REACHING A SETTLEMENT WHEN THE DEFENDANT’S INSURANCE COMPANY HAS ISSUED A RESERVATION OF RIGHTS LETTER
Plaintiffs’ counsel will likely advise their clients to settle their claims for considerably less than full value if there is a chance the claim is not covered by insurance. The purpose of this article is to provide some helpful information when attempting to settle a case involving a reservation of rights.
Reservation of Rights letters arise when the insurance company, after investigating the claim, determines there are facts that show the claim is not a covered event under the insurance policy or show that a policy exclusion applies to the claim. There are several situations where reservation of rights may apply, including use of a car for business purposes, non-permissive drivers, punitive damages (drunk driving), and intentional acts.
Usually, the insurance adjuster will send information they suspect is preventing coverage to their coverage counsel, who will review these facts, along with the allegations in the complaint, in order to opine if the insurance company should reserve its rights under the policy. Insurers often seek coverage opinions so it can assert an “advice of counsel” defense to future bad faith claims. So, when sending a demand and/or when filing your complaint, allege sufficient facts to bring as much of the claim as possible into coverage. In my experience, most coverage attorneys are looking for ways to find coverage.
After the matter goes to coverage counsel, the insured/defendant is then sent a Reservation of Rights letter. The letter should contain a detailed explanation as to why the insurer is reserving its rights to deny or exclude coverage. More likely than not, the Reservation of Rights letter will be issued early in the litigation to avoid the issue of the insurance company waiving its right to deny coverage. After the letter is issued, the insurer will often put the issue on the back burner and not hire counsel to intervene into the case to assess coverage. While the insurer still has to defend the insured on the underlying case, it may also try to avoid incurring costs associated with filing a separate declaratory case involving coverage, knowing the underlying case may settle. The insurer does not want to unnecessarily sue its own insured in the declaratory action and have them incur attorneys’ fees.
Issuance of an early reservation of rights letter, with no separate counsel to represent the insurer on coverage issues, provides an opportunity for plaintiffs’ counsel to develop facts during the discovery process that may bring some of the excluded claims into coverage. Thus, discovery in the underlying case should not just concern liability and damages but should also address facts relevant to coverage. Obtain a copy of the insurance policy and the Reservation of Rights letter to determine the exact basis for the insurer’s reservation. Thoroughly research the coverage issues set forth in the reservations of rights letter to ensure your discovery is complete. Keep in mind that, ethically, the defense attorney in the underlying case will be on the same side as you regarding this particular issue of coverage. Defense counsel has the duty not to vitiate coverage and to avoid their client paying the plaintiff’s claim out of their own pocket. So, why not have a heart-to-heart conversation with defense counsel to see if they know of facts that will help bring claims under coverage? Obviously, the more holes your discovery pokes into the insurer’s reservation of rights arguments, the more the value of the underlying case will be. Of course, the opposite is also true.
Insurers are only obligated to pay claims that are covered. But, in defending its insureds insurance companies have a duty to protect its insured’s interest on all claims. So, the insurance company, in coming to the settlement table, will attempt to negotiate a settlement of the entire case, not just those claims that are covered. In doing this, the insurer can reasonably request its insured to contribute toward a settlement on uncovered claims. The tricky part for the insurer in these situations is to fairly evaluate claims that are covered from those that are not. The insurer can violate the equal consideration test if it asks the insured to contribute too much toward the settlement or if it does not keep the insured informed of settlement negations in order to provide an opportunity to get uncovered claims settled.
In cases where claims are expressly excluded or reserved to be excluded and the insured has no way to contribute toward a settlement (usually the case), the insurance company will often expand its evaluation for claims that are covered to try to resolve the entire case. This is usually referred by the insurer as a “business decision.” Business decisions are made by insurers because its duty to defend continues while the reservation of rights is outstanding. Insurers want to avoid continuing costs in defending the underlying case. Furthermore, insurers realize they are probably going to have to intervene at some point in time in the underling case to make sure jury instructions separate covered claims from uncovered claims (e.g., requesting jury instructions that separate compensatory damages that are covered from those that are not covered like punitive damages). This can be very expensive for the insurer. Keep in mind that defense counsel in the underlying case will be on your side to not separate covered from uncovered claims, and this is what makes it essential for the insurer to hire separate counsel to intervene. Thus, even if some of the claims that you have alleged in the complaint are not covered and Defendant is unable to pay them, do not dismiss them. They may have value when it comes to settlement.
Finally, consider whether you should enter into a Morris Agreement, or at least whether the threat of entering into one should be made to the insurer. Morris agreements are executed when the parties agree to a stipulated judgment in the underlying case. As part of the agreement, the defendant assigns all his/her claims against the insurer to the claimant in exchange for a covenant not to execute the judgment against the insured’s personal assets. Of course, if the defendant has assets which you can collect on for uncovered claims, you will probably not want to enter into a Morris agreement. This is why an asset check of the defendant is necessary. Assets checks have other value, too. An asset check may also tell you how collectable a possible judgement against the defendant will be and how much trouble it will be to untangle collectable assets. However, if the defendant has no assets, you may want to consider entering into a Morris Agreement.
Before you enter into a Morris agreement, however, notice must be provided to the insurance company. This allows the insurance company the opportunity to withdraw its Reservation of Rights. If you know that the basis for the Reservation of Rights letter is questionable or erroneous and that there is coverage, or at least a very good possibility of coverage, notice to the carrier will cause them to make an election. The insurer, having received notice of your intent to enter into a Morris agreement, will be forced to decide whether to defend the underlying case and indemnify its insured or challenge coverage. Notifying the insurer of your intent to enter into a Morris Agreement (even if you don’t ultimately enter into one) will also provide you with valuable information on what the insurer perceives as its stronger case. In other words, if the insurer believes that its better case is defending on liability, as opposed to coverage, it will withdraw its reservation of rights.
If you decide that a Morris agreement is appropriate for your case, do not worry about the defendant being unwilling to enter into a Morris Agreement. The defendant and counsel in the underlying case will always be willing to enter into the Morris agreement in order to protect the defendant’s personal assets. Finally, be aware that, if you decide to enter into a Morris agreement, the stipulated judgment will be subject to a reasonableness hearing.
Timing when to have a settlement conference after a reservation of rights letter has issued is critical. If you have the settlement conference too soon, the insurer most likely will not be willing to put any settlement funds on its reserved claims. However, If you have done your homework and were able to poke some holes in the coverage reservation, the threat of their being coverage, the possibly of entering into a Morris Agreement, and the cost of litigating coverage issues will most likely play into the insurer’s decision to attempt a settlement and get its insured/defendant off the hook.
By Bud Roberts – Bud Roberts Dispute Resolutions, LLC. 480-299-7595.