generally came about to address long-tail environmental pollution and asbestos bodily injury claims, the courts that first implemented and adopted the rule were not facing claims based on sexual molestation, sports-related concussions, wrongful incarceration, large-scale construction defects, complex food recalls, etc.

Pennsylvania has long been a first manifestation state, meaning that only the policy on the risk when underlying bodily injury or property damage is first known or reasonably ascertainable must respond to a loss. The Pennsylvania Supreme Court adopted the continuous trigger rule in J.H. France, which involved coverage for asbestos bodily injury claims. J.H. France Refractories Co. v. Allstate Ins. Co., 626 A.2d 502 (Pa. 1993). The continuous trigger rule, over time, has also been applied to pollution cases.

For that reason, the industry took great interest in the St. John case, decided at the end of 2014, in which the Pennsylvania Supreme Court rejected efforts by an insured to trigger four years of consecutive policies in connection with an underlying lawsuit alleging that the insured’s defective installation of a new plumbing system caused damage to a dairy farm. Pennsylvania Nat. Mut. Cas. Ins. Co. v. St. John, 106 A.3d 1 (Pa. 2014). Specifically, the insured installed the new plumbing system in 2003, the dairy farm’s cows suffered health problems and produced less milk starting in 2004, and the dairy farm owners discovered the cause – contaminated drinking water due to defects in the plumbing system – in 2006. The court ruled that the 2004 policy was the only triggered policy, but it made a few comments that raised eyebrows. The court noted that Pennsylvania follows the first manifestation rule, “with the lone exception of asbestos injury claims” and that “[o]ur holding in J.H. France remains an exception to the general rule under Pennsylvania jurisprudence that the first manifestation rule governs a trigger of coverage analysis for policies containing standard CGL language.”

The Pennsylvania Supreme Court’s strict application of the manifestation trigger, and its characterization of the exception being limited to asbestos claims, caused a ripple effect in non-asbestos related coverage actions such as pollution cases involving damage that occurs across multiple policy periods. While experience thus far has shown that trial courts are hesitant to apply St. John to limit coverage for pollution claims to a single policy year, the issue is still lingering in many cases. St. John most recently surfaced in the Penn State coverage action related to underlying claims brought against the school by victims of convicted child molester Jerry Sandusky. There, a Philadelphia trial court judge ruled that a victim’s continued sexual abuse over time does not justify application of the continuous trigger rule, and that Penn State could only access the policy during which the bodily injury to a particular victim first manifested. Pa. State Univ. v. Pa. Manufacturers’ Ass’n Ins. Co., 2016 Phila. Ct. Com. Pl. LEXIS 158 (May 4, 2016). Interestingly, the court stated that sexual abuse was different from “environmental pollution or asbestos coverage,” meaning that perhaps the court did not read St. John so literally.

Whether the court intended it or not, the sound bites in the St. John decision still have insurers and insureds paying close attention to the scope of the continuous trigger rule.

Insurance Coverage for Wrongful Incarceration Cases in New Jersey

The third jurisdiction we address pertaining to wrongful incarceration coverage issues is New Jersey, which has three relevant cases. New Jersey courts have held that for purposes of determining the existence of insurance coverage under a general liability policy, in the absence of any applicable exclusion, the triggering event occurs on the date when the underlying criminal complaint is filed against the claimant. However, when determining coverage for a municipal insured’s obligation to indemnify its employee for fees incurred in defending against criminal charges, as required by specific statutes, the triggering event is not the filing of criminal charges against the employee, but rather the acquittal or dismissal of those charges against the employee.

The first of the malicious prosecution cases is Muller Fuel Oil Co. v. Ins. Co. of North America, 232 A.2d 168 (N.J. Super. Ct. App. Div. 1967), in which the insured, Muller Fuel Oil Company (“Muller”), unsuccessfully filed a criminal complaint against Thomas Policastro (“Policastro”) for issuing a worthless check. Policastro was arrested in November 1961 and indicted in May 1962.  In December 1962, Muller purchased a CGL policy from Insurance Company of North America (“INA”). Thereafter, in March 1963, Policastro was acquitted of the criminal charges and quickly filed a malicious prosecution and false arrest suit against Muller.

Muller sought coverage from INA, claiming that Policastro’s lawsuit against it did not fully ripen until his acquittal in March 1963, and thus constituted an “occurrence” during INA’s policy period of December 1, 1962 to December 1, 1965. INA, on the other hand, denied coverage for Muller’s claim, contending that the criminal complaint that was the basis for Policastro’s malicious prosecution suit was filed by Muller prior to inception of the INA policy. Muller then sought a declaratory judgment that coverage existed under the policy.

On appeal from a New Jersey Superior Court ruling dismissing Muller’s complaint against INA, the Appellate Division affirmed the decision, finding that “[i]n a claim based on malicious prosecution the damage begins to flow from the very commencement of the tortious conduct – the making of the criminal complaint.” According to the Appellate Division, the allegedly tortious conduct and injury to the accused as a result of the malicious prosecution (arrest on November 1961) antedated the issuance of the policy (December 1, 1962) by more than year. As a result, there was no coverage under the INA policy.

