Insurance Bad Faith. Splitting The Baby: The Insurer s Duty To Notify The Insured Of The Need For An Allocated Verdict MEALEY S LITIGATION REPORT

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1 MEALEY S LITIGATION REPORT Insurance Bad Faith Splitting The Baby: The Insurer s Duty To Notify The Insured Of The Need For An Allocated Verdict by Fay E. Ryan, Esq. and Kimberly N. Gorak, Esq. Butler Pappas Weihmuller Katz Craig LLP Tampa, Florida A commentary article reprinted from the December 9, 2010 issue of Mealey s Litigation Report: Insurance Bad Faith

2 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith Commentary Splitting The Baby: The Insurer s Duty To Notify The Insured Of The Need For An Allocated Verdict By Fay E. Ryan and Kimberly N. Gorak [Editor s Note: Fay E. Ryan is a partner the Tampa office of Butler Pappas Weihmuller Katz Craig LLP, which also has offices in Chicago, Charlotte, Mobile, Tallahassee and Miami. She is an experienced trial attorney in the firm s Extra-Contractual, Third-Party Coverage, and Liability Departments. Kimberly N. Gorak is a senior associate in the Tampa office of Butler Pappas, also practicing in the firm s Extra-Contractual, Third-Party Coverage, and Liability Departments. Any commentary or opinions do not reflect the opinions of Butler Pappas or Mealey s. Copyright # 2010 by Fay E. Ryan and Kimberly N. Gorak. Responses are welcome.] I. Introduction Generally, the insured bears the burden of demonstrating the existence of coverage under the insuring agreement while the insurer bears the burden of proving the applicability of a policy exclusion. Assuming that the insured establishes that some portion of the judgment entered against it is covered by the policy, who is responsible for demonstrating what portions of that judgment are covered by the policy and what portions are not? Most courts hold that the burden rests with the insured. However, an exception exists in cases where the insurer fails to fulfill certain good-faith duties owed to the insured. An insurer who undertakes the defense of a suit against its insured must meet a high standard of conduct. 1 The right to control the litigation pending against an insured is accompanied by certain good-faith duties and obligations. One of these is the duty not to prejudice the insured s rights by failing to request special interrogatories or an allocated verdict when the claims against the insured include elements of covered damages and elements of non-covered damages. 2 This article explores the origins of this duty, explains how an insurer can fulfill the duty, and discusses some of the consequences of a breach of that duty. II. Burdens Of Proof With Respect To Allocation More often than not, when suit is filed against the insured, the plaintiff asserts several causes of actions seeking damages, some of which are potentially covered and some of which are not. Because the insured bears the burden of proof with respect to covered elements of damages, the consequence of an unallocated verdict is the catastrophic total loss of coverage as a result of the inability to produce evidence to demonstrate that some or all of the verdict is comprised of covered damages. 3 If the burden of apportioning damages between covered and non-covered claims rested solely on the insured, who is generally not in control of the defense, the insurer could escape responsibility by simply failing to request an allocated verdict. The insured would be left in the difficult, if not impossible position of establishing the amount of the total verdict constituting covered damages without any evidence of the jury s intent. 4 Because insurers are generally in the best position to recognize the need for an allocated verdict, they are given incentive to do so. Once the duty arises, an insurer who fails to advise the insured of the need for an allocated verdict bears the burden of proving what portions of the verdict are covered and what portions 28

3 MEALEY S LITIGATION REPORT: Insurance Bad Faith Vol. 24, #15 December 9, 2010 are not. 5 If this is not possible, the insurer may be forced to pay the entire, unallocated amount of damages assessed against the insured. 6 Consequently, a breach of the good-faith duty to request an allocated verdict exposestheinsurertoliabilityfornon-coveredor excluded damages. III. Origins Of The Duty To Disclose The Need For An Allocated Verdict In Duke v. Hoch, 7 the Fifth Circuit discussed the origins of the insurer s duty to advise the insured of the need for an allocated verdict and the consequences of failing to adequately fulfill this duty. Duke involved an appeal by a judgment creditor who attempted to reach by garnishment the proceeds of liability policies insuring judgment debtors. The judgment sought to be satisfied had been rendered in a suit in which the insurer furnished a defense to its insureds, and in which the plaintiff claimed both damages covered by the policy and damages not covered. 8 The issue was to what extent counsel supplied by the insurer was obligated to make an allocated verdict available to the insured-defendant. 9 During the trial, no request was made by the injured party (Duke) or by the insured (Hoch and Associates) for an allocated verdict. Later, in the garnishment action, Hoch s insurer invoked the defense that Duke could not show what part of his verdict was for negligently caused injuries, covered by the policy, and what part was for separate intentional torts which were not covered. 10 The trial court held that the insurer prevailed because Duke could not meet his burden of proving that all of the awarded damages were covered by the policy. 