Insurance Law

Mississippi Court Holds Defense Costs Outside of Limits

In its recent decision in Federal Ins. Co. v. Singing River Health System, 2015 U.S. Dist. LEXIS 134814 (S.D. Miss. October 2, 2015), [subscribers can access an enhanced version of this opinion: lexis.com | Lexis Advance], the United States District Court for the Southern District of Mississippi issued a decision that could potentially have a significant impact on burning limits insurance policies.

The Singing River decision involves coverage under a directors and officers policy issued by Federal Insurance Company. Notably, the policy contained a fiduciary liability coverage part with a limit of liability of $1 million. Singing River was named as a defendant in several suits pertaining to its alleged underfunding of its employees’ retirement plan. Federal agreed to provide a defense to these suits under a reservation of rights, and later brought suit against Singing River, seeking, among other things, a declaration that its policy would exhaust upon payment of $1 million in defense costs.

The Federal policy insured against “loss,” a term defined as follows:

Loss means the amount that any Insured becomes legally obligated to pay on account of any covered Fiduciary Claim, including but not limited to damages, judgments, settlement, pre-judgment and post-judgment interest, Defense Costs and, solely with respect to Insuring Clause 2, Settlement Fees.

Additionally, the policy defined defense costs as follows:

Defense Costs means that part of Loss consisting of reasonable costs, charges, fees (including but not limited to attorneys’ fees and experts’ fees) and expenses (other than regular or overtime wages, salaries or fees or benefits of the directors, officers or Employees of the Organization) incurred in defending any Claim and the premium for appeal, attachment or similar bonds.

Finally, the policy stated that:

The Company shall have the right and duty to defend any Claim covered by this coverage section, even if any of the allegations in such Claim are groundless, false or fraudulent. The Company’s duty to defend any Claim shall cease upon exhaustion of the applicable Limit of Liability.

Notwithstanding this fairly straightforward and commonplace language in the Federal policy, the insured argued that legal fees associated with defending the underlying action should be treated as being outside the policy’s $1 million limit of liability. In so arguing, Singing River relied on the decision by the Mississippi Supreme Court in Moeller v. American Guarantee & Liability Insurance Co., 707 So. 2d 1062 (Miss. 1996), [subscribers can access an enhanced version of this opinion: lexis.com | Lexis Advance], wherein the Court concluded that when an insurer is providing a defense under a reservation of rights, the insured is entitled to counsel of its own choosing and the insurer must pay all reasonable defense costs. Singing River argued that the Moeller decision stands for the proposition that insureds are not “legally obligated” to pay defense costs when being defended under a reservation of rights. Singing River extrapolated this into an argument that because it was not “legally obligated” to pay defense costs when being defended under a reservation of rights, such amounts necessary fell outside the policy’s definition of “loss,” which is expressly limited to amounts, including defense costs, that the insured becomes legally obligated to pay as a result of a Fiduciary Claim.

The court found Singing River’s arguments compelling, explaining that:

The policy at issue defines “defense costs” in terms of the policy’s definition of “loss.” The term “loss” only includes defense costs that the insured is legally obligated to pay. Although Federal claims this interpretation of its policy is “strained,” it has not provided any authority supporting its argument. At a minimum, the policy language is ambiguous and must be construed in favor of Singing River. Federal is not permitted to subtract defense costs paid pursuant to Moeller from the policy limits, because the insureds are not legally obligated to pay those costs. Under Moeller, Federal is the party that is legally obligated to pay the defense costs retained for the insureds’ independent counsel.

It appears from the court’s decision, therefore, that if Federal had been providing an unqualified defense to Singing River, then the Moeller decision would not come into consideration, and defense costs would erode the limit. Once Federal elected to provide a defense under a reservation of rights, however, Singing River was not “legally obligated” to pay defense costs and as such, any defense costs paid by Federal could not be considered “loss” for the purpose of eroding the policy’s limit of liability.

    Brian Margolies, Partner, Traub Lieberman Straus & Shrewsberry LLP

Read more at the Traub Lieberman Insurance Law Blog, Edited by Brian Margolies.

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