POTOMAC INS. CO. V. PENNSYLVANIA MANUFACTURERS' ASS'N INS. CO.
Potomac Ins. Co. v. Pennsylvania Manufacturers’ Ass’n Ins. Co.:
(Decided September 16, 2013)
The New Jersey Supreme Court Recognizes Direct Claims for Defense Cost Contribution Among Insurers Without Recognizing Complications Posed for Insurers
The New Jersey Supreme Court determined that insurance carriers who fund and control the defense of a claim have a direct right to seek contribution against other insurance carriers who disclaim and decline to participate in the defense of a common insured.
The opinion warrants some discussion because in recognizing an insurer direct right of contribution (predicated largely on insurance allocation formulas intended for environmental coverage disputes), the Supreme Court unfortunately gave little attention to the potentiality, in most cases, for the insured’s receipt of defense and indemnity under multiple liability policies to become entangled in carrier contribution claims.
- Settlement Complications Posed by Direct Contribution Actions
The Potomac Insurance opinion illustrates, a “clean” carrier contribution setting, (the insured having already been fully indemnified). In most multi-carrier situations however, insurers reserve or actively litigate contribution claims against other carriers, which will readily overwhelm the insurers’ primary obligation--which is to defend and indemnify the insured. A rule limiting direct contribution claims to carriers that have at least fully acknowledged, and performed, their obligations to defend and indemnify, is obviously indicated in order to prevent defense and indemnification from becoming a secondary, “sideshow”, to insurer contribution claim litigation delaying settlement with third party claimants and increasing litigation costs.
Direct contribution claims have long been prohibited, outside the insurance context, in tort matters, principally because a pure contribution claim by a settling party upsets the finality of settlement. The threat of being joined in a contribution action, or the prospect of recovering one’s own settlement payment in a separate contribution action, of course, led the New Jersey Supreme Court to require that any settling party that wished to pursue a contribution action, use the consent judgment process formulated well before the entire controversy doctrine fully emerged. See, Young v. Steinberg, 53 N.J. 252 (1969), reservation of a direct contribution action by a settling party required pre-authorization of the Court through consent judgment.
Settling insurers now routinely demand indemnification from their insureds from any claim that might be asserted against the settling insurer that relates to, or arises from, the settlement of a coverage claim. The implication of the Potomac opinion’s apparent general approval of direct insurer contribution actions, with little discussion of historic policy reasons for disfavoring pure causes of action for contribution, is that a settling insured with more than one line of insurance coverage, is now more likely than ever to become enmeshed in insurer contribution actions, through indemnities given as the price of settlement with an insurer.
At the very least, the dynamics for an insured of negotiating, or litigating, the resolution of a coverage dispute have been changed. Insurers will now, more than ever, litigate or negotiate with an insured, from a position that gauges the prospects of insurer contribution exposure, or contribution recoveries.
The insurer is less likely than ever to lay the proverbial “cards on the table”. This makes it essential for even sophisticated insureds to obtain the benefit of review by experienced coverage counsel before accepting, or signing, even seemingly favorable terms of coverage settlement being offered by an insurer. That indemnification form that the insurer asks for, before handing over a claims settlement check, now represents a very real exposure post-settlement, on the part of the insured.
Even on the level of insurer versus insurer contribution addressed in the opinion, the Potomac opinion deserves closer review. Complication abounds from the decision, even among insurers.
- Summary of Holding: Direct Contribution Actions Now Part of New Jersey Coverage Law
The Court affirmed the trial judge’s and the Appellate Division’s opinions below, formerly extending the Owens-Illinois and Carter-Wallace allocation methodology, developed to apportion indemnity obligations due an insured, to the apportionment of defense obligations among co-insurers of a common insured in long-tail claims. The Court viewed the extension of New Jersey allocation law to the cost of defense as distributed among the triggered carriers, as but a short, logical, step, supported by the familiar policies that underlie the original decision in Owens-Illinois, which the Court repeated in Potomac Insurance:
“First, permitting such a claim creates a strong incentive for prompt and proactive involvement by all responsible carriers and promotes the efficient use of resources of insurers, litigants and the court. . . . Second, recognition of a direct claim by one insurer against another promotes early settlement. . . . Third, the allocation of defense costs creates an additional incentive for individuals and businesses to purchase sufficient coverage every year. . . . Fourth, the allocation of defense costs among all insurers that cover the risk, enforced by a right of contribution between the co-insurers of a common insured, serves the principle of fairness.”