The second malicious prosecution case is Paterson Tallow Co. v. Royal Globe Ins. Co. 89 N.J. 24, 444 A.2d 579 (1981). In Paterson, the New Jersey Supreme Court affirmed the judgment of the lower court that insurer Royal Globe Insurance Company (“Royal Globe”) was not obligated to defend the insured, Paterson Tallow Company (“Paterson”), because the complaint that resulted in the malicious prosecution action against Paterson was filed before the effective date of Royal Globe’s policy.

In Paterson, Paterson filed criminal charges in June 1969 against a former employee, James Brown (“Brown”), for theft. In October 1970, while the criminal charges were pending, Paterson purchased a CGL policy that provided coverage for bodily injury, property damage, and personal injury, including coverage for malicious prosecution. In March 1971, Brown was acquitted of all charges against him. Brown filed suit against Paterson in January 1977 alleging malicious prosecution, and Paterson tendered the claim to Royal Globe seeking coverage. Royal Globe denied coverage for the claim, in part, because “all the acts that were alleged to constitute malicious prosecution took place before the policy was issued in 1970.” In a subsequent declaratory judgment action, Paterson and Royal filed cross motions for summary judgment and Paterson asserted that it was entitled to coverage for the action because a crucial component of the malicious prosecution offense, specifically, termination of the criminal charges against Brown, occurred during Royal Globe’s policy period.

The trial court found the appellate court’s ruling in Muller (discussed above) dispositive and granted summary judgment in favor of Royal Globe. On appeal, the New Jersey Supreme Court held that “for the purpose of determining the existence of coverage under this type of policy, in the absence of any qualifying exclusion or exception the offense of malicious prosecution occurs on the date when the underlying [criminal] complaint is filed. Inasmuch as the [criminal complaint] in this case was filed before the effective date of the policy, we affirm the judgment of the Appellate Division denying coverage.”

The third case is slightly different in that it addressed coverage for an insured’s obligation to indemnify its employee for fees and costs the employee incurred defending against criminal charges against him that were ultimately found to be meritless. In Board of Education v. Utica Mut. Ins. Co., 798 A.2d 605 (N.J. 2002), the New Jersey Supreme Court was tasked with deciding whether it was the filing of criminal charges against an employee of a board of education, or the acquittal of dismissal of those charges, that triggered coverage under an insurance policy issued to satisfy the board’s statutory obligation to indemnify such employee. The trial court found that the triggering event was the acquittal or dismissal while the appellate court reversed and decided that the triggering event was the filing of criminal charges. On appeal, the New Jersey Supreme Court held that the triggering event is the acquittal or other disposition of the criminal charges in favor of the employee of the board of education.

This case involved a teacher, David Ford (“Ford”), employed by the Borough of Florham Park Board of Education (“Board”), who was arrested and charged with sexual assault and reckless endangerment of four of his students in June 1996. In March 1999, a jury acquitted Ford of all charges. Soon after, he demanded that the Board reimburse him nearly $500,000 in legal fees and expenses for successfully defending the criminal action pursuant to various New Jersey statutes that “…obligate a board of education to defray all costs incurred by an … employee of the board in defending criminal charges filed against the person whose charges: … (2) resulted in a final disposition in favor of such person.” The statute also authorized a board to purchase insurance to cover all such damages, losses and expenses the board may be obligated to pay.

The Board sought coverage from Selective Insurance Company (“Selective”) and Utica Mutual Insurance Company (“Utica”) for its indemnity obligation to Ford. At the time of Ford’s arrest, the Board was insured by Selective under a policy that provided coverage from July 1, 1993 to July 1, 1996. By endorsement, the Selective policy provided that “this Coverage Part shall conform to the terms of the New Jersey compiled statutes” discussed above. Utica insured the Board from July 1, 1996 to July 1, 1999, and contained a nearly identical endorsement provision as the Selective policy, incorporating the pertinent New Jersey statutes. Utica denied coverage to the Board because its policy was not in effect when Ford was criminally charged in June 1996. Selective denied coverage for any legal expenses that were incurred after its policy expired on July 1, 1996, and reserved the right to deny all coverage. The Board filed a declaratory judgment action against Selective and Utica.

The trigger issue was appealed to the New Jersey Supreme Court. The Court noted that both the Selective and Utica policies incorporated by reference the statutory language, which specified that an employee’s right to reimbursement accrues when “the criminal charges result in an acquittal or otherwise are dismissed.” The Court also noted that indemnification obligations generally accrue “only on an event fixing liability, rather than on preliminary events that eventually may lead to liability but have not yet occurred.” The Court held that the triggering event for coverage was the favorable disposition of all criminal charges against Ford. As a result, Utica’s policy was triggered since Ford incurred no reimbursable expenses prior to his acquittal. On the other hand, Selective had no coverage obligation as the Selective policy had expired by the time of Ford’s acquittal.

The Court distinguished its holding in Paterson and explained that when an insured seeks coverage related to its own conduct of initiating criminal charges against its employee, it is reasonable to use the conduct of the insured in filing the criminal charges as the “triggering event” to assess coverage for malicious prosecution. But in a statutory indemnification case, the “essence” of the claim is not the filing of the criminal charges.” Rather, the Board’s liability “is triggered by the event specified in the statutes, namely a final disposition of those charges in favor of the Board’s employee.”

