Canada: On-Risk E-Bulletin @ Gowlings: April 17, 2012 - Volume 10, Number 2

In this issue:

  • Don't Change the Channel(ing): Time to Revisit the Nuclear Liability Exclusion
  • Revisiting the Duty to Defend:  A Case Comment on 137328 Canada Inc. v. Economical Mutual Insurance Company


By: Heather Gray

The vast majority of media attention on the nuclear liability regime in Canada focuses on the passage of Bill C-15 (The Nuclear Liability and Compensation Act). Bill C-15, which died on the order paper at the end of the last Parliament, was the Government's fourth attempt to enact legislation that would, among other things, increase the liability of nuclear operators from $75 million to $650 million. What has received little media attention is the corollary of any increase to an operator's liability – that is, an increased need for insurance coverage and market capacity.

In order to provide nuclear operators with the insurance coverage they are obligated to carry, the insurance industry needs to have adequate capacity. In order to create capacity, the industry has historically relied on the principle of channeling. Channeling - which increases capacity by curtailing the need to make nuclear liability insurance available to other parties – is accomplished through the use of a nuclear liability exclusion1, a version of which can be found in virtually every policy of insurance issued by insurers across Canada and in jurisdictions around the world.

The purpose and intent of this exclusion is to ensure that losses caused by a nuclear incident will not be covered under any insurance policy other than those issued to the operators of nuclear facilities. By "channeling" coverage to the operators, available capacity is not diluted.

The language of this type of exclusion is fairly standard across the industry and, to date, has never been litigated in the context of a nuclear incident. Given the potentially catastrophic consequences of a nuclear incident, it is a near certainty that the language of this exclusion will be the source of significant litigation as injured parties seek more and deeper pockets.

Litigation involving the interpretation of an exclusion in an insurance policy is always cause for concern from an insurer's perspective regardless of how carefully an exclusion has been drafted. In Canada our Courts have consistently held2 that the first step when interpreting ambiguous policy language is to rely on general rules of construction while striving to ensure that similar insurance policies are construed consistently. When these rules of construction fail to resolve an ambiguity, however, the policy will be construed against the insurer – with coverage provisions interpreted broadly and exclusion clauses narrowly.

Several commentators have regarded the nuclear liability exclusion as overlooked3 and not well understood4. In this writer's view, the length and complexity of this exclusion lends itself to ambiguity and is at risk of a narrow construction. Given the wide spread use of this exclusion, an adverse judgment could have a calamitous affect on the principle of channeling - an affect that looks to have been top of mind for the drafters of Bill C-15.

In addition to re-establishing the current Act's principles, the drafters closed several potential "gaps" in the interaction between the exclusion and the Act. For example, the IBC exclusion states:

This insurance does not apply to (a) liability imposed by or arising from any nuclear liability act, law or statute, or any law amendatory thereof.

The actual liability "imposed by or arising from any nuclear liability act..." is found in section 3 of the current Act, which imposes a duty on an operator to: that no injury to any other person or damage to any property of any other person is occasioned as a result of the fissionable or radioactive properties ...

Arguably, a nuclear operator could be liable under the Act as well as in tort or contract. The exclusion would not necessarily apply where there are concurrent and non-derivative allegations based on common law principles. Bill C-15 sets out to extinguish this possibility in section 7:

An operator is not liable for damage caused by a nuclear incident except as provided under this Act.

Another potential gap is with respect to thorium. The current Act specifically excludes thorium from its definition of "nuclear material". If a nuclear incident involving thorium occurred, it would not be caught by the exclusion "as liability imposed by a nuclear liability act". While Canada does not currently use thorium in its nuclear reactors, the demand for cleaner sources of energy could encourage a movement in that direction especially as its use as a fuel continues to gain momentum in countries like China. Bill C-15 includes thorium.

The language of the current exclusion has remained relatively unchanged since it was initially drafted over 40 years ago. The enactment of new legislation will serve as a good opportunity for insurers to revisit the language of the exclusion to both reflect the changes envisaged by Bill C-15 and to ensure that the principle of channeling is not compromised in view of the narrow manner in which our Courts construe insurance policy exclusions.


By: Erin Callery

Earlier this year, the Ontario Superior Court of Justice had an opportunity to consider an insurer's duty to defend and when that duty will include funding independent defence counsel for an insured party.  The court confirmed that this exceptional obligation will only arise where a true divergence of interests occurs between the insurer and its insured, raising a reasonable apprehension of a conflict of interest in respect of counsel retained by the insurer.  Until that point is reached, the insured's right to a defence and the insurer's right to control that defence can satisfactorily co-exist.


In 137328 Canada Inc. v. Economical Mutual Insurance Company the insured party, 137238 Canada Inc. c.o.b. as Alliance Security ("Alliance"), brought an application against its insurer, Economical, requesting a declaration that it was entitled to independent defence counsel at Economical's expense.  Alliance, a company that provides security and alarm services, was named as a defendant in a lawsuit by one of its clients arising out of a roof collapse that caused millions of dollars in structural and water damage.  Alliance was insured by Economical pursuant to a commercial general liability policy with limits of two million dollars.  The lawsuit claimed damages well in excess of those limits.  Upon notice of the claim, Economical advised Alliance that it would provide coverage and defend the lawsuit.  However, in light of the over limits exposure, Economical further advised Alliance that it may wish to retain its own counsel to advise it with respect to its excess exposure.

