FKB Professional Liability Practice Alert: Two Recent Decisions show New York State is Solidifying its Position as a Jurisdiction that Permits Insurers to Recoup Underlying Litigation Costs.

When disclaiming coverage, insurers may attempt to recover costs paid defending the underlying claim in subsequent declaratory judgment proceedings. Although many states reject insurers’ rights to seek reimbursement for public policy reasons, two recent New York decisions, one by the Appellate Division, First Department, and the other by the United States District Court, Eastern District, demonstrate that New York State is solidifying its position as a jurisdiction that permits insurers to recoup underlying litigation costs. The decisions involved lawyers’ professional and general liability policies; in each case, the Court awarded defense costs where the successful insurer timely reserved rights, without subsequent objection, and the reservation clearly referenced policy sections concerning the reimbursement of defense costs.

In Certain Underwriters at Lloyd’s London Subscribing to Policy No. SYN-1000263 v. Lacher & Lovell-Taylor, P.C., 2013 NY Slip Op 08112, _ AD3d _ (1st Dept. 2013), Lloyd’s (“Underwriters”) successfully argued that the subject lawyers’ professional liability policy was inapplicable because the underlying claim was based solely on causes of action alleging overbilling by the defendant law firm and not a claim for “damages” as defined in the policy. Specifically, the complaint did not allege “[a]cts tending to show that but for [defendant law firm’s] negligence, they could have achieved a better result for him.” The unanimous appellate panel affirmed the trial court’s order entitling Underwriters to reimbursement of over $160,000 in litigation costs incurred defending the subject claim prior to obtaining the declaratory judgment. The decision notes Underwriters’ explicit reservation of rights to seek reimbursement of defense costs in the event of a finding of no coverage.

Similarly, in American Family Home Insurance Co. v. Richard A. Delia, et al., 2:12-cv-5380 (E.D.N.Y. November 15, 2013), defendant Richard Delia (“Delia”) initially sought coverage and a defense from American Family Home Insurance Co. (“American”) in connection with a third-party action relating to an underlying personal injury lawsuit in which Delia himself was the direct plaintiff. American provided a defense under reservation of rights but later denied coverage arguing that the claim was barred by the &”business pursuits” and “uninsured premises” exclusions of the policy. American filed suit against Delia inter alia seeking reimbursement of defense costs spent defending the third-party action. The court granted judgment in favor of American holding that, “[b]ecause American had no obligation to defend Delia, it is entitled to reimbursement of the monies it spent on that defense…” In support, the Federal court cited National Union Fire Ins. Co. of Pittsburgh, PA v. Ambassador Group, Inc., 556 N.Y.S.2d 549 (1st Dept. 1990) wherein the Appellate Division, First Department, had held that a directors and officers liability policy imposed an obligation to reimburse defense costs. Certain Underwriters at Lloyd’s and American Family Home Insurance Co., supra, are consistent with previous New York court decisions.

In Gotham Ins. Co. v. GLNX, Inc., 92-cv-6415 (S.D.N.Y. August 6, 1993), Gotham moved for a declaratory judgment confirming that it was not obligated to defend or indemnify GLNX and sought reimbursement of defense costs. Gotham had explicitly reserved its right to recoup defense costs and GLNX did not expressly refuse consent to such an arrangement. Accordingly, when the court found that Gotham had no duty to defend, it also held that Gotham was entitled to reimbursement of defense costs.1

IMPACT ON INSURERS/CONSIDERATIONS

The above cases confirm New York among the growing minority of states that increasingly allow for the recovery of defense costs by insurers. Taken together, along with existing New York case law, Certain Underwriters and American Family Home solidify the ability of insurers to recoup defense costs so long as appropriate steps are taken. The insurer wishing to preserve rights to pursue reimbursement of defense costs is well advised to ensure that it: (1) issues policies containing a clear provision providing for recoupment of defense costs; (2) timely reserve rights; and (3) specifically references the policy section(s) concerning defense cost recoupment within the reservation.

Important business considerations should also be analyzed before seeking the recovery of defense costs, including the collectability of any costs that may be awarded as measured against the legal fees spent recovering these costs. This consideration is somewhat mitigated if the insurer is already bringing a declaratory judgment action. However, costs will almost certainly increase as a result of: (i) the need to prove the fees allegedly owed; and (ii) possible efforts to enforce any money judgment obtained. It is important to remember that litigation costs relating to the enforcement of policy provisions are generally not recoverable.2 The costs recoverable should also be weighed against the potential damage caused to long-term relationship(s) with the customer/insured and insurance broker/agent – i.e. the risk that additional policies may not be purchased and/or renewed in the future, as a result. The costs and risk of losing any declaratory judgment action should also be taken into account. Pursuant to Mighty Midgets v. Centennial Insurance Co., 47 N.Y.S.2d 599 (1979) an insured cast into a “defensive posture” who then prevails in a subsequent coverage litigation is entitled to recover its litigation costs.3 Potential “bad-faith” claims are also possible if an insurer wrongfully denies coverage or improperly seeks the recovery of defense costs to which it is not entitled.

Ultimately, given the recent holdings and considerations discussed supra, the prudent insurer should properly reserve rights to recover underlying defense costs where applicable, but then be judicious and engage in fact-specific cost-benefit analysis to determine whether it is a prudent business decision to seek recovery of those costs. To discuss the holdings in Certain Underwriters at Lloyd’s London and American Family Home Insurance Co., or this area of law generally in more detail, please feel free to contact Andrew R. Jones.

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1. A similar outcome was reached in Max Specialty Insurance Company v. WSG Investors, et. al., 09-cv-5237
   (E.D.N.Y. August 2, 2012) involving a commercial general liability insurance policy.
2. See generally Hooper Associates, Ltd. v. AGS Computers, Inc., 74 N.Y.2d 487 (1989).
3. See Andrew Kowlowitz, “Mighty Midgets” Fee Shifting Rule: a Study in Exceptions, NYLJ, May 25, 2011