11 The appellate court reversed, holding that the insurer s counsel was required to make known to the insureds the availability of a special verdict and the divergence of interest between the insureds and the insurer springing from whether damages were or were not allocated. Because the record failed to establish that the insurer had done so, the court shifted the burden of apportioning between covered and non-covered damages to the insurer. The insureds were freed from the impossible burden of proof placed upon them by the insurer. 12 IV. Ties To The Good-Faith Duty To Defend As the Duke court explained, the insurer s obligation to advise the insured of the need for an allocated verdict is tied to the duty to defend. 13 When an insurer undertakes the defense of its insured and exercises its right to control the litigation, the insurer becomes obligated to provide full notice to the insured of the divergence of interests between the parties in order to afford the insured a full opportunity to protect its rights. By proceeding with the defense of the action, the insurer obligates itself not to prejudice the rights of the insured, either through its action or its failure to act. 14 Consequently, the insurer has a duty to inform the insured of the possible consequences of a general verdict for damages when coverage for some of those damages is disputed. A. Situations Involving Shared Control Of The Defense It seems clear that the insurer s duty to advise the insured of the need for an allocated verdict inheres in its goodfaith duty to defend its insured when the insurer selects and retains defense counsel and exercises control over the defense. In many situations, however, the insurer does not assume complete control of the defense of its insured. For example, due to a conflict of interest, the insurer may hire independent counsel to represent the insured. The insured may retain its own separate counsel to handle coverage issues. Some policies contain selfinsured retentions (SIR s), permitting the insured to control its own defense within the SIR. Other policies grant the insurer the right to participate in the insured s defense, but do not impose a duty to defend. While each case must be carefully analyzed under its own facts, the extent to which the insurer controls the defense generally dictates the lengths to which the insurer must go to fulfill its duty to notify the insured of the need for an allocated verdict. Under certain circumstances, the insurer may even be completely relieved of its obligation to advise the insured of the need for an allocated verdict. This issue was recently addressed by the Supreme Court of West Virginia in Camden-Clark Memorial Hospital Association v. St. Paul Fire and Marine Insurance Company. 15 In that case, the medical professional liability policy at issue contained a $2 million SIR. The policy gave the insurer the right to investigate or associate in the defense of any claim or suit for covered damages brought against the insured, but it did not require the insurer to provide a defense within the SIR. 16 The claimant filed suit against the insured alleging causes of action for negligent medical care, spoliation 29

4 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith of evidence, fraudulent concealment and outrage, seeking both compensatory and punitive damages. The insurer reserved its right to refuse to indemnify the insured for any punitive damages or for damages arising from fraudulent concealment or the tort of outrage. During the underlying lawsuit, the insured was represented by an attorney it selected and retained. Notably, the insurer did not exercise its right to participate in the defense of the insured during the trial of the underlying action, or at any point prior to trial. 17 Following the trial in the underlying suit, the insured filed a declaratory judgment action seeking coverage for the sums awarded to the claimants. The insured moved for summary judgment arguing that all of the awarded damages were covered under the policy because the tort of outrage could have been premised upon negligent or intentional conduct, and the jury made no findings regarding the intentional nature of the insured s conduct. In response, the insurer argued that its insured bore the burden of demonstrating that the damages at issue arose out of claims for negligent conduct rather than intentional conduct, which was excluded under the policy. 18 The court held that the insured s ordinary burden to allocate a verdict between covered and noncovered claims does not shift to an insurer unless the insurer has an affirmative duty to defend the insured under the policy terms. 19 Without an affirmative duty to defend the insured in good faith, there is no justification for shifting the burden of proof with respect to allocation to the insurer. 20 A different circumstance may exist, however, where the policy does not impose a duty to defend but the insured, recognizing the potential for a verdict in excess of the SIR, asks the insurer to participate in the defense. In such a situation, if the insurer affirmatively chooses not to participate in the defense, it should not be permitted to complain that the jury verdict is not allocated. 21 Even if the policy at issue does not require the insurer to assume the defense of its insured, the insurer may trigger its obligation to request an allocated verdict by exercising its right to participate in the defense. In Butterfield v. Giuntoli, 22 the insurer was an excess carrier who had the right, but not the duty, to participate in the defense. Counsel for the excess insurer was present in the courtroom every day of the trial and was even allowed to attend all discussions held in chambers between the parties. Moreover, counsel for the excess insurer was in regular contact outside of court with the defense attorneys handling the case. 23 The court opined that, in essence, the excess insurer fully participated in the case, short of entering an appearance. Furthermore, the court explained that the excess insurer was in the best position to request specific interrogatories addressing the coverage limitations presented by the terms of its policy. The carrier could have requested these interrogatories from defense counsel and/or could have intervened for the purpose of requesting allocation. Having elected not to do so, the court rejected the excess carrier s claim that its attorney was an observer and not a participant. 