When an SIR Isn’t

In this case the California Court of Appeal was asked to once again apply the well-established principle that any limitation on the coverage provided by a liability insurance policy must be expressed and consistent with the reasonable expectations of the insured. Simply put, people who write insurance policies should say what they mean and do so clearly and unambiguously.

The commercial general liability policy involved in American Safety Indemnity Co. v. Admiral Insurance Co., D061587 (Cal.App. Dist.4 09/27/2013) had a provision labeled “Self-Insured Retention (SIR)” that makes the insured liable for the first $250,000 in damages payable to any third party claimant. The policy also makes it clear the insured’s payment of defense costs count toward meeting the insured’s SIR obligations.

However, the SIR clause did not expressly make payment of the SIR a condition of the insurer’s broader obligation to provide a defense when an arguably covered claim is tendered. Rather, the SIR clause expressly applies only as a limitation on the insurer’s duty to indemnify the insured for covered damages for which the insured is found liable.

Given the language of the policy, an insured could, in the opinion of the court, reasonably interpret it as providing a defense to covered claims as soon as such claims are tendered and before any SIR has been paid.

The Court of Appeal noted that other liability insurance policies contain SIR clauses that expressly and unambiguously make payment of an SIR obligation a condition of any obligation under the policy, including any duty to defend, and the Court of Appeal recognized that SIR provisions have been enforced according to their terms.

FACTUAL BACKGROUND

Between the late 1990s and 2002, Zephyr Newhall, LP, and its partner Zephyr Partners, LLC (collectively Zephyr), worked with developer D.R. Horton, Inc. [Los Angeles Holding Company; hereafter Holding], to build housing on a tract of land in Santa Clarita which Zephyr owned. Holding hired Ebensteiner Co. (Ebensteiner) to grade the tract pursuant to plans created by Leighton and Associates, Inc. (Leighton), a geological engineering firm. As part of their grading contract, Ebensteiner agreed to indemnify Holding against liability for any loss attributable to Ebensteiner’s breach of duty even if Holding’s conduct also contributed to the loss.

On or about March 11, 2002, a backcut slope failure occurred as a direct result of the grading, creating a 140- by 100-foot landslide and tension cracks that visibly extended to within 50 feet of existing upslope homes. Another similar backcut slope failure, resulting in a 70- by 200-foot slide, occurred April 4, 2002.

At the time of the work, Holding was insured by defendant and respondent Admiral Insurance Company (Admiral), while Ebensteiner was insured by plaintiff and appellant American Safety Indemnity Co (ASIC). The respective policies limited coverage to $1 million per occurrence. The Admiral policy contained a provision which designated it “excess” over the ASIC coverage; the ASIC policy contained a similar excess insurance disclaimer for those instances where the ASIC policy was not primary. The ASIC policy also covered Holding as an “additional insured.”

Holding tendered its defense of the Fessler claims to ASIC, which initially declined the tender. Holding then filed a bad-faith lawsuit against ASIC. Holding and ASIC settled the bad-faith lawsuit. Under the terms of the settlement, ASIC agreed to pay Holding’s defense costs and to not thereafter dispute its duty to defend Holding.

ASIC paid a total of $2,237,068.73 in defense costs on behalf of Holding and the two Horton entities.

By way of an order granting ASIC’s motion for summary adjudication, the trial court determined that, as a matter of law, Admiral owed the Horton entities a duty to defend them in the Fessler action. In particular, the trial court determined that under the terms of the Admiral policy, although the SIR provision required that the Horton entities pay the first $250,000 in any damages recovered by a third party, Admiral’s duty to defend the Horton entities was independent of the policy’s SIR provisions.

The trial court awarded ASIC a total of $1.9 million in reimbursement of the defense costs it had paid plus interest.

DISCUSSION

In the case of insurance, subrogation takes the form of an insurer’s right to be put in the position of the insured in order to pursue recovery from third parties legally responsible to the insured for a loss which the insurer has both insured and paid. The doctrine of equitable subrogation is broad enough to include every instance  in which one person, not acting as a mere volunteer or intruder, pays a debt for which another is primarily liable, and which in equity and good conscience should have been discharged by the latter. The essential elements of an insurer’s cause of action for equitable subrogation are as follows:

(a) the insured suffered a loss for which the defendant is liable, either as the wrongdoer whose act or omission caused the loss or because the defendant is legally responsible to the insured for the loss caused by the wrongdoer;

(b) the claimed loss was one for which the insurer was not primarily liable;

(c) the insurer has compensated the insured in whole or in part for the same loss for which the defendant is primarily liable;

(d) the insurer has paid the claim of its insured to protect its own interest and not as a volunteer;

(e) the insured has an existing, assignable cause of action against the defendant which the insured could have asserted for its own benefit had it not been compensated for its loss by the insurer;

(f) the insurer has suffered damages caused by the act or omission upon which the liability of the defendant depends;

(g) justice requires that the loss be entirely shifted from the insurer to the defendant, whose equitable position is inferior to that of the insurer; and

(h) the insurer’s damages are in a liquidated sum, generally the amount paid to the insured.

The right of subrogation is purely derivative. An insurer entitled to subrogation is in the same position as an assignee of the insured’s claim, and succeeds only to the rights of the insured. The subrogated insurer is said to “stand in the shoes” of its insured, because it has no greater rights than the insured and is subject to the same defenses assertable against the insured. In its principal argument on appeal, Admiral contends it owed the Horton entities no duty of defense and, hence, ASIC was not entitled to any subrogation because, contrary to the trial court’s determination, the SIR provision in Admiral’s policy applied not only to its duty to indemnify but also to its duty to defend.

Admiral’s Policy

Insurance is a contract whereby one undertakes to indemnify another against loss, damage, or liability arising from a contingent or unknown event. Self-insurance is equivalent to no insurance. As such, it is repugnant to the very concept of insurance. If insurance requires an undertaking by one to indemnify another, it cannot be satisfied by a self-contradictory undertaking by one to indemnify oneself.

The Admiral policy does not expressly and unambiguously make its duty to defend the Horton entities subject to the SIR. Rather, the SIR endorsement expressly provides the contrary by limiting the requirement to indemnify. In light of this unambiguous limitation on the scope of the SIR, it is not surprising that there is no other provision of the SIR that nonetheless extends the scope of the SIR to include the costs of defense.

ZALMA OPINION

The SIR written by Admiral failed to effectively create a limitation on the coverage provided by its policy because it did not expressly, and consistent with the reasonable expectations of the insured, tell the insured it owed no defense costs until the insured paid the first $250,000 in defense or indemnity costs. Since it did not, its failure to create accurate policy wording cost it almost two million dollars. Insurers often take portions of one policy and move it to another. Popular policy wordings are adopted from the Insurance Services Office or the work of other insurers. In this case, had Admiral used one of the policy wordings that effectively required the payment of the SIR before the insurer had any duty, this suit and appeal would have had a different result. When Polices are not written carefully it is not wise to take a strong position against payment.