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Subrogation Between CGL Carriers in Texas
Monday, March 22, 2010

The issue of subrogation rights between insurance carriers in instances where an insured has multiple insurance policies has long been an issue in Texas.  In 2007, the Texas Supreme Court addressed this issue, but the decision left many related issues undecided.  Recent cases, as described below, have finally answered many of those issues, and provided some clarity to this issue in Texas.

In Mid-Continent Insurance Co. v. Liberty Mutual Insurance Co., 236 S.W.3d 765 (Tex. 2007), the Texas Supreme Court held that if two or more insurance policies covering a loss contain pro rata or "other insurance" clauses, and a co-primary insurer pays more than its pro rata portion of a settlement to indemnify an insured, then the overpaying insurer cannot seek reimbursement from the underpaying insurer under theories of contribution or subrogation-regardless of that insurer's contribution to the settlement.  The Court held that once an insured has been "fully indemnified," the insured has no rights that a co-insurer may assert against another separately and independently obligated co-insurer in subrogation.

In Mid-Continent, the Fifth Circuit certified several questions to the Texas Supreme Court.  The first and dispositive question was:  Is there a duty owed to the insurer who settles a case and pays more that its proportionate share by the underpaying insurer to reimburse the former as a result of its over-payment?  The case arose from the settlement of an automobile accident.  Liberty Mutual and Mid-Continent were each independent co-insurers of a highway contractor (Kinsel) for an automobile accident. Kinsel was the named insured under the Liberty Mutual policy.  Kinsel was also an additional insured under the Mid-Continent policy.  The Mid-Continent policy was provided by Crabtree Barricades, Kinsel's subcontractor.  The subcontractor's Mid-Continent policy named the contractor as an additional insured-but only for liability arising out of Crabtree's work.

Kinsel, Crabtree, and others were sued as a result of the traffic accident.  At mediation, the parties agreed to a settlement of $1.5 million.  However, Mid-Continent only agreed to contribute $150,000 towards the settlement.  Liberty Mutual paid the remaining $1.35 million to settle the claim.  Liberty Mutual subsequently sued Mid-Continent to recover Mid-Continent's pro rata share of the amount Liberty Mutual paid to settle the claim against the contractor, Kinsel.

The trial court concluded that each insurer owed a duty to act reasonably in exercising its rights under the CGL policies.  The trial court found Mid-Continent acted unreasonably and concluded that Liberty Mutual was entitled to recover one-half of the settlement from Mid-Continent based on a subrogation theory.  Mid-Continent appealed, and the Fifth Circuit certified the above question to the Texas Supreme Court.

On appeal, Liberty Mutual argued that (1) it was subrogated to Kinsel's contractual right to enforce language in Mid-Continent's policy that required it to defend claims and suits and to pay an equal or pro rata share of settlement; and (2) it was subrogated to Kinsel's common law right to have Mid-Continent act reasonably when handling an insured's defense-including reasonable negotiation and participation in settlement.

The Texas Supreme Court rejected the theories of recovery, and concluded that Liberty Mutual was not entitled to reimbursement from Mid-Continent because (1) there was no direct duty of reimbursement between co-primary insurers; and (2) after the insured was "fully indemnified" it had no remaining rights against Mid-Continent to which Liberty Mutual could be subrogated. Accordingly, the Court held that there was no right to recover an additional pro-rata portion of a settlement from an insurer regardless of the insurer's lack of contribution to the settlement.

The holding of the Texas Supreme Court in Mid-Continent has been followed by the Federal Courts in Lexington Insurance Company v. Chicago Insurance Company, 2008 WL 3538700 (S.D. Tex.) and most recently in Nautilus Insurance Co. v. Pacific Employers Insurance Co., 303 Fed. Appx. 201 (December 16, 2008).

In contrast, however the Texas Supreme Court declined to apply Mid-Continent in Duininck Brothers, Inc. v. Howe Precast, Inc., 2008 WL 4372709.  The Duininck case presented circumstance similar to the Mid-Continent facts.  However, the insured in Duininck incurred $500,000 in un-reimbursed fees and expenses associated with the defense and settlement of the underlying case.  As such, Duininck was not a "fully indemnified" and Mid-Continent was held not to be applicable.