24 Describing the insurer s conduct as cavalier and risky, the court granted summary judgment in favor of the insured and found that the insured was entitled to coverage for punitive damages because the insurer could not meet is burden of proof in establishing that the unallocated verdict arose from excluded claims. 25 Excess insurers, who often seek to rely upon coverage exclusions different from those at issue under the primary policy, are particularly vulnerable. Any request for an allocated verdict by a primary insurer may be insufficient to address the exclusions or other coverage limitations contained within the excess policy, forcing the excess insurer to independently notify the insured of the need for allocation. B. Duties Arising In The Course Of Settlement Negotiations The general principles set forth in Duke v. Hoch also apply when a lawsuit is settled in advance of trial, at least in cases where the insurer has a duty to defend. For example, in Gay & Taylor, Inc. v. St. Paul Fire & Marine Ins. Co., 26 the insurer undertook the defense of the insured in a suit where the claimant sought actual and punitive damages. The insurer reserved its rights to deny coverage for non-covered damages, including punitive damages. 27 Following a settlement, the court held an evidentiary hearing on the apportionment issue. Neither the insured nor the insurer was able to present any evidence that an apportionment of the settlement between punitive damages and actual damages was made, or even discussed by the parties, during settlement negotiations. 28 In the absence of any factual evidence, the court logically concluded that 50% of the settlement figure was for actual damages and 50% was for punitive 30

5 MEALEY S LITIGATION REPORT: Insurance Bad Faith Vol. 24, #15 December 9, 2010 damages, thereby requiring the insurer to pay half of the settlement amount. 29 (In actuality, about 97% of the total damages claimed were punitive damages). 30 The court noted that the insurer participated in settlement negotiations and was well aware that the agreed settlement figure exceeded the claim for actual damages, yet requested no apportionment of the settlement figure. Under the circumstances, the insurer should have requested an apportionment. 31 Would the insurer have been in a better position if it had not actively participated in the settlement negotiations? Under a policy where the insurer has the right, but not the duty to defend, the insurer may be better suited by taking a hands-off approach and limiting its participation in settlement negotiations. Under a duty to defend policy, however, an insurer s lack of involvement in settlement negotiations will not relieve the insurer of its burden to allocate the settlement between covered and non-covered claims. In fact, courts may be even less inclined to engage in post-settlement efforts to attempt apportionment if the insurer had the right to allocate the settlement and failed to do so. In Premier Parks, Inc. v. TIG Ins. Co., 32 the insurer offered a defense to its insured as required under the policy. Relying upon the prior course of dealings between the parties, the insured elected to retain its own counsel and the insurer acquiesced in the retention of the insured s chosen counsel. During the course of settlement negotiations, the insured repeatedly requested the insurer s input on its positions and guidance with respect to its settlement approach. In response, the insurer claimed that it did not have enough information to respond to the insured s requests. 33 The insurer eventually requested an allocation of covered damages from the insured, then promptly rejected the insured s proposed allocation. Two days later, the insured and the claimants reached a settlement agreement that did not reflect any apportionment between covered and non-covered claims. 34 The Premier Parks court found that the insurer s lack of interest, action or involvement before and during settlement negotiations provided ample justification for requiring it to bear the burden of establishing what portion of the settlement was attributable to covered claims, even though the insurer did not control the defense. Relying upon the theory of equitable estoppel, the court held that the insurer s failure to participate throughout the settlement process warranted that it be estopped from denying coverage regardless of the fact that an allocation had not been performed. Despite the evidence of the insured s prior allocation of damages, the court refused to conduct any post-settlement allocation and found that the insurer was responsible for the total amount of the negotiated settlement falling within its coverage period. 35 V. Fulfilling The Duty To Notify The Insured Of The Need For Allocation When the insurer reserves its right to refuse to indemnify the insured for damages arising out of non-covered claims, a conflict of interest arises between the insurer and the insured. When such a conflict arises, the insurer must fully advise the insured of the situation. Additionally, the insurer must give the insured full opportunity to protect its rights, and must do nothing in the defense of the action to prejudice those rights. 36 As part of its good-faith duties, the insurer is therefore required to make known to the insured the availability of a special verdict and the divergence of interests arising out of the allocation of damages. 