On March 7, 2013, the Supreme Court of Washington joined a
growing number of states holding that an insurance company cannot
recoup defense costs paid or incurred under a reservation of rights
defense, even where a court subsequently rules that the carrier
does not have a duty to defend. This opinion, a 5-4 decision in
National Surety Corp. v. Immunex Corporation, No. 86535-3,
2013 WL 865459 (Wash. March 7, 2013) (en banc)
("Immunex"), rejects an insurer's attempt to
have it both ways by enjoying the protections, but subsequently
seeking to shirk the costs, associated with defending pursuant to a
reservation of rights. The court's well-reasoned opinion
properly places on the insurance company the "risk of the
defense decision," and soundly rejects reimbursement of
defense costs as a unilateral amendment of the insurance contract
and an erosion of the broad duty to defend.
This coverage dispute arose from a series of underlying complaints
filed against Immunex, beginning in 2001, alleging that the company
reported inflated average wholesale prices of its drugs, which
allowed providers of the drugs to receive Medicare and other
reimbursements in amounts greater than what they actually paid.
Id. at *1. On October 3, 2006, Immunex tendered defense of
the litigation to National Surety. In a March 2008 reservation of
rights letter, National Surety disclaimed any duty to defend or
indemnify, but agreed to pay Immunex's defense costs
"until such time as [National Surety] can obtain a court
determination confirming its coverage decision." Id.
at **1-2. National Surety also purported to "reserve the right
to recoup the amounts paid in defense if it is determined by a
court that there is no coverage or duty to defend and that
[National Surety] is entitled to reimbursement[,]"
Id. at *2, despite the fact that the policy did not
include a reimbursement clause. National Surety then filed a
declaratory judgment action against Immunex. Id.
In April 2009, the trial court held that National Surety did not
have a duty to defend the complaints but nevertheless was
responsible for the defense costs Immunex incurred prior to the
ruling, unless National Surety could show that it was substantially
prejudiced by Immunex's untimely notice of the claim. The
Washington Court of Appeals affirmed. Id. In affirming the
Washington Court of Appeals, the Washington Supreme Court,
resolving a matter of first impression in Washington, ruled that an
insurer "may not seek to recoup defense costs incurred under a
reservation of rights defense while the insurer's duty to
defend is uncertain." Id. at *9.
The Washington Supreme Court rejected the reasoning of and refused
to follow "the leading California decision allowing recoupment
of defense costs," Buss v. Superior Court, 16 Cal.
4th 35 (1997) ("Buss"), as well as similar
opinions from other jurisdictions (including Colorado, Connecticut,
Florida, New Jersey, and Tennessee). Id. at *5. Instead,
the court endorsed the reasoning and holdings of a more recent line
of cases, including decisions issued by state supreme courts in
Illinois, Pennsylvania and Wyoming, which refused "to allow
reimbursement of defense costs based on a later determination of no
coverage." Id. at *6. These cases characterized
reimbursement as a unilateral modification of an insurance contract
and as a "retroactive erosion of the broad duty to
defend." Id. at *6 (citations and inner quotation
marks omitted).
In so ruling, the court discussed the benefits an insurance carrier
receives, as well as the risks it assumes, when deciding whether to
defend its policyholder. On the one hand, providing a defense
benefits the insurance carrier by allowing it to "monitor the
defense and better limit its exposure," and defending subject
to a reservation of rights "insulates [the carrier] from
potential claims of breach and bad faith, which can lead to
significant damages, including coverage by estoppel."
Id. at *7 (citation omitted). In exchange, however, the
carrier must pay for the policyholder's defense until a court
declares that no defense is owed. Id. On the other hand,
"when an insurer declines to defend altogether, it saves money
on legal fees but assumes the risk it may have breached its duty to
defend or committed bad faith." Id.
The court rejected National Surety's view that an insurer can
have the best of both worlds: (1) "protection from claims of
bad faith or breach," without (2) having "any
responsibility for the costs of defense if a court later determines
there is no duty to defend. This 'all reward, no risk'
proposition renders the defense portion of a reservation
of rights defense illusory." Id. The court further
reasoned that disallowing reimbursement of defense costs was
"most consistent with Washington cases regarding the duty to
defend, which have squarely placed the risk of the defense decision
on the insurer's shoulders." Id.
The court also addressed National Surety's two, related
untimely notice defenses, and thus considered: (1) whether the
carrier is liable for pre-tender defense costs, and (2) whether
National Surety could show, as a matter of law, "actual and
substantial prejudice" as a result of Immunex's untimely
notice. As to the first issue, the court reasoned that the duty to
defend arises upon the filing of a complaint alleging facts that
potentially fall within the policy's coverage, not at the time
notice of the claim is tendered. Id. at *10. Accordingly,
unless National Surety could show that late notice caused
substantial prejudice, Immunex could recover fees and costs
incurred from the date the complaint was filed through the date
that the trial court ruled that National Surety did not have a duty
to defend. Id. Addressing the second issue, the court
recognized that an insurer is excused from paying defense costs
where the policyholder's late notice caused actual and
substantial prejudice. Id. at * 10 and n.4. Because
"questions of prejudice generally involve disputed
facts[,]" the court remanded this issue to the lower court to
determine whether National Surety could prove "actual and
substantial prejudice flowing from its insured's untimely
tender of the claim." Id. at *10.
The Immunex decision is particularly instructive for
policyholders whose insurance carriers provide them with a defense
pursuant to a reservation of rights. Where the policy is silent on
recoupment of defense costs, it is important for policyholders to
push back against carriers' attempts to purport to reserve
reimbursement rights when no such right ever even existed (in the
policy or elsewhere). While the law on this issue is clearly mixed,
many states have not yet addressed this issue, and the
Immunex decision provides another piece of persuasive
authority rejecting a carrier's attempt to have its cake and
eat it, too.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
