MEMORANDUM OF LAW

SETOFF

INTRODUCTION

When two parties in a civil lawsuit have valid monetary claims against each other, the court may enter a net judgment by applying a setoff of the one claim against the other. For example, if A is awarded $100 against B and B is awarded $150 against A, a net judgment may be entered in favor of B in the sum of $50.

However, when the parties have liability insurance, cross-judgments in the full amounts should be entered so that each insurer is required to pay the full amount of damages suffered by each claimant. For example, if A is awarded $100 against B and B is awarded $150 against A, cross-
judgments should be entered so that A's insurer pays $150 to B and B's insurer pays $100 to A.

The rationale for this rule is that a setoff creates an "inequitable windfall to an insurance carrier at the expense of the carrier's insured."1

SETOFF STATUTES

"Where cross-demands for money have existed between persons and an action is thereafter commenced by one such person, the other person may assert in the answer the defense of payment in that the two demands are compensated so far as they equal each other."2

"If a claim asserted in a cross-complaint is established at the trial and the amount so established exceeds the demand established by the party against whom the cross-complaint is asserted, judgment for the party asserting the cross-complaint must be given for the excess.3

COMPARATIVE FAULT

California follows a pure form "of the doctrine of comparative negligence . . . under which the assessment of liability in proportion to fault proceeds in spite of the fact that the plaintiff is equally at fault as or more at fault than the defendant."4 This rule is based on two precepts: "The first is that one whose negligence has caused damage to another should be liable therefor. The second is that one whose negligence has contributed to his own injury should not be permitted to cast the burden of liability upon another. Therefore, in all actions for negligence resulting in injury to person or property, the contributory negligence of the person injured in person or property shall not bar recovery, but the damages awarded shall be diminished in proportion to the amount of negligence attributable to the person recovering."5

SETOFF IF UNINSURED

"If neither party is insured, a mandatory setoff rule operates in the reasonable fashion contemplated by traditional setoff principles, eliminating an unproductive exchange of money between the adversary parties and protecting each party from the potential insolvency of the other. In cases in which neither party in a comparative fault action is covered by liability insurance, no conflict arises between ordinary setoff rules and the maintenance of a fair comparative fault system, since in such circumstances a setoff procedure simply eliminates a superfluous exchange of money between the parties. ¶ Moreover, in an uninsured setting a setoff rule may operate to preclude an unfair distribution of loss if one of the parties is totally insolvent or is unable to pay a portion of the judgment against him."6

NO SETOFF WITH LIABILITY INSURANCE

"Since the adoption of comparative negligence in Li v. Yellow Cab Co., our court has been called upon, in a succession of cases, to determine the effect of the Li decision upon a number of distinct legal doctrines. In the instant case, we address another important issue arising in the wake of Li, namely, the proper application of 'setoff' principles in comparative negligence or comparative fault cases. [I]n a comparative fault setting the practical effect that a setoff rule has on opposing parties differs dramatically by reason of whether or not the affected parties are insured. If each of the parties carries adequate insurance to cover the damages, then a mandatory setoff rule clearly operates inequitably. The setoff produces results detrimental to the interests of both parties and accords the insurance companies of the parties a fortuitous windfall simply because each insured happens to have an independent claim against the person he has injured. Under these circumstances, we conclude that general principles of equity and common sense dictate that California courts not blind themselves to the realistic status of the parties vis-a-vis insurance. In a comparative fault setting, the appropriate application of setoff principles cannot be determined in the absence of a consideration of the parties' insurance status. In cases in which the opposing claimants in a comparative fault action carry adequate liability insurance, however, the effect of a mandatory setoff rule differs completely, and the inequities which give rise to the present plaintiff's and defendant's objection to the trial court's action become readily apparent.

Such a mandatory rule diminishes both injured parties' actual recovery and accords both insurance companies a corresponding fortuitous windfall at their insureds' expense. Indeed, in this context, application of a mandatory setoff rule produces the anomalous situation in which a liability insurer's responsibility under its policy depends as much on the extent of the injury suffered by its own insured as on the amount of damages sustained by the person its insured has negligently injured."7

SETOFF AMONG MULTIPLE INSURERS

In another context, some insurers may claim a credit for sums paid by another insurer to a common policyholder for obligations that the insurers share. In one case where a policyholder settled with the first insurer for an unallocated $600,000, a second insurer was denied a setoff for any portion of the settlement because the second insurer could not show that the first insurer had paid its policyholder to compensate it for any obligation the two insurers shared.8