Legal Alerts

Recent Decision Suggests Erosion of Liability Insurer’s Duty

03.05.13

Liability-insurance policies typically create two obligations for insurers: a duty to defend and a duty to indemnify. The duty to defend is the broader of the two duties. It is generally applicable when there is any argument that a claim is covered. The duty to indemnify, on the other hand, turns on whether there is actually coverage for a claim.

California courts have been influential in shaping judicial approaches to new insurance-coverage issues. A January 2013 decision bearing on the scope of the duty to defend from a federal judge in California continues that tradition.

The case involves an insurer’s declaratory-judgment action against its policyholder. See Nat’l Union Fire Ins. Co. of Pittsburgh v. Seagate Tech., Inc., No. C04–01593, 2013 WL 308875 (N.D. Cal. January 25, 2013). A claim was brought against the policyholder in an underlying lawsuit. The insurer defended under a reservation of rights, but sought a declaration from the court that it had no further duty to defend. The insurer’s effort succeeded at the trial-court level.  After a final judgment in its favor, the insurer stopped defending the policyholder in the underlying litigation. But the policyholder appealed the trial court’s determination regarding the duty to defend. The appellate court reversed, holding that the trial court erred in concluding that the insurer’s duty to defend terminated. 

On remand, however, the policyholder claimed that the insurer had breached its contract by failing to defend following the trial-court judgment that it had no further duty. Because of the appellate court’s reversal, the insurer’s duty to defend was reinstated retroactively to the point that it stopped. 

In one of the few decisions to thus far address this question, however, the federal court concluded that the insurer had not breached its duty to defend by relying a final trial-court judgment – even though that decision later turned out to be erroneous. Because the policyholder had made no effort to stay the effect of the declaratory judgment that there was no duty to defend while it pursued an appeal, the court reasoned that the insurer was entitled to rely on the judgment and not risk being found in breach if the decision was later reversed. 

It will be interesting to see how this issue develops over time. One could argue that it represents an erosion of the scope of the duty to defend. At a minimum, it raises questions about the effect of judgments and appeals in declaratory-judgment actions regarding the scope of the duty. 

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LaFromboise, Antoine J.
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