An insurance carrier has a duty to defend its insured against all claims contained in a complaint if any one of them is potentially covered by the insurance policy, the Ninth Circuit Court of Appeals has affirmed. But the carrier is not obligated to pay damages imposed by the trial court on its own initiative or to pay legal fees incurred by the insured in the six months before it tendered the claim to the carrier. (Research Corporation v. Westport Insurance Corporation, 9th Cir., No. 05-16031, 8/20/08.)

 

The nonprofit Research Corporation was sued for breach of contract, conversion of royalties, conversion of technical information, fraudulent concealment, breach of the implied covenant of good faith and fair dealing, breach of fiduciary duties and unjust enrichment. 

 

It had obtained a Nonprofit Organization Liability Policy from Westport Insurance Corporation and, six months after receiving the formal complaint, had tendered the case to Westport. Westport refused to defend. The District Court found for the insured and ordered the carrier to pay legal fees and the bulk of the cost of settling the case. It added additional damages on its own initiative. The carrier appealed.

 

The policy required the carrier to pay any loss resulting from civil claims because of a “wrongful act.” A wrongful act meant “any actual or alleged error or omission, negligent act, misleading statement, or breach of duty committed by an insured.” The policy excluded damages arising out of breach of any contract or unjust enrichment. 

 

The Court of Appeals noted that “under Arizona law, as in most states, the insurer’s duty to defend is distinct and broader than its duty to indemnify. The duty to defend covers any claim potentially covered by the policy…. If any claim alleged in the complaint is potentially within the policy’s coverage, the insurer has a duty to defend the entire suit because it is impossible to determine the basis upon which the plaintiff will recover until the action is concluded.”

 

On appeal, the insurer argued that it did not have to defend because the claim was based on an alleged breach of contract. While that is a standard exclusion, the Court of Appeals refused to consider the argument because it said the insurer had not raised the defense at the trial level.

 

The carrier also argued it had no duty to defend because of the unjust enrichment claim. “While this exclusion may apply to deny coverage for some counts,” the Court wrote, “it does not apply to the breach of fiduciary duty claims, nor does it apply to the allegation of breach of the implied covenant of good faith and fair dealing…. Because coverage was potentially afforded for these claims, Westport had a duty to defend the entire action.”

 

“Further, as the district court held, if we were to construe the exclusion as Westport urges we should, it would amount to impermissible illusory coverage. An insurer may not grant coverage with one provision and then take it away with another. Under Westport’s interpretation of the exclusion, no coverage is afforded under the policy for any economic damages. If this interpretation were correct, the exclusion would eviscerate the policy’s essential coverage for all losses to the insured resulting from civil claims due to a wrongful act.”

 

The Court also ordered payment of 90% of the settlement that the insured had agreed to, based on testimony that 90% of the amount was related to the tort claims. It refused to affirm additional damages that the trial court had awarded when they had not been claimed by the insured.

 

The Court of Appeals also reversed the award of all lawyers fees, refusing to grant payment for those fees incurred before the complaint was given to the carrier. The policy required the insured to give immediate notice of a claim. “Westport was prejudiced by this breach because it was deprived of its exclusive right to assign counsel, thus potentially avoiding what it now considers to be unreasonable attorneys fees,” the Court said.

 

YOU NEED TO KNOW

 

Nonprofits should remember this basic principal that, in most states, an insurance carrier has to defend everything if anything is included in the policy. They should also remember that they have to notify the carrier promptly upon notice of a claim. In some cases, insurers have been let off the hook entirely, not just for certain legal fees, when the insured has not given prompt notice.