In light of the cases discussed above, the New Jersey courts are fairly clear that the trigger of coverage in malicious prosecution and wrongful arrest cases is the filing of charges against the claimant. However, in cases involving coverage for statutory indemnification of fees and costs incurred in defending against a criminal prosecution case, the trigger of coverage is not filing of charges, but rather, acquittal of such charges. As is always the case, it is important to carefully review the applicable policy and understand the scope of coverage provided.

The next installment will review the law in Georgia. In the meantime, if there are any questions about another jurisdiction, please contact us (sallykim@gordonrees.com or sries@gordonrees.com) and we can address your questions directly.

The Hammer Clause: Not the Solid Coverage Defense You Thought

Most professional liability policies contain the following or a similar provision addressing settlement by an insurer and an insured’s consent to the settlement.

[Insurer] shall…not settle any CLAIM without the written consent of the NAMED INSURED which consent shall not be unreasonably withheld. If however, the NAMED INSURED refuses to consent to a settlement recommended by [Insurer] and elects to contest the CLAIM or continue legal proceedings in connection with such CLAIM, [Insurer’s] liability for the CLAIM shall not exceed the amount for which the CLAIM could have been settled, including CLAIMS EXPENSES up to the date of such refusal, or the applicable limits of liability, whichever is less. Freedman v. United Nat’l Ins. Co., 2011 U.S. Dist. LEXIS 25490, *2; 2011 WL 781919 (C.D. Cal. Mar. 1, 2011) (emphasis added).

Under the first sentence, an insurer can negotiate settlement directly with a claimant. However, any resulting settlement is subject to the consent of the insured. If the insured refuses to consent, that refusal must not be unreasonable. The second sentence also gives the appearance that an insurer can negotiate with a claimant to achieve a settlement. Under this scenario, if the insured does not consent and the litigation continues against the insured, the insurer is not prejudiced because its exposure for loss ceases on the date of the insured’s refusal to consent. This provision often is referred to as the “hammer clause” because of the power it gives an insurer to enforce a settlement. Essentially, insurers believe they have some control over a recalcitrant insured.

That belief is misplaced. A further review of these two sentences elicits a suspicion that there is some ambiguity between the two. The first sentence expressly provides that the insured’s written consent is necessary to any settlement. The first sentence also clearly sets forth that the insured’s consent cannot be unreasonably withheld. In contrast, the second sentence does not address whether the insured’s consent must be reasonable.

The harmonious interpretation of these two sentences was at issue in Freedman v. United Nat’l Ins. Co., cited above. In Freedman, an attorney tendered a legal malpractice action to his professional liability carrier. The claimant offered to settle within the policy limits, but the defendant attorney refused because he believed the action lacked merit. After the insurer invoked the hammer clause, the attorney still declined to settle and filed an action against the insurer claiming the carrier acted in bad faith by settling the underlying suit, which had no merit, over his objection and without his consent. The insured attorney advanced the following interpretation of the above provision: (1) an insurer cannot settle without the insured’s consent, but the insured cannot unreasonably refuse to consent to settle; and (2) if the insured unreasonably refuses to consent to settle, then the insurer’s liability is limited to the amount for which the insurer would have settled plus the cost of the defense up to the date of the insured’s refusal. Essentially, the insured argued that the insurer could rely on the hammer clause only if the insured’s refusal to consent was unreasonable. Conversely, the insurer in Freedman argued that the two sentences actually are separate clauses. The parties’ disagreement arose over whether the second sentence, standing alone, allows an insurer to limits its liability when an insured refuses to consent to a settlement, regardless if that refusal is reasonable. The court sided with the insured and held the policy was not ambiguous and the hammer clause may be invoked only if the insured unreasonably refuses to consent to a settlement.

The Freedman court based its ruling on a decision from the Court of Appeals for the First Circuit in Clauson v. New England Ins. Co., 254 F.3d 331, 337-38 (1st Cir. 2001). In Clauson, the insured attorney refused multiple offers to settle a malpractice action filed against him. The underlying action involved the attorney’s failure to attend a hearing in which a martial asset his client used for business was sold. After the client filed a malpractice suit against the insured, the client made several offers to settle during the pendency of the action which the insured rejected. The insurer twice informed the attorney that his refusal to settle was unreasonable and invoked a clause similar to that in Freedman which limited the insurer’s exposure to the amount of the rejected settlement. After judgment was entered against the insured in excess of the offers, the client filed a declaratory action against the insurer to recover the amount of the judgment in excess of the settlement offer the insurer previously had agreed to pay. The trial court held that the insured was reasonable when he refused to consent to settle, and thus, the provision limiting the insurer’s exposure did not apply. The Court of Appeals affirmed the trial court’s ruling that the hammer clause did not apply, and thus, the insurer was liable for the total judgment against its insured.

Pragmatically, the hammer clause is a provision which is intended to limit an insurer’s liability when an insured refuses to consent to a settlement. However, recent case law has eroded that veneer and revealed that the coverage defense actually rests on the conduct of the insured; specifically, whether the insured’s refusal to settle is unreasonable. Based upon the case law, the merits of the case and a legitimate settlement value alone may not determine if an insured acts unreasonably in refusing consent.