The Initial Action
Potomac Insurance arose out of a school construction defect claim against a general contractor, Aristone. Construction began in 1991, was completed in 1993 and the building began to suffer water infiltration and leakage sometime after construction was finished in 1993. The school made a claim against Aristone and filed suit in December of 2001 (the “School Construction Action”) and Aristone timely noticed its liability carriers on the risk from 1993 until 2001, demanding a defense and indemnification from each. The potentially triggered primary policies were: Pennsylvania Manufacturers’ Insurance Company (“PMA”) 7/93 - 7/95; Royal Insurance Company of America (“Royal”) 7/95 – 7/97; OneBeacon Insurance Company (“OneBeacon”) 7/97 – 7/98; and Selective Way Insurance Company (“Selective”) insured Aristone from 7/98 until 7/2003.
Selective, the carrier on the risk at the time the school filed suit, acknowledged coverage and appointed counsel to defend Aristone in the School Construction Action.OneBeacon soon thereafter joined Selective in the defense of Aristone, agreeing to split the legal fees on a 50/50 basis.But PMA and Royal disclaimed coverage (based on business risk exclusion and lack of an occurrence) and refused to participate in Aristone’s defense.
The Second Action –
In June of 2004 (already several years into the defense of the School Construction Action), counsel appointed by Selective and OneBeacon filed a declaratory judgment coverage action, on Aristone’s behalf, against PMA and Royal (the “Aristone Coverage Action”).Aristone and PMA later agreed to arbitrate the Aristone Coverage Action and the arbitrator determined that PMA had an obligation to defend and indemnify Aristone in the School Construction Action.PMA did not appeal the arbitrator’s decision and instead engaged in settlement discussions with Aristone which culminated, in March of 2007, in a resolution of the Aristone Coverage Action, with PMA agreeing to contribute $150,000 to Aristone’s efforts to settle the School Construction Action.
Aristone settled the School Construction Action within 3 days of resolving the Aristone Coverage Action for a total of a $700,000 payment to the school.Counsel appointed to represent Aristone stated below that the PMA settlement in the Aristone Coverage Action was effectively the last piece of the puzzle in the settlement of the School Construction Action, as the shares of the other carriers (Royal, Beacon and Selective) had already been agreed to, prior to PMA’s agreement to pay its $150,000 share.See, Potomac Ins. Co. v. Pennsylvania Mfrs. Ass’n Ins. Co., 425 N.J. Super. 310, 316 (App. Div. 2012).
The Third Action –
By the time of the settlement of the School Construction Action, OneBeacon and Selective had together incurred more than $525,000 in legal fees in the defense of Aristone (which had by then been ongoing for nearly 6 years). OneBeacon thereafter sought to have PMA and Royal reimburse it for their share of those defense costs based on an allocation model derived from Owens-Illinois, Inc. v. United Insurance Co., 138 N.J. 437 (1994) and Carter-Wallace, Inc. v. Admiral Ins. Co., 154 N.J. 312 (1998).
OneBeacon reasoned that since the School Construction Action was “long-tail”, owing to the claim’s triggering insurance policies issued over the course of a decade, then the Owens-Illinois and Carter-Wallace limits-and-time-on-the-risk allocation methodology should be used to apportion the costs of defense, as that methodology had been developed for gradual pollution claims, wherein the environmental property damages and/or personal injuries similarly occurred over many years and similarly triggered an array of insurance policies issued over that span. PMA and Royal refused and a second declaratory judgment action, this time exclusively among the carriers, ensued (the “OneBeacon Coverage Action”) and ultimately resulted in this decision.