Alliance did retain counsel and immediately instructed Economical's chosen defence counsel to cease taking further steps in the litigation on its behalf.  Alliance also demanded that Economical fund its chosen counsel alleging that the over limits exposure created a reasonable apprehension of a conflict of interest between itself and Economical.  Economical objected, noting that it had raised no coverage concerns, save and except for the quantum of the claim.  Economical reaffirmed its willingness to provide coverage and defend the main action on behalf of Alliance. In spite of these representations from Economical, Alliance proceeded to deliver its own statement of defence and named Economical as a third party to the main action.  Alliance then brought an application seeking declarations that it could choose and instruct its own counsel, that Economical should be required to pay for Alliance's legal costs, including independent counsel, and confirming that Alliance had not forfeited its right to coverage because of its actions.

Reasons for Decision

Justice Smith, hearing the application in January 2011, rejected Alliance's assertions that the over limits exposure it faced in the main action created a conflict of interest requiring Economical to fund independent counsel.  Justice Smith confirmed that, in the normal course, the duty to defend on the part of an insurer included the right of the insurer to choose and instruct defence counsel.  In this case, there was nothing in the policy of insurance that suggested the duty to defend was modified to require a different approach. On reviewing the Affidavit evidence of the parties, he further held that there was no reasonable apprehension of a conflict of interest on the part of counsel retained by the insurer: for the time being, there was no divergence of interests between the insurer and its insured in defending the lawsuit against Alliance.  His honour noted that while facts could emerge at a later date that may raise concerns about a conflict of interest on the part of the insurer, that in the absence of any present divergence of interest there was no basis at law to deviate from the normal course and require the insurer to fund independent counsel for its insured.

Justice Smith reviewed and relied upon the Ontario Court of Appeal judgment in Brockton (Municipality of) v. Frank Cowan Co. Ltd., in which, he noted, the applicant had not contested that an insurer has the prima facie right to choose and instruct defence counsel.  Citing from para. 31 of Brockton, supra,

[31]         The appellant does not contest that in the first instance this right to control the defence (including the appointment of counsel) is that of the insurer. The insurance contract makes this clear. It provides that it is the role of the insurer to investigate and defend claims covered by the policy and it is the role of the insured to assist in that regard. It is the insurer which conducts the defence. This includes the appointment of defence counsel. Indeed this right of the insurer to control the defence can be seen as being in return for its obligation to pay a proper claim. LeBel J.A. made this point in Zurich of Canada v. Renaud & Jacob, [1996] R.J.Q. 2160 (Que. C.A.) at 2168.

Justice Smith confirmed that the language of the Economical policy was similar in its wording and intent, giving Economical the primary right to direct the defence of the main action.

In his reasons, Justice Smith recognized that an insurer's right to control the defence of its insured is not absolute.  If the insurer puts counsel in a position of having conflicting mandates it must surrender control of the defence to an insured who wishes to retain its own counsel paid for by the insurer.  This type of case may arise where, for example, there are multiple allegations of liability against an insured, some of which fall within policy coverage and some that do not.  If the insurer issues a reservation of rights because of coverage questions which depend upon an aspect of the insured's own conduct that is in issue in the underlying litigation, a conflict may exist. On the other hand, where the reservation of rights is based on coverage disputes which have nothing to do with the issues being litigated in the underlying action, there is no conflict of interest requiring independent counsel paid for by the insurer. 

In the instant case, the coverage concern raised by Economical with respect to the claim against Alliance had nothing to do with the conduct of the insured and related solely to the quantum of the claim.  Since Justice Smith found no reasonable apprehension of conflict of interest on the part of counsel appointed by Economical to defend the civil action, and no divergence of interest at that point in time, he dismissed the application by Alliance as it related to payment of its legal costs by Economical.  He further found that the possibility of a coverage issue arising in the future, of which neither the insured nor the insurer was currently aware, was speculative and insufficient to raise a reasonable apprehension of a conflict of interest on the part of counsel appointed by the insurer.  There was no basis for requiring Economical to surrender its control of the defence.

Closing Comments

This decision is significant in confirming the insurer's prima facie right to control defence of actions against its insured where coverage under a liability policy may be triggered.  The decision was also of particular importance in Ontario, where there was no reported case specifically determining the issue of whether a claim in excess of policy limits would trigger any obligation on the part of the insurer to fund independent counsel.  Although not cited in his reasons, Justice Smith's decision in this matter is consistent with British Columbia case law, such as Fredrikson v. Insurance Corp. of British Columbia and McLean v. Insurance Corp. of British Columbia, which has similarly held that an insured's exposure in excess of policy limits does not in and of itself give rise to a requirement that the insurer retain independent counsel for its insured.

Editorial Note:  The respondent, The Economical Mutual Insurance Company, was represented in this application by Pasquale Peloso, a partner in the Ottawa office, and Erin Callery.


1. For example, see IBC Form 2100 Nuclear Energy Liability Exclusion.

2. For a recent example see, Progressive Homes Ltd. v. Lombard General Insurance Co. of Canada, [2010] 2 SCR 245.

3. Coleen DeMerchant;

4. Andrew M. Roman,

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.

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