Did the Ore Sup Ct Abolish Common Law Indemnity for Defense Costs?

"Frequent-fliers" in the world of construction-defect litigation know that defense costs are often the biggest exposure, particularly for subcontractors.  That is why securing a paid-for defense from an insurance carrier is such a hot topic on this blog (and elsewhere).  And whether there is insurance to cover defense costs or not, defendants in complex disputes (including insurers) often threaten to sue other co-defendants to recover part of their defense costs, which can drive settlement discussions.  So any development in the law relating to defense cost recovery has an impact on policyholders - and that's why I'm writing about this new case, which on its face has nothing to do with insurance.

On March 19, 2015 the Oregon Supreme Court issued a somewhat surprising decision in Eclectic Investment v. Patterson & Jackson County et al., in which the court appears to have changed some fundamental assumptions about whether one defendant can recover defense costs from another defendant.  In Eclectic a landowner sued a contractor that had done excavating work for him and the county that inspected and permitted the excavation, after the excavated hillside eroded and damaged commercial buildings on owner's property.  A jury found that the landowner was more than 50% at fault, meaning that under Oregon's comparative fault law neither the county nor the contractor had to pay any damages (both the county and the contractor were found to be slightly at fault).  The county had asserted a common-law indemnity claim against the contractor, and after the trial pursued that claim to recover its defense costs.

Common-law indemnity is an equitable theory used when there is no contractual relationship between the parties or the contract does not contain an indemnity provision.  Under one formulation of the legal standard for the claim, Defendant A will owe Defendant B indemnity if Defendant A's negligence was "active" or "primary" while Defendant B's negligence was "passive" or "secondary."  Another way of phrasing the test is whether in fairness, Defendant A "should" pay for Defendant B's costs in the suit.

The issue before the Oregon Supreme Court in Eclectic Investment was how to determine if the county was entitled to indemnity, since neither the county nor the contractor were liable for damages, and each was found to have played a minor role in the incident.  The court recounted the rather vague legal tests that Oregon courts had developed over the years to determine whether in equity one party owes another indemnity (see above).  The court observed, however, that Oregon law changed after common-law indemnity was adopted, replacing the older "joint liability" regime with the current comparative-fault regime in which each defendant is assessed only its percentage share of any damages by the jury using a questionnaire.  Therefore, according to the court, the rationale for common-law indemnity has disappeared, because under the new scheme one party will never be made to pay damages that were in fact attributable to the "active" fault of another party.

The problem, of course, is that the defense costs incurred by the defendants are not part of the jury's consideration.  (In reality, those costs can only be determined once the litigation is done.)  But the court made it clear, in a final footnote, that where the comparative fault rules apply, common-law indemnity cannot be used as the theory on which to recover even defense costs.  The court stated that it would countenance recovery of defense costs on some other theory, citing cases from other states that allowed such claims under a quasi-contract theory - but that such claims could only lie where the indemnitee incurred defense costs only because of the indemnitor's negligence.  Applying that concept to the facts of the case, the court stated that because plaintiff had sued the county and the contractor, it was clear that the county's involvement in the litigation was not solely because of the contractor's negligence, so the county would have been out of luck in recovering defense costs under an alternative theory.

The court's decision will change some of the leverage points in multi-defendant litigation where not all players have contractual indemnity claims.  It also emphasizes the importance of having Oregon courts enforce insurance contracts providing a paid-for defense.   If defendants cannot rely on common-law indemnity to recover defense costs when they are dragged into lawsuits in which they play a minor part, it is critical that insurers understand and heed their contractual obligation to cover those defense costs.