37 There are several ways the insurer can fulfill its duty to the insured. A. Reservation Of Rights Letters Frequently, reservation of rights letters provide the insurer with an opportunity to raise the issue of allocation at an early stage. As soon as it becomes clear that allocation may be necessary, a post-suit reservation of rights letter should disclose the potential divergence of interests and address the need for allocation. It is clear, however, that merely issuing a reservation of rights letter, even one that cites to the potentially applicable coverage defenses and raises the issue of allocation, may not be sufficient to discharge the insurer s duty to its insured. 38 In order to satisfy its good-faith obligations, the insurer should inform the insured, in writing, of the particular need for an allocated verdict. The insurer should specifically explain to the insured and/or defense counsel why an allocated verdict is necessary. The reason for the requested allocation should be clearly stated by specifically referring to all elements of non-covered damages, excluded damages and applicable policy limits. Notice to the insured should include reference to all policy exclusions, all applicable policy limits, all elements of non-covered damages sought by the claimants, and any public policy concerns that may impact the availability 31

6 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith of coverage. Special care should be taken to advise the insured when issues of intent 39 or vicarious liability 40 may ultimately impact the availability of coverage for a particular claim or element of damages. An insurer who fails to fully describe the reasons why an allocated verdict is needed may breach its good-faith duty to the insured, even if the insured actually requests an allocated verdict. 41 The notice provided to the insured and defense counsel should also impress upon the insured the significance of the request by clearly articulating the consequences of the failure to utilize interrogatory verdict forms. Most significantly, the insured should be warned that an unallocated verdict may stand as a complete bar to indemnification under a liability policy. Full disclosure is necessary to permit the insured and defense counsel to make an informed decision on the matter. B. Preparing Allocated Verdict Forms Advising the insured of the need for an allocated verdict or settlement agreement and explaining the particular need for allocation may not be enough to satisfy the insurer s duty 42 An insurer s duty may also extend to actually computing and formulating an appropriate allocation and/or drafting proposed interrogatory verdict forms. Courts may be more inclined to extend the insurer s obligations in this fashion where the insured specifically requests such input from the insurer, or where the insured expresses a lack of sufficient knowledge of the potentially applicable coverage defenses. In such situations, preparing the proposed allocated verdict forms should be a joint effort between the insurer and defense counsel and the insured s personal counsel, if any. Some courts suggest that the insured should also be advised to retain its own counsel to protect its interests. 43 This seems like a sensible approach in light of the divergence of interests between the insured and the insurer. In response, however, the insured may assert that it should not be forced to retain its own independent counsel for the sole purpose of advising it on the issue of the allocated verdict because it places an undue burden on the insured, who is entitled to a complete defense from the insurer. 44 C. Intervention For The Purpose Of Requesting An Allocated Verdict Some courts even suggest that the insurer is required to notify the trial court of the need for special interrogatories allocating damages, seek permission to attend the charge conference to propose such interrogatories, and intervene in the underlying litigation if all else fails. 45 Such measures may not be feasible or appropriate 46 especially in jurisdictions where insurers are generally prohibited from intervening in actions against the insured. On the other hand, some jurisdictions permit an insurer to intervene in the underlying suit against the insured for the limited purpose of proposing special jury interrogatories allocating damages between covered and noncovered claims. 47 In order to determine whether intervention by the insurer is appropriate, courts consider a number of factors including: 1) whether the proposed allocation presents questions of fact in common with those at issue in the underlying action; 2) whether the intervention will delay or prejudice adjudication of the rights of any party to the underlying action; 3) whether the timetable for trial will be affected; 4) whether the proposed intervention would create a conflict of interest for the insured s counsel; and 5) whether the insurer made prior attempts to resolve the coverage dispute by filing a declaratory judgment action. 48 If the underlying suit is pending in a jurisdiction that permits intervention, insurers should explore this option if it appears that the insurer s interests may not be adequately protected or when the insured s efforts to seek an allocated verdict are opposed. D. Asking The Court To Allocate If the insurer fails to request an allocated verdict, or fails to adequately advise the insured of the need for an allocated verdict, all is not necessarily lost. In Duke v. Hoch 49, the court remanded the case to give the insurer an opportunity to submit proof as to whether the insurer s counsel, as counsel having the right to control the defense, had adequately disclosed the situation to the insured s own counsel. If the insurer could not make such a showing then the district court was instructed to face the issue of attempting retrospectively to allocate the damages awarded. 50 Courts are sometimes willing to engage in post-verdict or post-settlement allocation, provided that there is some evidence upon which the court may rely to do so. 51 However, courts may be less inclined to do so if the insurer failed to make any prior efforts to seek allocation. In such situations, the insured will likely claim that the insurer who remained silent when presented with an 32

