Introduction
A liability insurer that wrongfully fails to defend may be found to be liable for breach of contract and bad faith.[1] Having defaulted, the insurer may not invoke the rate limitation provision of Civil Code § 2860 retroactively.[2] An insurer that has wrongfully abandoned its policyholder has no voice in the conduct of the policyholder’s defense nor in settlement and may not seize control of the defense[3] nor control its cost[4] by belatedly accepting its duty to defend. However, a defaulting insurer which recants its failure to defend may at most mitigate its damages and limit its exposure to bad faith liability.[5]
Estoppel, Waiver, and Forfeiture
Estoppel, waiver, and forfeiture[6] are closely related legal concepts by which an insurer may lose legal rights to which it might otherwise be entitled.[7] “An insurer is estopped from asserting a right, even though it did not intend to mislead, as long as the insured reasonably relied to its detriment upon the insurer’s action.”[8] A waiver may be either express . . . or implied . . . indicating an intent to relinquish the right.[9] An insurer may be found to have waived a policy condition without any showing of detrimental reliance by the insured.[10] “In the law, ‘forfeiture’ is defined as ‘[a] deprivation or destruction of a right in consequence of the nonperformance of some obligation or condition.’”[11]
A Defaulting Insurer May Not Control the Policyholder’s Defense
“An insurance company may not wrongfully refuse to defend its insured and thus force the insured into the position of having to engage outside counsel, and then, because the defense was not handled in a manner to the liking of the company, refuse to hold the insured harmless against payment of fees for all services reasonably performed in such defense. Surely the insurance company will not favorably be heard to urge that plaintiff’s counsel acted improperly when he, knowing his clients’ financial position, nevertheless refused to put himself ‘in the position of leaving these clients in the lurch’ and ‘went right on through with the defense of the action.’”[12]
California Courts of Appeal have pronounced a bright line rule to discourage insurers from wrongfully refusing to fund a full defense and provide the policyholder with independent counsel. “Breach of duty to defend also results in the insurer’s forfeiture of the right to control defense of the action or settlement, including the ability to take advantage of the protections and limitations set forth in section 2860.”[13] “‘[I]f the insurer wrongfully refuses to defend, leaving the insured to his own resources to provide a defense, then the insurer forfeits the right to control settlement and defense.”[14] “The Court concludes that if [the policyholder] is able to establish a breach of the duty to defend, its damages are not limited by California Civil Code § 2860. . . . “To take advantage of the provisions of § 2860, an insurer must meet its duty to defend and accept tender of the insured’s defense, subject to a reservation of rights.” [Because the insurer did not defend], the Court concludes defendant cannot avail itself of the protections and limitations set forth in § 2860.”[15]
“When an insurer wrongfully refuses to defend, the insured is relieved of his or her obligation to allow the insurer to manage the litigation and may proceed in whatever manner is deemed appropriate.”[16] “When [the insurer] refused plaintiffs’ tender, it breached the contract. Once [the insurer] wrongfully denied a defense, it gave up the right to control the litigation. Before an insurer rejects a tender, it must make an adequate investigation of the facts. Failure to do so bars the insurer from denying the tendered defense, and subjects it to liability for the insureds’ full attorney’s fees and costs incurred thereafter with other counsel.”[17] “[A]n acceptance of [the insurer’s] position – that ‘insurers always can take advantage of [section] 2860 despite immediately failing to meet their burden to defend’ – would encourage insurers to reject their Cumis obligations for as long as they chose because they knew they could invoke the limitations and remedies of section 2860 at any time.”[18] By its coverage “denial, the insurer has lost its right to control the litigation.”[19]
Federal courts are in accord. “If an insurer breaches its contractual duty to defend, it is ‘liable for attorneys’ fees as provided in the policy, or as “incurred in good faith, and in the exercise of a reasonable discretion” in defending the action.’ Zurich Ins. Co. v. Killer Music, Inc., 998 F.2d 674, 680 (9th Cir.1993), quoting Cal. Civil Code § 2778. An insurer may not ‘dispute litigation strategies undertaken by the defense in an action which it refused to cover.’ Foxfire, Inc. v. New Hampshire Ins. Co., Nos. C-91-2940, C-91-4364, 1994 WL 361815, at *2 (N.D.Cal. July 1, 1994).”[20]
[1] “[I]t is undeniable that insurance is purchased to provide the peace of mind and security that comes from knowing that if the insured contingency arises, the insurer will defend against the claim. Stated another way, one of the primary benefits of an insurance policy is that the insured can expect the insurer to defend against third party claims. It therefore follows that if an insurer unreasonably fails to defend, it has breached the implied covenant of good faith and fair dealing.” (Campbell v. Superior Court (1996) 44 Cal.App.4th 1308, 1319 (ellipses omitted).)
[2] See, Civil Code § 2860 – Rate Limitation Is Not Retroactive; See unpublished opinion: City Art vs. Travelers.
[3] See, Control of the Defense – Basic Principles
[4] See, How Much Must an Insurer Pay Independent Counsel?
[5] “[A] belated offer to pay the costs of defense may mitigate damages but will not cure the initial breach of duty.” (Shade Foods, Inc. v. Innovative Products Sales & Marketing, Inc. (2000) 78 Cal.App.4th 847, 881.)
[6] See, Estoppel, Waiver, and Forfeiture
[7] Chase v. Blue Cross of Calif. (1996) 42 Cal.App.4th 1142, 1149, 1157 (Chase).
[8] Id. at 1157; Waller v. Truck Ins. Exchange, Inc. (1995) 11 Cal.4th 1, 34 (Waller).
[9] Waller, supra, 11 Cal.4th at 32.
[10] Chase, supra, 42 Cal.App.4th at 1151.
[11] Id. at 1149.
[12] Arenson v. National Auto. & Cas. Ins. Co. (1957) 48 Cal.2d 528, 538.
[13] Intergulf Development LLC v. Superior Court (2010)183 Cal.App.4th 16, 20 (emphasis added); see also, Janopaul K Block Cos., LLC v. Superior Court (2011) 200 Cal.App.4th 1239, 1249.
[14] Fuller-Austin Insulation Co. v. Highlands Ins. Co. (2006) 135 Cal.App.4th 958, 984 (emphasis added).
[15] Atmel Corp. v. St. Paul Fire & Marine Ins. Co. (N.D.Cal. 2005) 426 F.Supp.2d 1039, 1047.
[16] Eigner v. Worthington (1997) 57 Cal.App.4th 188, 196.
[17] Stalberg v. Western Title Ins. Co. (1991) 230 Cal.App.3d 1223, 1233 (emphasis added, ellipses omitted).
[18] The Housing Group v. PMA Captial Insurance Co. (2011) 193 Cal.App.4th 1150, 1157.
[19] Hinton v. Beck (2009) 176 Cal.App.4th 1378, 1384 (emphasis added).
[20] Sentex Systems, Inc. v. Hartford Accident & Indemnity Co. (1995, C.D.Cal.) 882 F.Supp. 930, 946.