Insurance Law Update - August 2005

• California Supreme Court Affirms Insurers’ Right to Reimbursement – By Joseph Pelochino

• Massachusetts Supreme Court Addresses Insurance Requirements for Employee Leasing Companies – By Vanessa O’Brien

• Claims of Abuse and Bodily Injury Considered Separate Occurrences – By Lisa Henderson

• Illinois Court Upholds Denial of Coverage for Defective Construction Claim – By James Pinkstaff

The California Supreme Court held that an insurer may obtain reimbursement of all defense costs expended under a reservation of rights when it is determined that no claim in the underlying action raised a potential for coverage. In Scottsdale Ins. Co. v. MV Transportation, 2005 WL 1712889 (Cal., July 25, 2005), the insured, MV Transportation, was sued by a third party and tendered the defense to its insurer, Scottsdale Insurance Company. Scottsdate advanced the costs of defending MV in the underlying action, but did so under a reservation of its right to recoup costs expended in the defense of claims that raised "no potential for coverage" under the two CGL policies at issue.

Scottsdale brought a coverage action seeking a declaration that it owed no duty to defend and was entitled to reimbursement of its defense fees and costs. Unsuccessful in the trial court, Scottsdale pursued the coverage dispute through the appellate process until the state court of appeal ruled there was never any possibility of coverage under the policies. The court, however, denied Scottsdale’s request for reimbursement of defense costs already incurred, reasoning that the insurer’s duty to defend was extinguished only prospectively.

The California Supreme Court accepted review and reversed. In so doing, it affirmed and clarified its decision in Buss v. Superior Court, 16 Cal.4th 35 (1997). Buss involved the reimbursement of expenses incurred in the defense of a "mixed" action of uncovered and potentially covered claims. The Buss court held that an insurer has a right of reimbursement of defense costs expended on those claims that were not ever potentially covered.

MV attempted to avoid application of Buss by arguing that it only applied to "mixed" actions, and not to an action such as that presented here, in which no claim was ever potentially covered.

The state high court disagreed. It reasoned that an insurer, facing unsettled law concerning its policies’ potential coverage of third party claims, should not be forced to either deny a defense outright, and risk a bad faith suit by the insured, or to provide a defense where it owes none without any recourse against the insured for costs thus expended. The insurer should be free, in an abundance of caution, to afford the insured a defense under a reservation of rights, with the understanding that reimbursement is available if it is later established, as a matter of law, that no duty to defend ever arose.

The Massachusetts Supreme Court clarified and explained the law on insurance coverage for employee leasing companies in Home Insurance Company v. Liberty Mutual Insurance Co., 444 Mass. 599, 830 N.E.2d 186 (July 7, 2005). In Home, an employee of Abel Leasing Company, Inc. was leased to Pure Tech International, Inc. for employment at Pure Tech’s Massachusetts facility. The employee sustained injuries while leased to Pure Tech, filed a workers’ compensation claim against Abel, and received compensation for his claims through Abel’s insurer, Liberty Mutual. The employee also filed a third-party civil action against Pure Tech, alleging negligence.

Pure Tech’s CGL insurer, Home Insurance, filed a complaint against Liberty Mutual seeking a declaration as to Liberty’s obligations. The motion judge granted summary judgment in favor of Liberty, holding that the policy imposed no duty on Liberty to defend or indemnify against a negligence claim filed by an injured employee who had not rejected the workers’ compensation system.

The Massachusetts Supreme Judicial Court transferred the case on its own motion. It focused its opinion on regulations defining the responsibilities of employee leasing companies with regard to workers’ compensation. Pursuant to those regulations, the employee leasing company must purchase and maintain workers’ compensation via separate insurance policies for each client company. The employee leasing company must be the named insured on each such policy, with the particular client company identified on the policy by attachment of an appropriate endorsement indicating that the policy provides coverage for leased employees in accordance with Massachusetts law.

The Liberty Mutual policy named Abel as the sole insured and listed the insured as located at Abel’s corporate address. The line designating other workplaces referred to attached schedules for each client company. Liberty issued a separate policy to Abel, naming the insured as "Abel Leasing Company, Inc. L/C/F/ [labor company for] Pure Tech of Massachusetts." The address was identified as Abel’s corporate address and the line designating other workplaces referred to the location of Pure Tech’s Massachusetts operation where Abel employees reported to work. The court found that "Named Insured" has a clear and explicit meaning: the individual or entity listed on the declarations page. Neither of the policies named Pure Tech as an insured nor recited Pure Tech’s Massachusetts location or corporate address as that of the insured. The court therefore concluded that Pure Tech was not insured by the Liberty policies, and Liberty had no duty to defend Pure Tech or indemnify Home for the expenses it incurred in settling the civil action.