Insurance Coverage for Wrongful Incarceration Cases in California

The second jurisdiction we will discuss pertaining to coverage issues arising out of claims for wrongful incarceration is California, which, like New York, has two pertinent decisions involving coverage for malicious prosecution cases. Unlike New York, however, the case law in California stems from civil cases, not criminal cases. Nonetheless, the Court of Appeal in California held that it makes no difference whether the case is civil or criminal in determining whether a claim for malicious prosecution implicates insurance coverage.

The first case is Harbor Insurance Company v. Central National Insurance Company, 165 Cal. App.3d 1029, 211 Cal. Rptr. 902 (1985), in which the insured, A.J. Industries, Inc. (“A.J.”) unsuccessfully prosecuted an action between 1971 and 1978 against its former president and chairman. When A.J. filed the action, it was insured by Zurich Insurance Company (“Zurich”) for a limit of $300,000 and by Harbor Insurance Company (“Harbor”) for $5,000,000. While the malicious action was pending (and until April 1, 1975), A.J. switched insurers and had primary insurance with Argonaut Insurance Company (“Argonaut”) and excess insurance with Midland Insurance Company (“Midland”).

On April 16, 1976, the former president and chairman filed an action against A.J. for malicious prosecution. By that point in time, A.J. was insured by Central National Insurance Company (“Central National”). A.J. nonetheless tendered its defense to Zurich.  Zurich accepted the tender and turned the matter for handling to Harbor, the concurrent excess carrier. Harbor defended the malicious prosecution action under reservation of rights, and also tendered the claim to Central National, Midland and Argonaut. After those insurers denied coverage, Harbor filed suit.

The issue addressed by the California Court of Appeal, Second Appellate District, was whether Argonaut’s or Midland’s policies provided coverage for the malicious prosecution lawsuit against A.J.

Argonaut’s policy provided coverage for damages because of “personal injury” sustained by any person arising out of an offense committed in the conduct of the named insured’s business.  The term “offense” included false arrest, detention or imprisonment, or malicious prosecution, if such offense is committed during the policy period. The Court of Appeal ruled that the “offense” of malicious prosecution is “committed” upon institution of the malicious action against the defendant. The court noted that the “gist of the tort is committed when the malicious action is commenced and the defendant is subjected to process or other injurious impact by the action.” In other words, “from both the tortfeasor’s and the victim’s standpoint the ‘offense’ is ‘committed’ upon initial prosecution of that action. At that point the tortfeasor has invoked the judicial process against the victim maliciously and without probable cause, and the victim has thereby suffered damage.” Because the malicious action was commenced before the Argonaut policy came into effect, the court held that there was no coverage under the policy.

The court rejected Harbor’s argument that the offense of malicious prosecution is a “continuing occurrence,” which is “committed” throughout the prosecution of the malicious action because it continues to cause damage until the action is terminated. The Court of Appeal noted that such an argument was a theoretical misunderstanding of the elements of the tort in that “[a]lthough continued proceedings after commencement of the action will increase and aggravate the defendant’s damages, the initial wrong and consequent harm have been committed upon commencement of the action and the initial impact thereof on the defendant.”

The Court then addressed the two Midland policies, one of which agreed to indemnify A.J. against such ultimate net loss in excess of the primary limits by reason of liability for damages because of personal injury caused by an occurrence. This excess policy defined “personal injury” as “injury arising out of false arrest, false imprisonment, wrongful eviction, detention, malicious prosecution, … which occurs during the policy period.” The Court of Appeal held that the definition of “personal injury” required the malicious prosecution to “occur” during the policy period. For the reasons discussed pertaining to the Argonaut policy, the Court of Appeal held that malicious prosecution did not “occur” during this Midland policy, so Midland had no obligations under the policy.

The second Midland policy agreed to indemnify A.J. for all sums that it became obligated to pay by reason of liability for damages on account of “personal injuries” caused by an “occurrence.” The term “personal injuries” was defined, in part, as malicious prosecution, and the term “occurrence” was defined as “an accident, including injurious exposure to conditions, which results, during the policy period, in bodily injury or property damage neither expected nor intended from the standpoint of the Insured.” In order to avoid a self-defeating construction of the policy that would render “personal injuries” being excluded from coverage, the court deemed as an oversight the use of the term “bodily injury” in the definition of “occurrence” and inserted “personal injuries” in the place of “bodily injury” in the definition.

So construed, however, the policy yet remains limited in coverage to “occurrences” which result in personal injury (here, i.e., malicious prosecution), or property damage, within the policy period. The upshot of this “occurrence” limitation is that the instant incident of malicious prosecution was not subject to this policy. As discussed above, A.J.’s malicious prosecution “occurred” before the policy term began, when the malicious action was commenced against [the former president and chairman] in 1971. The gist of the wrong then was inflicted and complete.

The Court found no coverage under this Midland policy.