PMA argued that its release from Aristone in the Aristone Coverage Action extended to the claims OneBeacon brought against it in the later-filed OneBeacon Coverage Action, citing to appointed counsel’s status with respect to Aristone and OneBeacon. Additionally, PMA argued that the allocation remedy in Owens-Illinois and Carter-Wallace was a novel, invented cause of action, and not available to settling carriers as a tool to recoup costs incurred in defense of a joint insured from non-settling carriers.
The Holding in Potomac Insurance –
The trial court and the Appellate Division rejected PMA’s arguments below, and Potomac Insurance affirmed, finding that the release in the Aristone Coverage Action bound only its signatories, PMA and Aristone, and not OneBeacon, and that OneBeacon had an equitable right to recover an allocated share of defense costs incurred in the School Construction Action from PMA, independent from Aristone’s right to coverage under PMA’s policies.
There is pragmatic sense in having the apportionment of the defense follow the apportionment of indemnity, as this reflects the financial prioritizing of the individual carrier interests. Those who would have a larger Owens-Illinois allocated share of a judgment or settlement, have a correspondingly greater financial interest in participating and controlling the defense.
Equity, Efficiency and Fairness Still Optional –
Potomac Insurance certainly reaffirms and marginally extends the Owens-Illinois line of allocation cases, but it is also descendent of New Jersey’s unique Burd line of duty to defend cases, wherein the duty can be deferred, at a carrier’s election, based on its subjective determination that the claim may present a potential coverage issue.
The reason that PMA and Royal were able to evade their duty to defend in the first place, and for so long, is that Burd v. Sussex Mut. Ins. Co., 56 N.J. 383 (1970), permits them to do so. Burd allowed PMA (and Royal) to defer the duty to defend by unilaterally declaring a coverage issue and by electing to “translate its obligation into one to reimburse the insured if it is later adjudged that the claim was one within the policy covenant to pay”. Burd, at 390. The eventual struggle in Potomac Insurance, exclusively among carriers, thus started out as a refusal by PMA and Royal to acknowledge their obligation to defend their common insured, Aristone.
Insurer Settlement Complications
Burd, decided more than 40 years ago, predated the continuous trigger, long-tail allocation and the massive scale of the asbestos and environmental coverage wars. But even so, the Burd Court largely ignored the reality of settlement dynamics when it decided to translate the immediate duty to defend an insured out of insurance contracts. The Court in other cases and contexts had and has often acknowledged the wisdom in pursuing early settlement, and had and has recognized the carriers’ economic resources as the often critical component, yet this never factors into the Burd Court’s reasoning.
The insured in Burd urged that when a carrier invokes a potential coverage issue as a grounds for deferring a defense, they ought, at least, be required to seek a declaration of its defense obligations in advance of the trial of the underlying suit, but that Court off-handedly declined, commenting, “[W]e think the better course is to leave it to the contenders to decide for themselves if and when to sue.” Burd, at 391-92. Here is the forerunner to the since oft-repeated, reasonable, yet as yet unmet, expectation of the New Jersey Supreme Court that insurers will respond positively to the Court’s careful logical inducements toward equity and efficiency.
Within less than five years of Burd, a different New Jersey Supreme Court, in Rova Farms Resort, Inc. v. Investors Ins. Co., 65 N.J. 474, 509 (1974), was addressing similar issues in the specific settlement context, noting that a carrier aware of a possible coverage issue should have “sought resolution of that obvious conflict” and that “the declaratory judgment technique was available to answer the critical question”.
More than three decades on, in Potomac Insurance, it’s the insured and a carrier actually providing a defense, rather than the carrier attempting to avoid the defense that must clarify the issue through declaratory judgment. And the New Jersey Supreme Court is still deferring to carriers on, urging them to voluntarily conduct themselves in a manner that brings about a “conservation of the parties' resources, fostering of a prompt and fair resolution of litigation, creation of incentives for policyholders to maintain coverage, and fair and equitable allocation of the cost of litigation to all responsible carriers.”