7 MEALEY S LITIGATION REPORT: Insurance Bad Faith Vol. 24, #15 December 9, 2010 opportunity to address the issue of allocation is estopped from subsequently seeking allocation. 52 Any post-verdict allocation by the court will likely be characterized by the insured as an impermissible collateral attack on the jury s verdict, requiring speculation on the part of the court, especially when the trial transcript does not adequately address the issue of allocation. 53 Typically, the only competent evidence of the jury s intent is located in the trial transcript and the verdict form. 54 Even when the trial transcript provides some evidence regarding the amount of the verdict attributable to covered damages, disputed issues of fact may prevent the insured or the insurer from obtaining summary judgment on the issue of the availability of insurance coverage. 55 If a post-verdict allocation is not possible due to lack of evidence of the jury s intent, the insurer may be forced to pay the full amount of the unallocated verdict, including any non-covered damages. VI. Obstacles To Obtaining An Allocated Verdict Even when an insurer attempts to obtain an allocated verdict, circumstances beyond the insurer s control may thwart those efforts. The insured may object to the allocation, alleging that the proposed method of allocation is somehow prejudicial to its defense. The claimant s attorney may object. 56 The trial judge may refuse to permit the jurors to use the proposed allocated verdict form, fearing that it will result in confusion. 57 For example, in MedMarc Cas. Ins. Co. v. Forest Healthcare, Inc., 58 counsel for the insured requested a jury instruction that would have allowed the jury to apportion damages between two of the insured s carriers based upon the effective dates of the two policies at issue. Counsel for the claimant opposed the instruction and the judge refused to give the proposed instruction: DEFENSE COUNSEL: We have proffered an instruction. I don t think we ve talked about it on the issue of dividing the-letting the jury apportion damages as between the time period for the Insurance Policy... PLAINTIFF S COUNSEL: Your Honor, our position on that, number one, it would be entirely inappropriate. This is an issue that s not before the jury. There s no evidence of these policies before the jury, and it would be confusing and make no sense to them when they get this time period breakdown. Of bigger concern is the conflict that this raises between the insurance company who-and the insured, the defendant, who is-who these attorneys are supposed to be representing. THE COURT: I m not going to give that one. It s too confusing. You can make your proffer. 59 Under these circumstances, who should bear the burden of proof with respect to the resulting unallocated verdict? Did the insurer fulfill its good faith duty to the insured even though it was ultimately unsuccessful in obtaining an allocated verdict? The insurer should not be penalized if it fulfills its duty to advise the insured and defense counsel s attempts to obtain an allocated verdict on behalf of the insured are unsuccessful. 60 In situations where the insured s independent counsel, after being fully informed by the insurer of the potential benefits of an allocated verdict, chooses not to seek an allocated verdict fearing that it may increase the potential for an adverse judgment, the insurer should not be held responsible if counsel s judgment was in error. 61 If the insured refuses to allocate after full disclosure, the burden of proof should not shift to the insurer. Insureds who hinder the insurer s efforts to obtain an allocated verdict should not be permitted to later complain about the consequences of their tactical decision. 62 In an effort to overcome these obstacles, the insurer may want to consider offering to work with the insured s counsel to develop a special verdict form that adequately allocates the judgment between covered and non-covered claims, without negatively impacting the defenses asserted by the insured. Generally, defense counsel will need to take the lead as she will first need to address issues of liability. Before the verdict from is finalized, the insurer should insist that the insured or the insured s personal counsel review and approve of the proposed form, to prevent the insured from later claiming that the insured did not have an opportunity to weigh in on the issue of allocation. To the extent possible, the insurer and defense counsel should advise the court and the claimant s attorney of 33

8 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith the particular need for an allocated verdict and the consequences of an unallocated verdict. This will reduce the likelihood that the claimant s attorney will object to the proposed allocated verdict forms at trial. After all, allocation is in the best interest of the plaintiffclaimant who may otherwise be left with a unallocated judgment that does not trigger the insurer s indemnity obligations. VII. Bad-Faith Implications And The Potential For Excess Liability While it seems clear that an insurer s good-faith duties to its insured include advising the insured of the need for an allocated verdict, courts have been reluctant to classify the failure to do so as conduct amounting to bad faith. 63 At present, an insurer s liability for damages as a result of its failure to meet its burden of proof when faced with an unallocated verdict is typically capped at the policy s aggregate limits. 