Ninth Circuit Certifies Notice-Prejudice Question to Montana Supremes

One of the perennial issues in insurance coverage is what happens if a policyholder provides notice to its insurance company late - in the case of liability coverage, that usually means after the underlying case has been litigated for a long time, and sometimes gone to verdict, or been settled.  Most states have adopted the "notice-prejudice" rule for those situations.  The basic concept is this: if the insurance company wants to get completely off the hook for any obligation to pay defense costs or indemnity, based on language in the policy obligating the policyholder to provide notice "as soon as practicable" or similar, the insurance company has to show that it suffered in some way by the late notice, e.g. that it could have negotiated a better deal, litigated the case differently, paid less for defense costs.

Montana's lead case on this subject, according to the Ninth Circuit, contains language that both suggests that notice-prejudice is the standard and also that timely notice is a condition precedent to coverage, meaning that late notice bars coverage with no showing of prejudice needed.  The case, Atlantic Casualty v. Greytak, appears to have been  a fairly typical construction defect suit at the outset, but with a twist: the insurance company was not notified until almost a year after the defect claims were made and after the parties had entered into a covenant-judgment type lawsuit.  Those are not very sympathetic facts on which to argue for the notice-prejudice rule.  It will be interesting to see if Montana's Supreme Court takes the case.

Nevada Supreme Court Knocks It Out of the Park on Pollution Exclusion

We are venturing a little afield from the Pacific Northwest today to acknowledge a big win for policyholders in Nevada.  The Nevada Supreme Court in CENTURY SURETY COMPANY v. CASINO WEST INC, answering questions certified to it in 2012 by the Ninth Circuit (after oral argument was held back in 2011), held that the so-called "absolute" pollution exclusion is not in fact "absolute" when it comes to non-"traditional" pollutants.

The facts of this case are very sad: four people died in a hotel room situated over a pool heater room when carbon monoxide filled the room, due to a blocked fresh-air intake.  The carrier denied coverage based on the pollution exclusion and an "indoor air quality" exclusion.  (That "indoor-air" exclusion is not typical, and therefore I won't discuss it here).  The federal trial court denied the carrier's motion for summary judgment, finding that both exclusions were ambiguous.  However, the trial court (and then the Ninth Circuit) noted that there is a considerable split among the states on whether the modern pollution exclusion applies only to traditional pollutants or covers all substances arguably within the broad scope of its wording, but that the courts could not determine how the Nevada courts would come down in that debate.

The Nevada Supreme Court put itself firmly in the pro-policyholder camp, using an analysis that could have been lifted from some of the best Oregon case law on policy interpretation.  The court first emphasized that insurance policies are interpreted from the perspective of the ordinary purchaser of insurance, not a lawyer or insurance professional.  Second, the court emphasized that any ambiguity in a policy -- whether on its face or when applied to a factual situation -- is resolved against the drafter (the insurer) and that exclusions are read very narrowly, with the burden on the insurer to establish application.

With that, the court observed that although it would be reasonable to read the pollution exclusion as broadly applying, and including carbon monoxide, it would also be reasonable to take the policyholder's view that it only covers "traditional," outdoor, pollutants.  The court noted that the exclusion is worded so broadly (using, for example, the term "irritants") that it could potentially apply to any substance including soap or shampoo, barring coverage for any accident involving such common, and usually innocuous, items.  The court also noted that dictionary definitions of "pollutant" are narrower than the exclusion and implicitly refer only to "traditional" pollution.  Finally, the court looked to the exclusion's drafting history, noting that it was put in place largely in reaction to the proliferation of environmental contamination statutes (like CERCLA).  The court therefore found the exclusion ambiguous and adopted the policyholder's proposed interpretation, meaning that the carrier cannot rely on the exclusion.

The Nevada court's decision is similar in many ways to the seminal Oregon case on the subject, A-1 Sandblasting & Steamcleaning Co., Inc. v. Baiden, 53 Or. App. 890, 894, 632 P.2d 1377 (1981), aff’d, 643 P.2d 1260 (Or. 1982), in which the Oregon Court of Appeals held that paint was not within the ambit of the exclusion, and found the exclusion ambiguous.  Nevertheless, insurers in Oregon continue to deny indemnity coverage -- and sometimes even a defense -- based on a broad interpretation of the pollution exclusion, perhaps because the exclusion is written so broadly and because so many other courts have applied the exclusion broadly.  (Which again points to the need for additional disincentives in Oregon law for carriers to deny claims first to see if the insured will complain.)  This new decision will make it more dangerous for carriers to take that approach, at least in Nevada.