The second California case is Zurich Ins. Co. v. Peterson, 188 Cal. App.3d 438, 232 Cal. Rptr. 807 (1986), which involved a lawsuit filed by Tri-Tool against its president to rescind an employment contract. When the complaint was filed, Tri-Tool was insured by Home Insurance Company (“Home”). The Home policy agreed to indemnify Tri-Tool for damages because of injury arising out of the offenses of false arrest, detention, or imprisonment, or malicious prosecution, if such offense is committed during the policy period.

In February of 1980, the Home policy was replaced by a primary policy issued by American Guarantee and Liability Insurance Company (“AGLIC”) and an excess policy issued by Zurich Insurance Company (“Zurich”). The AGLIC policy agreed to pay all sums that the insured becomes legally obligated to pay as damages because of “personal injury,” which, in turn, was defined as an “injury arising out of one or more of the following offenses committed during the policy period” and listed false arrest, detention, imprisonment or malicious prosecution as the offenses. The Zurich policy also provided coverage for personal injury, including “injury resulting from false arrest, detention or imprisonment, … malicious prosecution ….” The policy defined an “occurrence” of malicious prosecution as “an act or series of acts of the same or similar nature, committed during this policy period which causes such personal injury.”

The Court of Appeal, Third Appellate District, noted that a favorable termination of the malicious action might be a prerequisite to the filing a malicious prosecution action, but it was not determinative of coverage because the policies at issue did not contain any reference to a particular date. Rather, to implicate coverage, the policies required the act or offense of malicious prosecution to have been committed during the policy period. The court then reviewed the Harbor Insurance Company case and noted that the Harbor court rejected the continuing occurrence concept and determined that the critical date was the filing of the complaint. The Court ruled,

It makes little difference whether the state or an individual controls the maliciously prosecuted action: an individual is first injured upon the filing of a complaint with malice and without probable cause. While some of the adverse consequences to the injured party will depend on whether a criminal prosecution is begun or a civil suit prosecuted, in each case a party’s reputation is injured and legal expenses are incurred at the initiation of the malicious complaint. The fact that damages increase as the prosecution continues does not transform malicious prosecution into a continuing occurrence. We join the reasoned decisions of the majority in holding that for purposes of an insurance policy which measures coverage by the period within which the “offense is committed,” the tort of malicious prosecution occurs upon the filing of the complaint.

Because the policies issued by Zurich and American came into effect after the date Tri-Tool filed its complaint against the president, neither insurer had an obligation to defend or indemnify Tri-Tool.

The interesting thing about California is the interplay between wrongful incarceration cases and California Insurance Code Section 533 (“Section 533”), which states, in part, that an “insurer is not liable for a loss caused by the willful act of the insured; but he is not exonerated by the negligence of the insured, or of the insured’s agents or others.” In short, Section 533 precludes insurance coverage, or indemnity, for a “willful act,” but Section 533 does not apply to the duty to defend or to vicarious liability.

In Downey Venture, et al. v. LMI Ins. Co., 66 Cal. App. 4th 478, 78 Cal. Rptr.2d 143 (1998), the California Court of Appeal, Second Appellate District, held that Section 533 precluded coverage for malicious prosecution, even though such coverage was expressly provided in the policy, because malice is an element for establishing a claim for malicious prosecution. The Court of Appeal noted that in California, “the commission of the tort of malicious prosecution requires a showing of an unsuccessful prosecution of a criminal or civil action, which any reasonable attorney would regard as totally and completely without merit, for the intentionally wrongful purpose of injuring another person.” Id. at 154. The Court of Appeal ultimately held that because the commission of the tort of malicious prosecution constitutes a willful act within the meaning of Section 533, LMI was not obligated to indemnify the insured for such claim.

Ultimately, under California law, an insurer may have a defense obligation in wrongful incarceration cases, but there is a good chance that the insurer will not have an indemnity obligation to the extent that the liability of the insured(s) is based on “willful acts” of malicious prosecution.

The next installment will review the law in New Jersey, a jurisdiction that may have the oldest case law pertaining to insurance coverage for malicious prosecution cases. Again, if there are any questions about another jurisdiction, please contact us (sallykim@gordonrees.com or sries@gordonrees.com) and we can address your questions directly.

District Court Holds California’s 10- Year State of Repose Effectively Bars General Liability Coverage For Construction Defect Claims

On September 27, 2016 the U.S. District Court for the Northern District of California issued its opinion in Swiss Re International Se, et al. v. Comac Investments, Inc., et al., effectively closing the door on ISO form general liability coverage for construction defect claims that are subject to California’s 10-year statute of repose. 2016 U.S. Dist. LEXIS 132793 (N.D. Cal. Sept. 27, 2016).

California Code of Civil Procedure §337.15 provides that latent construction defect claims are subject to a 10-year statue of repose, which commences upon substantial completion of the construction. The statue of repose is not subject to equitable tolling and the only exception to the statue of repose is provided in subsection (f), which allows for “actions based on willful misconduct or fraudulent concealment” See Lantzy v. Centex Homes, 31 Cal.4th 363, 367 (2003); Cal. Code. Civ. Proc. §337.15(f).