64 While courts have been reluctant to force offending insurers to pay damages in excess of aggregate policy limits, 65 a breach of this good-faith duty may nonetheless result in the payment of substantial sums in excess of a policy s per-claim, per-occurrence or per-person limits. In Lavender v. Grange Mutual Casualty Co., 66 the insurer issued a policy with a $15,000 bodily injury limit and a $10,000 property damage limit. The jury returned an unallocated verdict and the insurer was unable to prove what portions of the award were attributable to bodily injuries and what portions of the award, if any, were attributable to property damage. The court held that the insurer s liability was limited to $25,000 (the combined property damage and bodily injury policy limits) because the insurer was unable to produce any evidence demonstrating that the general verdict exceeded either the property damage or bodily injury policy limits. 67 While this rationale limits the insurer s exposure to the aggregate policy limits, the insurer may be exposed to substantial liability in excess of its per-claim policy limits. For example, under the facts presented in Lavender, if the jury contemplated an award of only $1,000 for the property damage and $24,000 for bodily injuries, the insurer would have been obligated to pay $9,000 over and above the policy s bodily injury limits. Similar dilemmas may arise in the context of per-person policy limits. This situation most frequently arises when damages are awarded in lump sum to a married couple, one of whom is asserting only a consortium claim, and the amount awarded to the injured spouse potentially exceeds the policy s per-person limit. 68 If it appears that an unallocated verdict may exceed the applicable per-person policy limit, the insurer will bear the burden of producing evidence showing a substantial likelihood of overpayment should the unallocated verdict be paid. It is then up to the claimant to prove that overpayment would not occur by full payment of the verdict. This procedure allows the insurance contract to control insurer liability while preventing the insurer from escaping liability due to a bare possibility of overpayment. If the court finds that the insurer fully and fairly handled its defense responsibilities and requested an allocated verdict, the court should enter an order limiting the insurer s liability to the applicable per-person policy limit. 69 If not, the insurer may face exposure in excess of the applicable per-person policy limit. The potential for allegations of bad faith remains a threat, particularly if there is evidence demonstrating that the insurer recognized the need for an allocated verdict or settlement agreement and then failed to appropriately advise the insured. Such conduct, or lack thereof, is certainly not in the best interests of the insured. Properly notifying the insured of the need for an allocated verdict should protect the insurer. Such notice will likely be viewed as a demonstration of good faith, sufficient to forestall any claim of bad faith. 70 Ironically, an insurer may face allegations of bad faith arising out of its efforts to obtain an allocated verdict. In Lexington Ins. Co. v. Hattiesburg Medical Park Management Corp., 71 the insured argued that the insurer wrongfully attempted to manipulate the defense of the underlying lawsuit based solely on insurance coverage concerns by requesting a special verdict form allocating liability and damages between the claimant s two periods of residency at a health care facility (presumably in an effort to determine whether two separate self-insured retentions were applicable). The court held that the insurer s repeated requests for an allocated verdict over the insured s vehement objections, could not serve as a basis for a bad-faith claim. However, the court left open the possibility that the insured could assert a bad-faith claim if the special jury verdict form suggested by the insurer was ultimately utilized over the insured s objections

9 MEALEY S LITIGATION REPORT: Insurance Bad Faith Vol. 24, #15 December 9, 2010 In Red Head Brass, Inc. v. Buckeye Union Ins. Co., 73 the insured claimed that the insurer breached its duty of good faith when it hired separate counsel to prepare jury interrogatories and verdict forms. The insured argued that, in the course of notifying it of the need for an allocated verdict, the insurer admitted that the result of the jury interrogatories could be adverse to the insured. Based upon this statement, the insured claimed that the insurer breached its fiduciary duty. The court disagreed and explained that it was in the interest of both the insured and the insurer to know the amount of damages the jury assigned to each claim. 74 The fact that an allocated verdict may reveal that the damages are largely or exclusively attributable to noncovered claims may be advantageous to the insurer, but it does not amount to harm inflicted upon the insured by the insurer. The preparation of jury interrogatories is similar to a routine investigation of a claim. Such an investigation may uncover conclusive evidence that the claim falls outside the scope of coverage. Nonetheless, the insurer s quest for, and discovery of, this evidence should not support a claim for a breach of the duty of good faith. 75 This is especially true when the stated purpose of the requested allocation is to protect the insured from the potential adverse effects of an unallocated verdict. VIII. Conclusion The insurer s duty to advise the insured of the need for allocation of a jury verdict or settlement agreement inheres in its good-faith duty to defend the insured. However, this duty may also be triggered when an insurer without a duty to defend nonetheless undertakes the defense of the insured or participates in the defense of the underlying claim. Insurers who so participate may be estopped from later claiming that they did not have the duty or the opportunity to request allocation. Unwary insurers who fail to recognize the need for an allocated verdict and/or fail to appropriately advise the insured of the significance of allocation may be faced with the impossible burden of proving apportionment. 