Wa. Court of Appeals: Exhaustion of Primary Layer Means Actual Payment

In a new decision that has generated some interest nationally, the Washington Court of Appeals held November 12, 2013 that if an excess policy's attachment language is sufficiently restrictive, the excess policy will not be triggered unless the primary carrier actually pays the full amount of its limits.  In this case, Quellos Group LLC v. Federal Insurance and others, the insured financial advisory firm was called on the carpet by federal regulators for shady tax shelter schemes.  As often happens in such regulatory-type cases, involving disgorgement, fines, damages, and injunctive relief, there were many question about what the primary layer policy would actually cover.  Quellos and its primary-layer carriers settled those coverage disputes with the primary carriers paying Quellos less than full policy limits.  So far, so good.  Quellos then paid the difference between what the primary carriers paid and the primary limits, therefore reaching the "attachment point" for the excess layer policies.

Not so fast, said the Court of Appeals.  The Federal excess policy stated that coverage "shall attach only after the insurers of the Underlying Insurance shall have paid in legal currency the full amount of the Underlying Limit." The Indian Harbor policy stated that coverage "will attach only after all of the Underlying Insurance has been exhausted by the actual payment of loss by the applicable insurers thereunder."  The court read these provisions as literally requiring, as a pre-condition to any coverage, that the primary carrier itself pay the the full limits.  The court rejected Quellos' argument that these provisions should function like many of the other "conditions of coverage" that aren't really conditions at all, but are treated more like exclusions, where the carrier has the burden of showing that it was prejudiced in some way by the insured's failure to comply with the condition.  The court also rejected Quellos' public-policy argument, noting that there are policy forms available that allow the insured to do just what Quellos tried to do in triggering excess coverage.

From the policyholder's perspective this decision is bad news, and it is not in keeping with the general trend (with many exceptions) in Washington law to tackle coverage questions from a practical, policyholder-oriented perspective.  These excess carriers contracted to provide coverage only if a certain amount of liability was assessed and paid out.  What in the world does it matter to them who pays the underlying limit?  Unfortunately this decision is joining a trend in the case law nationally on this issue that is against policyholders.  Hopefully the Washington Supreme Court will accept review and overturn the decision.

Oregon Supreme Court's Bresee Decision Makes the "Headlines"

The good folks at the large national firm Farella Braun posted this excellent summary of the Oregon Supreme Court's late-2012 decision in Bresee v. Farmers Insurance Exchange.  In Bresee the court made it clear that an insurer's decision to provide a defense under a liability policy must be based on only the words of the underlying complaint or other charging document itself, and that any ambiguity -- any ambiguity, including one created by the lack of specific allegations -- is construed in favor of providing the defense.  In that specific case the insurance company denied a defense based on a "completed operations" exclusion based on the insurance company's interpretation of the underlying complaint, which is said indicated that the property damage had occurred after "operations" were "complete."  As Farella's blog post points out, the court's admonition to insurance carriers that they cannot use such "reading between the lines" to deny a defense is a straightforward proposition - so straightforward, in fact, that most states permit a policyholder who is denied a defense to seek punitive or exemplary damages, via a bad faith claim, to deter insurance companies from the practice.  Unfortunately, unless HB 3160 or something like it passes, insurance companies will continue to ignore Bresee and its forebears (which they do, every day) because even though it is a clear-cut breach of their obligations to policyholders, in Oregon insurers get a "free breach," as I explained in my recent letter to Senator Betsy Johnson in support of HB 3160/the SB 414-A amendment.