In Comac, the plaintiff homeowner’s association sued the insured builder, Comac, in connection with alleged construction defects at a residential project. The Plaintiffs, however, filed suit more than 10 years after the project’s completion. Nonetheless, the Plaintiffs alleged that Comac’s responsible managing officer observed the defective workmanship, did not correct the defects in order to avoid additional costs, and in some cases “directed [the] condition be covered up….” Seeking to skirt California’s 10-year statue of repose, Plaintiffs alleged that Comac’s actions “amount[ed] to reckless disregard and/or willful misconduct as defined by [C.C.P.] §337.15(f).”

Each of Comac’s insurance policies required that property damage be caused by an “occurrence,” which was defined as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” Rejecting the plaintiffs’ argument that Comac did not intend any injury, the court held the homeowners’ allegations of willful misconduct could not, by definition, be an “accident.” In so holding, the court noted that the claims against Comac were limited to claims that “Comac’s deliberate acts caused the property damage” and did not include any alleged intervening, unexpected causes. Central to the court’s analysis were the allegations that “any contractor who chose not to remedy [the defects] would be doing so with actual or constructive knowledge that injury was a probable result” and “any knowledgeable construction supervisor who chose not to direct the contractor to remedy the condition would have done so with actual or constructive knowledge that injury was a probable result.”

The court harmonized the term “willful” under Cal. Code. Civ. Proc. §337.15(f) and Cal. Ins. Code §533, finding both encompassed conduct where a reasonable person under the same or similar circumstances would be aware of the highly dangerous character of his or her conduct and that neither necessarily required an actual intent to injure. Thus, the court found that Comac’s alleged willful misconduct was also subject to the policies’ “expected or intended” exclusions and California Insurance Code §533.

Insurers Not Bound By Four Corners of Complaint When Determining Duty to Defend Under Illinois Law

In Landmark American Insurance Company v. Peter Hilger, the Seventh Circuit, applying Illinois law, recently clarified that an insurer may introduce extrinsic evidence in a declaratory judgment action regarding the insurer’s duty to defend. 2016 U.S. App. LEXIS 17343 (7th Cir. Sept. 22, 2016). Hilger was sued in two separate lawsuits alleging that he and others had mislead credit unions to fund loans by overstating the life-insurance policies that served as collateral. Hilger tendered his defense to Landmark under a professional liability policy held by a co-defendant. Hilger alleged that he qualified as an insured under the policy as, although he was not named in the policy, the policy provided coverage for “independent contractors” of the named insured provided the liability was related to professional services rendered for the named insured.

Landmark denied coverage for Hilger’s claim and filed a declaratory judgment action. The District Court granted Hilger’s motion for judgment on the pleadings reasoning that the underlying complaints left the relationship between Hilger and Landmark’s insured ambiguous, and that ambiguity had to be resolved in Hilger’s favor.

The Seventh Circuit reversed, stating that Landmark was entitled to conduct discovery into the relationship between Hilger and Landmark’s insured, and to use information obtained to demonstrate that Landmark owed no duty to defend. The Court noted that the District Court was correct that a duty-to-defend analysis was confined to the allegations of the underlying complaint where the insurer denies coverage without seeking a declaratory judgment or defending under a reservation of rights. In contrast, where the insurer has filed a declaratory judgment (or if an insurer was proceeding under a reservations of rights), the insurer may present evidence beyond that in the underlying complaint, as long as that evidence does not determine an ultimate issue in the underlying proceeding. In this instance, the Court found that because Landmark had sought a declaratory judgment, it could offer evidence outside the complaints showing that Hilger did not render the professional services as an independent contractor for Landmark’s insured, so long as that evidence would not decide an ‘ultimate issue’ in the underlying action — and the Court found no indication that it would. Thus the Court reversed and remanded, holding Illinois law “permits Landmark to offer evidence outside the. . .complaints that Hilger isn’t covered as an independent contractor under [the Landmark] policy.”

Excess Insurer Forced To Contribute To A Settlement May Sue Primary Insurer For Unreasonably Refusing To Settle Within Primary Limits Despite The Lack Of Any Excess Judgment Against The Insured

In Ace American Ins. Co. v. Fireman’s Fund Ins. Co. (2016) 2016 Cal.App. LEXIS 647 (Aug. 5, 2016), the California Court of Appeal, Second Appellate District, Division Four, reversed the trial court which had sustained a primary insurer’s demurrer to a lawsuit brought an excess insurer. The excess insurer, Ace American Insurance Company (“Ace”), asserted causes of action against the primary insurer, Fireman’s Fund Insurance Company (“Fireman’s Fund”), for equitable subrogation and breach of the duty of good faith and fair dealing based on the primary insurer’s alleged unreasonable failure to settle an underlying action within primary policy limits. The Court of Appeal held that an excess insurer could maintain claims against a primary insurer even in the absence of a litigated judgment in the underlying action against their mutual insured.

The appellate court held that Ace’s lawsuit against Fireman’s Fund could have been brought by the insured or its assignee “despite the absence of a litigated excess judgment.” The court held that “an excess insurer which has settled and discharged the insured’s liability may recover from the primary insurer an amount in excess of the primary insurer’s policy limits if the excess insurer can prove the primary insurer’s unreasonable refusal to settle within its policy limits resulted in loss to the excess insurer in an amount in excess of the policy limits of the primary insurer it would not otherwise have had.” The court further held that an “excess judgment is not a required element of a cause of action for equitable subrogation or breach of the duty of good faith and fair dealing; where the insured or excess insurer has actually contributed to an excess settlement, the plaintiff may allege that the primary insurer’s breach of the duty to accept reasonable settlement offers resulted in damages in the form of the excess settlement.”

