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Time-on-the-Risk Allocation Does Not Apply to Defense Costs, Says First Circuit

The Peabody Essex:
Repository of maritime art, Asian treasures and leaky old storage tanks.

In a victory for policyholders, the First Circuit has rejected an insurer’s argument that defense costs should be allocated pro rata when claims involve multiple years of continuing or progressive pollution.

Pro rata allocation would have left insureds responsible for the share of defense costs proportionate to any uninsured periods, which often include lengthy periods of missing policies or periods of no coverage due to a pollution exclusion. Without pro rata allocation, any insurer with a duty to defend must defend the whole suit.

When the Massachusetts Supreme Judicial Court (SJC) adopted pro rata time-on-the-risk allocation for progressive pollution cases and rejected joint and several liability in Boston Gas, it expressly limited its decision to indemnity allocation and left open the question of defense cost allocation. But in Peabody Essex Museum, Inc. v. United States Fire Ins. Co., _ F.3d. _ (September 4, 2015), the First Circuit rejected an insurer’s effort to extend pro rata allocation to defense costs.

Peabody Essex is unlikely to be the last word on this issue. As the decision notes, the First Circuit was predicting how the SJC would rule on this issue, and a litigant such as the insurer – who removed the case from state to federal court – cannot expect the federal court to blaze new state law trails.

Nevertheless, the First Circuit was forceful in declining to apply proration to defense costs. It cited “long-standing state precedent on the broad and formidable contractual duty to defend that heavily favors insureds and that stands apart from indemnity obligations,” and observed that the aspects of the Boston Gas decision the insurer relied on for its argument that the SJC would prorate defense costs were insignificant in comparison to that precedent.

Also, in affirming the District Court’s decision on defense cost allocation, the First Circuit criticized a contrary District Court decision in Graphic Arts Mut. Ins. Co. v. D.N. Lukens for failing to address this extensive duty to defend precedent. (I covered these two decisions here when Lukens was decided.)

The SJC will likely speak to this issue eventually. In the meantime, the Second Circuit will have a crack at it, since an appeal is pending in Narragansett Electric, where a New York District Court applying Massachusetts law also rejected the application of pro rata allocation.

Indemnity Payments

The First Circuit also affirmed the District Court’s ruling on the allocation of the insured’s indemnity payments. The First Circuit approved the District Court’s application of a jury finding that, the court conceded, had “a fictional quality,” because it appropriately compelled the insurer to “shoulder the indemnity share that is associated with proof problems when that company defaulted on its duty to defend.”

In other words the outcome of the analysis with respect to indemnity payments was heavily influenced by the court’s determination that, having breached the duty to defend, the insurer had the burden of proving when the property damage occurred. (Beyond that aspect of the indemnity allocation holding, the decision rests on a complex procedural and factual analysis that is unlikely to have broader application. The procedural complexity may be attributable to the fact that the Boston Gas decision on indemnity allocation issued halfway through the District Court proceedings in Peabody Essex.)

93A – Section 11 v. Section 9

Finally, although the First Circuit affirmed that the insurer had breached the duty to defend by failing to pay any defense costs for an extended period of time, it reversed the District Court’s finding of c. 93A liability, because the District Court based its holding entirely on a violation of c. 176D, which is not conclusive in a claim between businesses under section 11 of c. 93A (as opposed to a consumer claim under section 9), and because the record did not show the kind of egregious and extortionate conduct that would support a finding that the insurer violated c. 93A, section 11. The c. 93A holding is worthy of a more detailed discussion and will be the subject of a future post.

 

 

About the Author

Harvey Nosowitz – Counsel

Harvey helps clients with commercial litigation, in particular insurance coverage, personal injury and products liability cases.

Please contact him with any questions:
hnosowitz@andersonkreiger.com
(617) 621-6555.


Posted In: Insurance

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