Clock is ticking for insurers to defend insured

Chaucer's proverb "better late than never" may provide a constructive maxim for human behavior, but it does not apply to an insurance company's duty to defend its insured against a third-party liability lawsuit. In a matter of first impression, the U.S. District Court for the Northern District of California in Travelers Indemnity Co. of Connecticut v. Centex Homes, 11-CV-03638-SC (N.D. Cal., filed Oct. 8, 2015) wrestled with the issue of how much delay is too much before an insurer crosses the line and breaches its defense duty. In other words: What is the point at which an insurer's delay in defending amounts to a breach of its duty to defend?

Having found no clear cut authority, the district court created a "bright-line" rule, cobbled together from various authorities, that an insurer's duty to defend a tendered lawsuit commences immediately upon the date the insured's responsive pleading is due. Any delay beyond that deadline, it found, constitutes a breach of the insurer's defense duty. Consequently, the insurer forever loses its right to control the insured's defense (including the ability to appoint Cumis counsel or pay lower panel counsel hourly rates), even if the insurer immediately thereafter reimburses all of the insured's defense costs and agrees to defend it in the liability action going forward.

In Centex Homes, Centex, a residential developer, found itself the target defendant in numerous construction defect lawsuits filed by various homeowners. Centex tendered the lawsuits to its commercial general liability insurer, Travelers. In two of the lawsuits, Acupan v. Centex Homes, brought in Kern County Superior Court, and Conner v. Centex Homes, brought in Imperial County Superior Court, Travelers waited about four and a half months after Centex tendered before it agreed to defend Centex. Travelers never denied the claims; rather, it just delayed before it told Centex it would defend Centex against the lawsuits.

In the meantime, Centex had hired its own defense lawyers to file answers to the complaints in each action. Just 13 days after Centex's lawyers answered in the Acupan action and 67 days after they answered in the Conner action, Travelers wrote Centex a letter agreeing to defend it in both lawsuits. Travelers simultaneously offered to reimburse Centex all of the attorneys' fees and costs Centex had already incurred defending the suits.

Though Travelers agreed to provide Centex a defense, it insisted on appointing its own panel defense counsel (as its policy allowed). Centex insisted on continuing to use its own lawyers, arguing that Travelers lost its right to control the defense by waiting too long to provide one. Travelers filed a coverage lawsuit seeking a judicial declaration that it had the right to control Centex's defense in the Acupan and Conner actions.

The court framed the issue as follows: "The issue ... is whether this delay constitutes a breach of Travelers' duty to defend such that Travelers lost its right to control Centex's defense."

The court answered in the affirmative, holding that Travelers breached its duty to defend by delaying the acceptance of Centex's tender even one day past the date its defense duty was triggered, and, as a consequence, lost its right to control Centex's defense.

The court relied in large part on the California Court of Appeal's decision in J.R. Marketing. LLC. v. Hartford Casualty. Ins. Co., 216 Cal. App. 4th 1444 (2013), affirmed in relevant part by the California Supreme Court in Hartford Casualty Ins. v. J.R. Marketing, LLC, 61 Cal. 4th 988 (2015), finding that when "the insurer breaches its duty to defend the insured, the insurer loses all right to control the defense, including, necessarily, the right to control financial decisions such as the rate paid to independent counsel or the cost-effectiveness of any particular defense tactic or approach." Though in an earlier order, the Centex Homes court agreed with Travelers that an insurer could only lose its right to control the insured's defense through waiver, forfeiture or estoppel, it reversed itself and rejected that argument on reconsideration in light of the Court of Appeal and Supreme Court's holdings in J.R. Marketing.

The Centex Homes court also rejected Travelers' argument that it did not breach its duty to defend because: (1) It had a right to conduct a reasonable investigation before accepting Centex's tender, and (2) it reimbursed Centex all its legal costs incurred prior to accepting Centex's tender. The court stated, "A failure to provide counsel or to guarantee the payment of legal fees immediately after an insurer's duty to defend has been triggered constitutes a breach of the duty to defend, even if the insurer later reimburses the insured." Citing the landmark Montrose Chemical Corp. v. Superior Ct., 6 Cal. 4th 287(1993) decision, it noted that an insured has the right to immediately call on the insurer's superior resources to mount a defense against a claim that possibly falls within the policy's coverage. It does not have to marshal its own resources or wait for the insurer to finish investigating, though an insurer is free to continue investigating beyond the point its duty to defend has been triggered while it defends.

The Centex Homes court explained that, as a practical matter, an insurer's duty to defend commences shortly after tender because the following events must first occur: (1) The insured must make a prima facie showing that a third-party claim potentially falls within the insuring provisions of its policy (for example, by sending the underlying complaint with its tender); (2) the third party must have actually filed litigation against the insured (because there is no duty to defend a pre-litigation claim); and (3) the insured's responsive pleading must come due in the underlying lawsuit as the insurer is entitled to investigate until that time. Assuming these events have occurred, the court found an insurer breaches its defense duty by delaying even a day.

For too long, insureds have suffered the consequences of liability insurers who substantially delay their duty to defend decisions. Centex Homes may help change this practice, as it sends a clear and ominous message to liability insurers: They better decide quickly, sometimes immediately, whether they have a duty to defend their insureds against a tendered lawsuit or they may well suffer irreversible, expensive consequences. Even a slight delay after their insured's responsive pleading is due could end up costing them hundreds of thousands of dollars in higher hourly rates defending the liability action. It remains to be seen whether other courts will adopt the Centex Homes bright line rule. If they do, policyholders who have liability insurance will certainly benefit.

Robert J. McKennon is a shareholder of McKennon Law Group PC in its Newport Beach office. His practice specializes in representing policyholders in life, health and disability insurance, insurance bad faith, ERISA and unfair business practices litigation. You can reach him at (949) 387-9595 or rm@mckennonlawgroup.com. His firm's California Insurance Litigation Blog can be found at www.californiainsurancelitigation.com.

Joseph S. McMillen is an associate with the firm.