The Court of Appeal also rejected Fireman’s Fund public policy argument that “[p]rimary insurers would be hesitant to participate with excess insurers in settlements, for fear of the excess insurers turning around and suing them.” The court reasoned that primary insurers already have the duty to accept reasonable settlement offers within policy limits and are liable for resulting damages in the event of a breach of that duty.

New Jersey Supreme Court Latest to Weigh In on Insurance Coverage for Faulty Workmanship

Perhaps unsurprisingly to those who enjoy following the trajectory of CGL coverage for faulty workmanship around the country, New Jersey recently joined those states which recognize faulty workmanship as an “occurrence” – at least in certain circumstances.

In Cypress Point, the New Jersey Supreme Court faced the question of “whether rain water damage caused by a subcontractor’s faulty workmanship constitutes ‘property damage’ and an ‘occurrence’” under a property developer’s CGL policy. Cypress Point Condominium Association, Inc. v. Adria Towers, LLC, et.al, (A-13/14-15) (076348) (N.J. Aug. 4, 2016).  In Cypress Point, condo owners complained of roof leaks and water intrusion at window jambs and sills, as well as water damage to the common areas and interior structures of the buildings in the new condominium development. The condo association sued the developers, alleging faulty workmanship and consequential damages including damage to steel supports, exterior and interior sheathing, and sheetrock and insulation in both condo units and common areas. The developers’ insurer denied coverage and ultimately two of the developers’ insurers were brought into the case to determine whether the policies should provide defense and indemnity to the developers.

The Court distinguished prior cases on this issue, Weedo v. Stone-E-Brick, Inc., 81 N.J. 233 (1979) and Firemen’s Insurance Co. of Newark v. National Union Fire Insurance Co., 387 N.J. Super. 434 (App. Div. 2006), primarily by focusing on the fact that both dealt with the 1973 ISO form, not the 1986 ISO form at issue in this case. The Court particularly focused on the fact that, in the 1986 ISO form, there is an exception to the “Your Work” exclusion which allows coverage for faulty workmanship where it is performed by a subcontractor.

After observing that courts across the country were trending toward faulty workmanship as an “occurrence” (although not discussing neighboring Pennsylvania’s fairly recent decisions), the Court turned to the definitions of “property damage” and “occurrence” in the policies at issue. The Court determined that (1) the consequential damages fell within the policies’ definition of “property damage” and (2) that ‘accident’ encompasses unintended and unexpected harms caused by negligently performed work, and thus the consequential water damage was an “occurrence.” Having determined the loss fell within the coverage grant of the policies, the Court then considered the “Your Work” exclusion and its subcontractor exception and determined that, as the work was clearly performed by a subcontractor, this was still a covered loss.

Importantly, while this case addresses a common situation of the property developer’s CGL coverage, it is not necessarily universally applicable to all contexts in which a faulty workmanship claim may arise. It remains to be seen whether New Jersey courts will apply this holding broadly or more narrowly, i.e. whether faulty workmanship be an “occurrence” in the absence of consequential damage, or where no subcontractor was involved.

Insurance Coverage for Wrongful Incarceration Cases in New York

Over a decade has gone by since we first reported on an uptick in post-conviction exonerations due to advances in DNA testing, data preservation and electronic record-keeping that led to the discovery of exculpatory evidence. Today, insurance coverage lawsuits for wrongful incarceration cases are becoming more and more frequent. Typically, such cases involve a scenario in which the underlying claimant is arrested, tried and sentenced for a crime and then subsequently, the underlying claimant is either acquitted or released due to new evidence, lack of evidence or procedural mishaps in the initial trial. While more and more states are instituting statutory remedies for wrongful incarceration, the municipality and its law enforcement and prosecutorial entities are still sued for state tort claims and federal civil rights violations. The insured defendants, in turn, tender the matters to their carriers under general liability policies, errors and omissions policies and law enforcement liability policies.

This series of blog posts with discuss the law in various jurisdictions that have addressed coverage issues related to wrongful incarceration under different types of policies. The first jurisdiction we address is New York.

There are two pertinent New York cases that address coverage issues for claims of false arrest, false imprisonment and malicious prosecution. The first is National Cas. Ins. Co. v. City of Mount Vernon, 128 A.D.2d 332 (1987). In City of Mount Vernon, the underlying claimant was arrested in June 1981 and incarcerated until January 7, 1983. Thereafter, the underlying claimant commenced a lawsuit against the City of Mount Vernon (“City”) and the Mount Vernon Police Department to recover damages for, among other things, false arrest and false imprisonment.

National Casualty issued a policy to the City from January 1, 1983 to January 1, 1984, that provided coverage for all sums that the insured becomes legally obligated to pay as damages because of “wrongful acts” which result in “personal injury” caused by an “occurrence.” The term “occurrence” was defined as an event, including continuous or repeated exposure to conditions, which results in “personal injury” during the policy period. The term “personal injury” was defined to include false arrest, detention or imprisonment, or malicious prosecution. Based on the above definitions, the National Casualty policy would be triggered by false arrest, detention or imprisonment during the policy period.

