When an insurer reserves rights, it is putting the insured on notice that there may be reasons that the claim is not covered. In some states, a unilateral letter from the insurer can accomplish a reservation of rights. In other states, the insured must consent in what is often called a non-waiver agreement. Of course, the law varies from state to state and guidance should always be sought from a lawyer licensed in the particular jurisdiction.
The scope of a reservation can range from relatively insignificant (such as the possibility of part of a claim not being covered) to very significant (such as an exclusion that may serve to bar all coverage). The effect of a reservation on an insurer’s position at mediation can thus range from very insignificant to highly significant.
Here are some of the issues that the mediator will need to understand, preferably before the mediation begins:
The scope of the coverage issue. A mediator involved in a mediation will want to know the following: (1) what is the basis for the reservation of rights? (2) What is the significance of the reservation? Is it minor or a potentially major barrier to coverage? If the coverage issue is not significant, it will probably have little practical effect on the mediation. If the coverage issue is significant, it may become a focal point of the mediation.
Will coverage lawyers be involved in the mediation? The insurer may have its coverage counsel present at the mediation, taking the position that there is no coverage. This can in effect turn the mediation into a three-party mediation, and certainly complicates the potential for resolution.
It is thus important for the mediator to know if the insurer will bring its coverage counsel to the mediation, and, if so, whether the insured will have its own coverage counsel present. Most insureds, whether they are businesses or individuals, do not have a sophisticated understanding of coverage issues. It will usually be preferable, therefore, for the insured to have its own coverage counsel present to counterbalance the expertise of the insurer’s coverage counsel.
Is defense counsel “independent counsel”? The mediator should also determine whether the insured’s defense counsel is “independent counsel,” meaning a lawyer not simply appointed by the insurer. In some jurisdictions, when an insurer reserves rights, the insured may be entitled to such independent counsel, to be provided at the insurer’s expense.
Although all defense counsel (whether appointed by the carrier or independent) are supposed to owe their professional obligations to the insured (and not the insurer), many courts and commentators have recognized the potential conflict inherent in the “tripartite relationship” between an insurer, the insured, and appointed defense counsel. Appointed defense counsel are typically on the carrier’s panel and get a substantial amount of business from repeated appointments by the carrier. Independent counsel do not have this financial tie. This may seem like a small point, but it is important to understand the motivations of all participants.
Assuming the mediator has established who the participants will be and their potential motivations, there are many issues that can arise during the mediation that revolve around the insurance issues. The remainder of this post will discuss some of them.
Authority to settle. Coverage issues may lead to issues regarding the carrier representative’s authority to settle. The mediator will want to explore this issue, preferably prior to the mediation. If the carrier representative will have no realistic authority to settle, then either (a) the insured will have to come out of pocket to fund the settlement (which may in turn raise issues regarding the carrier’s right to control settlement), or (b) the plaintiff will have to be willing to accept a nuisance settlement. Obviously, neither of the alternative scenarios raises an optimal opportunity to settle, so it is important to gain an understanding of the carrier’s level of authority (or apparent level) as quickly as possible.
Coverage issues may affect the amount the plaintiff is willing to accept. If the coverage position appears to have some substantive merit, and if the insured does not have independent resources to fund a settlement or pay a judgment, the plaintiff may be willing to accept a lesser settlement than would otherwise be the case. This can be a touchy issue, particularly for the claimant and the insured, and should be approached carefully by a mediator.
The insured needs to understand its risks if there are coverage issues. Some insureds refuse to realize that insurance policies do not cover every claim. If the carrier’s coverage obligations appear questionable, then the mediator may need to give that feedback to the insured. As noted above, it also helps if the insured has its own coverage counsel present. It may be that the insured will need to fund all or part of a settlement to make it happen.
The carrier’s risk of a wrong guess on coverage. Although some insureds may not understand legitimate coverage issues, my experience suggests it is at least equally likely that the carrier will be taking a questionable coverage position. Many coverage lawyers who represent carriers seem to take extremely aggressive and questionable coverage positions, and cling them just as aggressively even when the potential weakness of those positions is brought to their attention.
A mediator faced with such a position may want to remind the carrier representatives of some fundamental realities. First, an insurer, regardless of its reservation of rights, generally has an obligation to protect the interests of its insured. Second, the duty to defend is typically interpreted more broadly than the duty to indemnify. Thus, even if a carrier has a colorable coverage position, chances are that the carrier will be on the hook for defense costs, which can be significant. This fact may lead a carrier to compromise to avoid further defense costs. Third, any ambiguities in the policy will be construed against the carrier.
If a carrier is taking an extremely aggressive position, refusing to provide a defense, or threatening to pull a defense, it may help to remind the carrier that it had better guess right on all counts. In other words, if the carrier is refusing to do anything, its position had better be correct that there is no duty to the insured -- to defend or indemnify -- or it may be exposed to liability under the policy and sometimes outside of the policy.
The insurer’s potential exposure for excess liability. An insurer that unreasonably refuses an offer to settle within its policy limits risks being held liable for any subsequent judgment, even if the judgment exceeds its policy limits. This is another factor that can come into play during settlement negotiations. Claims handlers usually are averse to exposure for “extra contractual” liability, or exposure beyond policy limits. Thus, a settlement offer from the plaintiff within policy limits may put pressure on a carrier even if it has a coverage position. (See the discussion above about the carrier’s risk of making a wrong guess).
Will the settlement resolve the coverage issues? A carrier may try to resolve the underlying liability claim while seeking to retain the right to contest coverage with the insured. Obviously, this is not an optimal situation for the insured, because it will be trading litigation where the defense is being paid for by the insured for coverage litigation, in which the insured will have to pay its own counsel.
For a carrier with thoughtful claims handlers, a settlement that leaves coverage issues unresolved is probably not a good situation for the carrier, either. The carrier will still be looking at paying fees to litigate with its insured, instead of closing its file. A mediator should try to make every effort to resolve the entire dispute, including the coverage issues.
Conclusion. When there are coverage issues, mediation becomes much more difficult. In such circumstances, a mediator needs to understand the motivations of all of the parties, including the carrier. The mediator needs to understand the basis for the carrier’s coverage position, and to try to develop an understanding of whether it is strong or weak. Even when there are coverage issues involved, the parties will often all have substantial reasons to want to settle the dispute. Although a mediation involving coverage issues becomes more difficult, it is not impossible to reach a resolution.