76 Insurers who are ultimately unable to do so may be forced to indemnify the insured for non-covered damages, or excluded damages, and may even face exposure in excess of the applicable policy limits. Recognizing the need for an allocated verdict or settlement agreement and fully disclosing this need to the insured and defense counsel are the insurer s best defenses to a claim that the insurer breached a duty owed to the insured. When an insurer has discharged its duty to inform the insured of the need for an allocated verdict, the court in the coverage action should not penalize the insurer by rigidly enforcing the allocation contained within the verdict. Rather, the insurer should still be permitted to challenge the allocation of damages. In some jurisdictions, the insurer is not bound by the determinations made by the fact finder in the underlying suit against the insured (in which the insurer is not a party) with respect to its obligations under the policy. 77 Therefore, the insurer should not be bound by an allocated verdict or estopped from presenting additional evidence, or evidence contrary to the allocation, in any action regarding coverage. Endnotes 1. Duke v. Hoch, 468 F.2d 973, 978 (5th Cir. 1972). 2. Magnum Foods, Inc. v. Continental Cas. Co., 36 F.3d 1491, 1498 (10th Cir. 1994). 3. Duke, 468 F.2d at Id. 5. Magnum Foods, 36 F.3d at See, e.g., Premier Parks, Inc. v. TIG Ins. Co., No. 02C PLA, 2006 WL , at *13 (Del. Super. Ct. Sept. 21, 2006) F.2d 973 (5th Cir. 1972). 8. Id. at Id. at Id. at Id. at Id. at If an insurer wrongfully refuses to defend its insured in a case in which covered and non-covered claims are asserted, and a general verdict is entered against 35

10 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith the insured, the insurer is estopped from claiming that any portion of that judgment is not covered. This is true even if the insurer s refusal to defend is in good faith. See Palermo v. Fireman s Fund Ins. Co., 676 N.E.2d 1158, 1163 (Mass. App. Ct. 1997) ( An insurer who unjustifiably refuses or fails to defend its insured, even in good faith, assumes the consequential risks of that breach of its insurance contract. Those risks not only include liability for the amount of the judgment reflecting claims covered by the policy, but also extend to bearing the burden of proof with respect to apportionment of a judgment between claims that were covered by the policy and claims that were not covered. ). 14. Id. at 978 (citing Fidelity & Cas. Co. of New York v. Stewart Dry Goods Co., 271 S.W. 444 (Ky. 1925)) S.E.2d 566 (W. Va. 2009). 16. Id. at Id. at Id. 19. Id. at Id. at ; but see Camden-Clark Memorial Hospital Corp. v. St. Paul Fire and Marine Ins. Co., No. 6:06-cv-01013, 2010 WL (S.D. W. Va. June 7, 2010) (declining to extend the Supreme Court of West Virginia s holding to cover a situation where an insured kept in close contact with the insurer regarding the claim, but failed to expressly request that the insurer participate in the defense). 21. Id. at A.2d 646 (Pa. Super. Ct. 1995). 23. Id. at Id. 25. Id F. Supp. 710 (W.D. Okla. 1981). 27. Id. at Id. at Id. 30. See id. at 713 (the complaint alleged fraud by misrepresentation and bad faith on the part of the defendants and prayed for $235,000 in actual damages and $6,765,000 in punitive damages). 31. Id. at No. 02C PLA, 2006 WL (Del. Super. Ct., September 21, 2006). 33. Id. at * Id. at * Id. at *12-* See Duke, 468 F.2d at Id. 38. See id. at 979 (The court noted that Home s notification of defense under a reservation of rights was not a sufficient notification to the insureds that they should protect their interest by requesting an appropriate verdict. The reservation was no more than a general warning, sufficient to preserve Home s right to litigate coverage but too imprecise to shield Home at a suit on the policy by the plaintiff s onerous burden of proving allocation. ); see also Premier Parks, Inc., 2006 WL at *4 (requiring the insurer to pay the entire amount of an unallocated verdict despite the insurer s reservation of the right to obtain an allocation of damages between covered and uncovered claims in any future judgment, settlement, arbitration, mediation or similar disposition. ). 39. Camden-Clark Memorial Hospital Corp. v. St. Paul Fire and Marine Ins. Co., No. 6:06-cv-01013, 2010 WL (S.D. W. Va. June 7, 2010) (dealing with an unallocated verdict encompassing medical negligence and intentional actions on the part of the insured). 40. Butterfield v. Giuntoli, 670 A.2d 646, 656 (Pa. Super. 1995) (hospital s excess liability insurer failed to carry burden of establishing that jury awarded 36

11 MEALEY S LITIGATION REPORT: Insurance Bad Faith Vol. 24, #15 December 9, 2010 punitive damages in underlying malpractice action against hospital solely on basis of direct liability, for which public policy bars insurance coverage, rather than on basis of vicarious liability for acts of doctors, for which public policy does not bar coverage, where under instructions submitted, jury could have found hospital either directly negligent or vicariously negligent or both). 41. Buckley v. Orem, 730 P.2d 1037, 1045 (Idaho App. 1986) (Even though defense counsel actually requested an allocated verdict, the appellate court remanded to allow the insurer to develop the record to demonstrate that it specifically informed the insured of the particular need for an allocated verdict arising out of the perperson policy limits). 42. Premier Parks, Inc., 2006 WL at * Lavender v. Grange Mutual Casualty Co., No. 1417, 1979 WL at *4 (Ohio App. 4th Dist., August 27, 1979). 44. Allan D. Windt, 2 INSURANCE CLAIMS AND DISPUTES 5th 6:27 (2010). 45. Pharmacists Mutual Ins. Co. v. Myer, 993 A.2d 413, 420 (Vt. 2010). 