Upon tender, National Casualty denied coverage because the underlying claimant’s arrest in June 1981 occurred prior to the policy’s inception date of January 1, 1983. The Appellate Division disagreed:

Contrary to National’s contentions, the language of the occurrence clause herein ascribes no temporal relevance to the causative event preceding the covered injury, but rather premises coverage exclusively upon the sustaining of specified injuries during the policy period. Thus, the pertinent policy provision provides coverage for an “occurrence”, and thereafter, states that an occurrence “means an event … which results in PERSONAL INJURY … sustained, during the policy period” (emphasis supplied). Indeed, as one commentator has stated in discussing a similar provision, “[t]he policy will not depend upon the causative event of occurrence but will be based upon injuries or damages which result from such an event and which happened during the policy period. It will not be material whether the causative event happened during or before the policy period.” … Accordingly, the operative event triggering exposure, and thus resulting in coverage under the policy, is the sustaining of a specified injury during the policy period.

Id.at 336-337. The Appellate Division held that damage resulting from false imprisonment represented a category of covered personal injury, and that such damage was allegedly sustained, at least in part, when the policy was in force, i.e. from January 1, 1983 to January 7, 1983. As a result, the City was entitled to coverage under the National Casualty policy.

The second case is Town of Newfane v. General Star National Ins. Co., 14 A.D.3d 72, 784 N.Y.S.2d 787 (2004). Selective Insurance (“Selective”) issued a policy, effective April 26, 2000, that provided coverage for claims for damages because of “personal injury” caused by an offense arising out of the Town of Newfane’s business, but only if the offense was committed during the policy period. The term “personal injury” was defined, in part, as “injury, other than ‘bodily injury’ arising out of one or more of the following offenses: a. [f]alse arrest, detention or imprisonment; [or] b. [m]alicious prosecution.”

The underlying claimant alleged that he was “charged, arrested and jailed under a warrant” on June 7, 1989. He was again jailed for several hours on April 9, 1990. On June 6, 1990, he was convicted of 36 counts of violating Town Law and zoning ordinance. He was sentenced and remanded to jail on July 23, 1990. He was then discharged from custody later that day and the judgment of conviction was reversed on appeal on July 2, 1991, at which time all but one count was dismissed. The criminal prosecution on that one remaining count remained dormant until November 28, 2000, when his motion to dismiss for lack of speedy trial was granted.

The underlying claimant sued the Town of Newfane for malicious prosecution, false arrest, and false imprisonment, among other claims. Initially, the Appellate Division noted that the “offenses” of false imprisonment and false arrest were “committed” outside the Selective policy’s effective date of April 26, 2000. The only issue before the court was whether there was coverage for the malicious prosecution claim “where the criminal prosecution was initiated before the effective date of the policy but terminated in favor of the accused during the policy period.” The Appellate Division concluded, based on the language of the policy, that as a matter of law, there was no coverage for an underlying malicious prosecution cause of action because the date of the commencement of the underlying criminal prosecution was the controlling date for purposes of insurance coverage. The Appellate Division explained that

… the “offense” of malicious prosecution was “committed”, for purposes of determining the issue of insurance coverage, in 1989, more than a decade before the effective date of the Selective policy. That “offense was committed” when the prosecution was instituted, allegedly without probable cause. Such initiation of the criminal prosecution is the essence or gist of the tort of malicious prosecution. Moreover, the legal injury or “offense” incurred by the plaintiff in the underlying action (albeit not necessarily the damages incurred as a result of that “offense”) is the same irrespective of whether the criminal prosecution was known to be baseless when it was initiated or only subsequently demonstrated to be lacking in merit. Therefore, the injury to the accused was contemporaneous with the initiation of the criminal proceeding against him and hence complete long before the inception of coverage and the incidental termination of the criminal prosecution. We thus conclude that, for purposes of determining insurance coverage, malicious prosecution is not a continuing tort. We further conclude that the policy is to be construed as “fixing the point of coverage for malicious prosecution at one readily ascertainable date; the date on which the acts [we]re committed that [might] result in ultimate liability” or “when the alleged tortfeasor t[ook the] action resulting in the application of the [s]tate’s criminal process to the [plaintiff in the underlying action]”.….

Id. at 75-80 (internal citations omitted).

The Appellate Division acknowledged that a malicious prosecution claim may be premised on the initiation or continuation of a criminal proceeding without probable cause, and such claim does not accrue for purposes of the statute of limitations until the ultimate dismissal or favorable termination of the criminal charges. The Appellate Division further recognized that the damages incurred by reason of the continuation of a criminal prosecution might continue. Nevertheless, the court held that none of these considerations were determinative as the policy language focused on when the offense was committed, not when an action could have been brought or damages fully ascertained.

The New York courts emphasize construing and applying the policy language and considering whether false imprisonment, false arrest and malicious prosecution are deemed as “personal injury” or “offense” and whether the injury or the offense is required to happen during the policy period.

The next installment will review the law in California. In the meantime, if there are any questions about another jurisdiction, please contact us and we can address your questions directly.