The decision is one of a very few cases addressing employee leasing arrangements.

In TIG Ins. Co. v. San Antonio YMCA, 2005 Tex. App. Lexis 5402, 2005 WL 1629801 (Tex.App.—San Antonio July 13, 2005), the Texas Court of Appeals considered the interplay between the CGL coverage form and an endorsement providing certain coverages for claims of sexual abuse. The coverage action arose out of the filing of six separate lawsuits alleging negligent hiring by the YMCA as a result of the alleged sexual abuse of several children at a YMCA summer camp. TIG contributed $1 million towards the settlement of three of the lawsuits. TIG then filed a declaratory judgment action asserting its policy limits were exhausted and it had no further duty to defend YMCA in the remaining three lawsuits.

The endorsement provided that all acts of "Sexual Abuse Occurrence" by an alleged perpetrator were deemed to be one occurrence regardless of the number of persons, incidents or locations involved. As the policy carried a limit of $1 million per occurrence and $2 million in the aggregate, TIG argued that it had exhausted its policy limits by its contribution to the prior settlement. YMCA argued that the CGL coverage form granted coverage independent from that granted under the endorsement and, therefore, a claim may trigger coverage as both an "occurrence" and a "Sexual Abuse Occurrence." Accordingly, YMCA argued that it was entitled to an additional $1 million in coverage under the general aggregate.

The court found that the endorsement did not provide a separate grant of coverage because it did not contain coverage language of its own. Instead, the endorsement stated that it merely "modifies the coverage" provided under the CGL coverage form. However, the court further noted that the "Each Occurrence Limit" was defined as the most TIG must pay for damages because of all "bodily injury" arising out of any one "occurrence" or any one "Sexual Abuse Occurrence." Accordingly, the court found that because the policy distinguished between an "occurrence" and a "Sexual Abuse Occurrence," and the underlying petitions alleged claims for bodily injury as a result of physical abuse apart from the allegations of sexual abuse, the remainder of the aggregate limit was available to satisfy the claim and TIG had a continuing duty to defend YMCA.

In Viking Constr. Mgmt., Inc. and Cont’l Cas. Co. v. Liberty Mut. Ins. Co., No. 1-03-3152, 2005 WL 1225452 (Ill. App. Ct. May 24, 2005), the Illinois Appellate Court analyzed an issue in great dispute: whether defective construction claims fall under coverage provided by CGL policies. The court concluded that a CGL insurer (Liberty Mutual) had no duty to defend a construction management company (Viking) with respect to an underlying breach of contract action.

In this case, Viking had been hired by Woodland Community School District ("Woodland") to provide construction management services in connection with the design and construction of a new middle school. During the course of construction, portions of a masonry wall collapsed due to inadequate temporary bracing installed by the masonry subcontractor, causing damage. Woodland filed a lawsuit against Viking claiming damages for the repair and replacement of damage as a result of the wall collapse. Viking, an additional insured on the masonry subcontractor’s CGL policy provided by Liberty Mutual, tendered the defense of the Woodland litigation to Liberty Mutual. Liberty Mutual denied the tender of the defense and asserted that the Woodland litigation consisted of a breach of contract claim which was not covered by the CGL policy.

Viking filed a declaratory judgment action against Liberty Mutual seeking coverage. The trial court granted Viking’s motion for summary judgment and held that Liberty Mutual had a duty to defend.

The appellate court reversed, holding that the claim was not covered by the CGL policy because there was no "occurrence" or "property damage" as defined by the policy. The court noted that the underlying complaint did not include a claim for damage to property other than the building itself. Moreover, the damages sought did not represent property damage as defined by the CGL policy, but rather merely economic losses.

Insurance Law Update is prepared by attorneys on Sedgwick’s Insurance Industry Team. For more information please contact Laura Goodman, Editor and Special Counsel in Sedgwick's San Francisco office:

This communication is published as an information service for clients and friends of the firm and is made available with the understanding that it does not constitute the rendering of legal advice or other professional service.

Insurance Law Update Insurance Law Update is prepared by attorneys on Sedgwick’s Insurance Industry Team. For more information please contact Laura Goodman, Editor and Special Counsel in Sedgwick's San Francisco office.

This communication is published as an information service for clients and friends of the firm and is made available with the understanding that it does not constitute the rendering of legal advice or other professional service.

© 2005 Sedgwick, Detert, Moran & Arnold LLP

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.