46. See, e.g., Restor-A-Dent Dental Laboratories, Inc. v. Certified Alloy Products, Inc., 725 F.2d 871, 877 (2d Cir.1984) (finding that district judge did not abuse discretion in denying insurer s request to intervene to submit proposed interrogatories); High Plains Co-op. Ass n v. Mel Jarvis Const. Co., 137 F.R.D. 285, 285 (D. Neb. 1991) (denying request for limited intervention where district court was skeptical of insurer s claimed policy limitations and exclusions and was concerned about potential conflict of interest for insured s counsel, who was hired by insurer); Nieto v. Kapoor, 61 F. Supp. 2d 1177, 1195 (D.N.M. 1999) (denying a motion for permissive intervention where the proposed intervenor/insurer s interests were unquestionably antagonistic to those of the defendant and therefore had the potential to prejudice the adjudication of his rights, since the defendant would [n]ot only... have the burden of presenting a defense to Plaintiffs accusations, but he will carry the additional burden of having his insurer interfere with his defense ). 47. See, e.g., Fidelity Bankers Life Ins. Co. v. Wedco, Inc., 102 F.R.D. 41, (D. Nev. 1984) (allowing insurance company to intervene for the limited purpose of proposing special interrogatories and verdict forms for potential submission to the jury); Thomas v. Henderson, 297 F. Supp. 2d 1311, (where insurer furnished defense under reservation of rights, it would be allowed to intervene for the limited purpose of proposing special jury interrogatories allocating damages between covered and non-covered claims, rejecting claims that intervention would unduly prejudice the parties, confuse the jury or delay the trial). 48. See id.; see also Thomas v. Henderson, 297 F. Supp. 2d 1311, (S.D. Ala. 2003); Frank Betz Associates, Inc. v. J.O. Clark Const., L.L.C., No. 3:08-cv-00159, 2010 WL (M.D. Tenn. June 4, 2010) F.2d 973 (5th Cir. 1972). 50. Id. at See, e.g., Premier Parks, Inc., 2006 WL at * See id. (finding that the insurer failed to implicate the court s duty to allocate the settlement where the record did not reflect any attempt by the insurer to conduct any independent investigation of the claim or the extent to which covered damages were included in the settlement amount). 53. Lavender, 1979 WL at * TIG Ins. Co. v. Premier Parks, Inc., No. Civ.A.02C04126JRS, 2004 WL (Del. Super. Ct. March 10, 2004). 55. Arnett v. Mid-Continent Cas. Co., No. 8:08-CV T-27EAJ, 2010 WL (M.D. Fla. July 16, 2010) (The trial transcript was sufficient to support the insurer s contention that the general verdict was based, at least in part, on the cost of repairing defective construction, which was not covered by the policy. However, the trial transcript was not sufficient to permit a meaningful allocation of damages, requiring a trial on the issue.) 56. Morris v. Western States Mutual Auto. Ins. Co., 268 F.2d 790, (7th Cir. 1959). 37

12 Vol. 24, #15 December 9, 2010 MEALEY S LITIGATION REPORT: Insurance Bad Faith 57. See, e.g., MedMarc Cas. Ins. Co. v. Forest Healthcare, Inc., 199 S.W.3d 58 at (Ark. 2004). 58. Id. 59. Id. 60. See, e.g., Morris, 268 F.2d at 793; see also, MedMarc Cas. Ins. Co. v. Forest Healthcare, Inc., 199 S.W.3d (Ark. 2004) (Thornton, J., dissenting) (Because the insurer adequately attempted to obtain an allocated verdict by requesting an apportionment instruction and informing the insured of the need for an apportioned verdict, the insurer fulfilled its obligations and the burden of apportioning the verdict did not shift to the insurer). 61. Allan D. Windt, 2 INSURANCE CLAIMS AND DISPUTES 5th 6:27 (2010). 62. Buckley v. Orem, 730 P.2d 1037, 1044 (Idaho App. 1986). 63. Gay & Taylor, Inc. v. St. Paul Fire & Marine Ins. Co., 550 F. Supp. 710, 718 (W.D. Okla. 1981); Lavender, 1979 WL at *5; Red Head Brass, Inc., 735 N.E.2d at See Lavender 1979 WL at *4 (holding that any recovery in excess of the insurer s combined bodily injury and property damage policy limits could only be awarded against the insurer in a tort action based upon a showing of bad faith in settlement negotiations or in the defense of the underlying action); Am. Motorists Ins. Co. v. Trane Co., 544 F. Supp. 669 (W.D. Wis. 1982) (breaching insurer liable only up to policy limit, but bears burden of proof on allocation given that it breached the duty to defend, forced insured to conduct its own defense, and gave up its opportunity to participate in settlement discussions). 65. See Duke, 468 F.2d at (an insurer should not be permitted to escape liability for a judgment against its insured unless it very clearly appears that the insurer is being required to incur obligations in excess of the provisions of its policy). 66. Lavender, 1979 WL at * Id. at * See, e.g., Buckley v. Orem, 730 P.2d 1037 (Idaho App. 1986). In most jurisdictions, a consortium claim will not trigger a separate per-person policy limit. See, e.g., New Amsterdam Cas. Co. v. Hart, 16 So. 2d 118, 119 (Fla. 1943). 69. Id. at 1045 (the insurer bears the burden of producing evidence showing a substantial likelihood of overpayment should the unallocated verdict be paid. It is then up to the claimant to prove that overpayment would not occur by full payment of the verdict ); see also Morris, 268 F.2d at Lavender, 1979 WL at * No. 2:07CV26KS-MTP, 2007 WL (S.D. Miss. July 6, 2007). 72. Id. at * N.E.2d 48 (Ohio App. 3d 1999). 74. Id. at Id. 76. See Davis J. Howard, Apportioning an Insurer s Liability Between Covered and Noncovered Parties and Claims, 369 PRACTICING LAW INSTITUTE LITIGATION AND ADMINISTRATIVE PRACTICE COURSE HANDBOOK SERIES 597 (1989). 77. See Vanguard Ins. Co. v. Townsend, 544 So. 2d 1153, (Fla. 5th DCA 1989), receded from on other grounds, Higgins v. State Farm Fire & Cas. Co., 894 So. 2d 5 (Fla. 2004). n 38

13 MEALEY'S LITIGATION REPORT: INSURANCE BAD FAITH edited by Mark Rogers The Report is produced twice monthly by Web site: ISSN