The Problem of an Excess Insurer’s Liability When the Primary Insurer Is Insolvent

Polygon Northwest Co. v. American Nat’l Fire Ins. Co. (Div. I, April 7, 2008).

The homeowners association of a condominium development sued the builder, Polygon Northwest, for construction defects arising before 1996 and continuing through 2000. Polygon had primary and excess liability insurance with various carriers during the relevant policy periods. United Capitol Insurance Company, which issued $2 million of primary coverage for 1998-2000, became insolvent in 2000. Great American Insurance Company was the excess insurer for the years when United Capitol was the primary insurer. Assurance Company of America and Commercial Underwriters Insurance Company provided primary coverage in other years, and Assurance and Ohio Casualty Insurance Company provided excess coverage in those years.

Polygon settled with the homeowners association for $7.8 million -- $6,314,000 for damages and $1,486,000 for litigation costs. Each insurer except Great American participated in funding the settlement. Assurance and Ohio Casualty sought equitable contribution from Great American.

Great American argued that someone had to actually pay the full limits of United Capitol’s policies before Great American’s excess coverage became available. Otherwise, it argued, it would be forced to “drop down” and cover United Capitol’s obligations. The trial court ruled that Great American was required to contribute to the settlement, but allocated liability for the $2 million “gap” in coverage created by United Capitol’s insolvency equally among the three excess insurers.

The court of appeals upheld Great American’s obligation to contribute to the settlement, reasoning, “Nothing in Great American’s policies stated that Great American’s liability was contingent on the actual payment of the limits of its underlying insurance.” The court distinguished Rees v. Viking Insurance Co., 77 Wn. App. 716 (1995), where the excess insurer was not liable after the plaintiffs released the primary insurer for less than its policy limit but purported to agree that the plaintiffs could seek additional funds from the excess insurer. The court observed that, unlike the settlement in Rees, the Polygon settlement was “substantially greater” than the limits of United Capitol’s primary policies.

The court of appeals reversed the trial court’s equal allocation of the settlement obligations among the excess insurers. The court held that Great American would not be required to “drop down” to cover United Capitol’s obligations. Great American’s policy addressed the insolvency of a primary insurer by providing that the excess coverage would apply as if the primary coverage were “valid and collectible.” The court reasoned, "Washington law does not, in fact, force insurers to pay for losses that they have not contracted to insure." The court observed that the trial court's role was "not to distribute among the various excess insurers the 'gap' in coverage created by United Capitol's insolvency but, rather, was to define each insurer's liability for the covered loss according to the terms of its policy or policies."

Among other things, the court also held that attorney’s fees were not payable under a supplementary payments provision that covered “costs taxed against the insured” and that the Olympic Steamship rule for attorney’s fees did not extend to equitable contribution claims between insurers.

Two More Federal District Court Judges Hold IFCA Is Not Retroactive

This blog previously reported on Magistrate Judge James P. Donohue’s decision in ESS Enterprises, LLC v. AMCO Insurance Co. (W.D. Wash. 2008) that the Insurance Fair Conduct Act (IFCA) does not apply to conduct predating the effective date of the Act, December 6, 2007. Two federal district court judges have recently followed suit.

1. Malbco Holdings, LLC v. AMCO Insurance Co. (E.D. Wash. 2008)

On March 11, 2008, Chief Judge Robert H. Whaley of the United States District Court for the Eastern District of Washington denied an insured’s motion to amend its complaint to allege an IFCA claim based on conduct occurring before the effective date of the Act.

In 2004, a hotel owner filed an insurance claim with two insurers for water damage to the hotel. The insurers denied the claims. In 2005, the hotel began to collapse from the water damage, which led the hotel owner to re-tender the claims in 2006. Both insurers again denied the claims in March and September 2007. The hotel owner filed suit in October 2007.

In January 2008, the hotel owner moved to amend its complaint to add claims under IFCA. The court ruled, “It is apparent from the language of the IFCA that the Legislature did not provide for retroactivity, it is not curative, and it is not remedial. The Washington Legislature has not expressed an intent to apply the IFCA retroactively, and indeed the statute is worded in present and future tenses.” The court noted that the property damage, insurance claims, and denials “all occurred well before the enactment of the IFCA,” and further that resubmitting claims after IFCA became effective does not constitute a new or continuing violation because this “would allow an end run around the Legislature’s intent.”

Update: The Malbco ruling has been selected for publication in F. Supp. 2d.

2. Aecon Buildings, Inc. v. Zurich North America (W.D. Wash. 2008)

On March 28, 2008, Judge Marsha Pechman of the United States District Court for the Western District of Washington similarly denied an insured’s motion to amend its complaint to allege an IFCA claim based on conduct that occurred before the effective date of the Act.

Aecon Buildings, Inc., a general contractor, settled an owner’s claims against Aecon and then tendered a request for indemnification to certain subcontractors’ insurers in 2006. Aecon filed suit against the insurers in April 2007.

In February 2008, Aecon moved to amend its complaint to add an IFCA claim. Aecon contended that IFCA is retroactive because it is “remedial.” The court ruled, “Although [IFCA] relates to remedies -- it provides for actual and treble damages, costs, and attorneys’ fees -- it also affects substantive rights by creating an entirely new right of action for first party insurance claimants unreasonably denied their claims.” The court also reasoned that IFCA cannot be applied retroactively because it provides for recovery of a penalty and “is couched in forward-looking language.”

The Malbco and Aecon rulings, like HSS Enterprises, are not binding on state courts in Washington. However, they represent a clear rejection of retroactivity arguments in federal court, and their reasoning is likely to be followed in state court.

Looking Ahead: Insurance Law Cases in the Washington Supreme Court

At least three cases involving insurance law issues are pending in the Washington Supreme Court:

1. St. Paul Fire & Marine Insurance Co. v. Onvia, Inc. The issue is whether an insured has a cause of action against its liability insurer for bad faith based on violation of claims handling regulations or the Consumer Protection Act even though a court has held that the insurer has no contractual duty to defend, settle, or indemnify the insured. The court will answer a certified question from the United States Court of Appeals for the Ninth Circuit. Oral arguments in this case were heard on February 28, 2008.

2. Mutual of Enumclaw Insurance Co. v. U.S.F. Insurance Co. The issue is whether insurers who settled with an insured on a liability claim and were assigned the insured’s rights may make a late tender of the claim to a nonsettling coinsurer and receive the benefit of the late tender rule to maintain an action for contribution against the nonsettling insurer. The court is reviewing a decision by the Washington State Court of Appeals, Division One. Oral arguments in this case were heard on March 20, 2008.

3. Cornhusker Casualty Insurance Co. v. Brooks Samples. The issue is whether notice of an insurance policy cancellation sent by certified mail satisfied the “mailed” requirement of former RCW 48.18.290 (1997) where the insured did not receive the notice. The court will answer a certified question from the United States Court of Appeals for the Ninth Circuit. The date for oral arguments in this case has not been set.

The Washington State Insurance Law Blog will report on the court’s decisions in these cases once they are filed.