It is no accident in Potomac Insurance that the responsible defense provided by OneBeacon and Selective, and their comparatively greater resources, facilitated the settlement of school claim. In this respect, the Potomac Insurance matter, at least by the time it wound itself up to the New Jersey Supreme Court, had settled enough to present the Justices with unusual laboratory-like conditions, involving carriers, without the insured or third party claimant. (The Court itself notes the “relatively simple setting” of the case, in footnote 6)
Potomac Insurance is an unusual case because the insured, from virtually the date of its tendering notice, received a complete defense (from Selective and OneBeacon) and ultimately complete indemnification for the underlying claim from all of its carriers. In this respect, the insured’s interests were no longer implicated in the decision in Potomac Insurance. Aristone did not suffer the fallout from a deferred defense, because Selective and OneBeacon stepped into the breach. Aristone was fortunate in that the appointed counsel was skillful enough to navigate the insurance conflicts and emerge with the insured’s interests intact.
In contrast, it is often the case that insurers confronting sizable claims will unite in opposition of multiple carriers, each deferring or seeking to limit its duty to defend their common insured. The insured faces a tangled response to a long-tail claim, which frequently attracts reservation of rights letters from insurers, particularly in environmental or construction claims.
Notwithstanding the lack of harm to the insured, Aristone, the prospect of direct contribution claims against other insureds contributed to the multiplicity of suits below, created confusion as to who represented who, and caused the protraction and added cost of the Potomac dispute.
The Potomac Insurance Court also avoids direct comment on the potential conflicts of interest that arise when counsel appointed by the carrier to defend the insured also represents the insured in a related insurance coverage action. (Carrier-appointed-counsel in the School Construction Action also filed the complaint, negotiated and settled the initial Aristone Coverage Action between Aristone against PMA, and then helped draft the release.)
The resulting dissonance is manifest throughout the underlying Appellate Division opinion, which goes so far as to remind itself not to ignore the first fact in such arrangements, that the insured is also the client. The insurer, notwithstanding the assertion of control of the defense, is not permitted to reconfigure or prioritize its interests over those of the insured. The insurer is permitted to exercise control over the defense of the insured. The purpose remains the defense of the insured, notwithstanding the New Jersey Supreme Court’s longstanding view that this cannot be done with “fidelity” when there are potential coverage issues.
Potomac Insurance is the fifth New Jersey Supreme Court opinion in the Owens-Illinois line, the fifth time the Court has revisited and re-canvassed allocation law, the fifth time the Court has encouraged and admonished carriers to approach coverage issues in a proactive, efficient and equitable manner. Yet the school construction claim, which the Court recognized as a relatively simple one, took more than a dozen years and four separate actions to finally be resolved.
 Royal assumed the responsibility of its former subsidiary, Newark Insurance Company, which insured Aristone between 7/95 and 7/96, so Royal was effectively on the risk for the 7/95 – 7/97 period.
 OneBeacon is the transferee of Potomac Insurance Company of Illinois which was the entity that actually insured Aristone between 7/97 – 7/98.
 The $700,000 settlement amount paid to the school was allocated among the carriers in the following manner: PMA $150,000; Royal $140,000; OneBeacon $150,000; and Selective $260,000.
 The arbitrator in the Aristone Coverage Action also determined that PMA’s share of its defense and indemnification obligations should be determined through a Carter-Wallace allocation. See, Potomac Ins. Co. v. Pennsylvania Mfrs. Ass’n Ins. Co., 425 N.J. Super. 310 (App. Div. 2012).
 The Appellate Division elects not to describe the lawyer as either Aristone’s counsel or OneBeacon’s counsel, instead referring to “the attorney appointed by OneBeacon and Selective Way to represent Aristone”.
 The school construction claim spawned four lawsuits: 1) the School Construction Action; 2) the Aristone Coverage Action; 3) the OneBeacon Coverage Action; and 4) the Ertle action, which was a suit involving Aristone and its carriers against Ertle, a judgment-proof subcontractor, and its carriers. Both counsel for OneBeacon and counsel for PMA were admonished by the Appellate Division for skirting the entire controversy doctrine and for not make the required Rule 4:5-1(b)(2) disclosures regarding the carrier contribution claims.
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