Courts have been reluctant to extend Mid-Continent beyond its specific facts and issues.  For example, in Trinity Universal Insurance Co. v. Employers Mutual Casualty Co., 2010 WL 6903 (5th Cir. 2010), the Fifth Circuit had to decide whether the Mid-Continent holding extended to an insurer's duty to defend its insured.  If Mid-Continent did not apply, the Fifth Circuit then had to determine whether insurance companies that pay defense costs may recoup a portion of those costs from a co-insurer that fails to defend their common insured.  In Trinity, the Fifth Circuit held that the district court erred in applying Mid-Continent to prohibit the Appellants[1] from recovering defense costs, and remanded for a determination of those costs.

In Trinity, Trinity and Employers Mutual Casualty Co. ("EMC") each issued CGL policies to Lacy Masonry, Inc. covering Lacy Masonry while it was engaged as the mason in the design, construction, and renovation of a hospital in New Braunfels, Texas. Each policy obligated the issuing insurer to indemnify Lacy Masonry for "sums that [Lacy Masonry] becomes legally obligated to pay as damages because of 'bodily injury' or 'property damage' " to which the policy applied. Each policy further obligated the issuing insurer "to defend [Lacy Masonry] against any 'suit' seeking those damages."  The four policies contained materially identical pro rata or "other insurance" clauses under which "each insurer contributes equal amounts until it has paid its applicable limit of insurance or none of the loss remains, whichever comes first." EMC's policy contained a "Designated Work endorsement/exclusion" limiting its coverage by excluding any injuries arising out of Lacy Masonry's work with any "exterior insulation and finish system" ("EIFS").

The hospital sued Lacy Masonry and several other companies, alleging each was responsible for property damage caused during the design, construction, and improvement of the hospital building.  Lacy Masonry tendered the defense of the suit to its insurers.  Appellants agreed to defend Lacy Masonry and shared the defense costs.  EMC, however, denied that it had a duty to defend the suit under its policy and refused to participate in or contribute to the defense. The participating insurers eventually settled with the hospital.

Appellants sued EMC in the Southern District of Texas, seeking, among other things, a declaration that EMC owed a duty to defend Lacy Masonry in the hospital suit.  The district court found that EMC had a duty to defend Lacy Masonry in the underlying suit and that EMC violated its duty to defend.  Nonetheless, the district court dismissed Appellants' claims on the merits, holding that under Mid-Continent, Appellants could not recover defense costs from EMC under either contribution or subrogation theories.

The Fifth Circuit found that the district court mischaracterized the Mid-Continent holding with respect to the contribution claim.  The Court held that Mid-Continent only addressed the question of whether one co-insurer has a right of contribution or subrogation against a non-paying co-insurer to recover money paid to indemnify a common insured for a loss. The Court found that Mid-Continent did not address the question of whether a co-insurer that pays more than its share of defense costs may recover such costs from a co-insurer that violates its duty to defend a common insured.

In Mid-Continent, the Texas Supreme Court held that the effect of the other insurance clause precluded a direct claim for contribution among insurers because the clause made the contracts several and independent of each other.  Because the duty to indemnify is "several and independent," However, the other insurance clause had no effect on EMC and its duty to defend Lacy Masonry.  The "other insurance" clause did not affect the duty to defend so as to render it several and independent.  Therefore, each of the insurers owed a duty to defend Lacy Masonry even if each insurer only owed Lacy Masonry a pro-rata duty to indemnify.

In Trinity, the Fifth Circuit focused on the long-recognized distinction between an insurer's duty to defend and its duty to indemnify, and reiterated that the duty to defend is separate from and broader than its duty to indemnify.  The Fifth Circuit noted that these principles were recognized in the terms of the EMC insurance contract, wherein the "other insurance" clause applied only to the duty to indemnify, not the duty to defend.  The provision provided that, if there were co-primary insurance policies, EMC would share the cost of paying for any loss that Lacy Masonry suffers.  There was no provision for a similar proration of costs incurred in the course of its separate and distinct duty to defend Lacy Masonry.  Accordingly, the Fifth Circuit held that the district court erred in finding that Appellants could not recover from EMC for it's pro rata share of the cost of defending Lacy Masonry. 

The landmark decision in Mid-Continent has remained a narrow holding limited to specific facts.  These include a "fully indemnified" insured, co-insurers who have an independent duty to indemnify and pro-rata clauses in both policies.  Absent a "fully indemnified" insured, Mid-Continent does not apply.  Likewise, Mid-Continent has not been extended to limit the recovery of defense costs in the underlying suit.

[1] Appellants (and Cross-Appellees), Trinity Universal Insurance Co., Utica National Insurance, and National American Insurance Co.  Hereinafter, they will be referred to collectively as "Appellants."

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