Illinois Association of Defense Trial Counsel P.O. Box 7288, Springfield, IL IDC Quarterly, Vol. 6, No. 4 (6.4.6)

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1 Legal Ethics By: Harry E. Bartosiak Norton, Mancini, Argentati, Weiler & DeAno, Chicago Conflicts of Interest Within the Tripartite Relationship Few ethical issues have greater impact on the daily life of a defense attorney hired by an insurance company than the potential conflicts of interest that can arise between the interests of insurer and insured. Such a conflict of interest triggers certain ethical duties on the part of the attorney as well as the insured and failure to be highly cognizant of these duties can lead to serious consequences including malpractice liability. Therefore, a great deal of legal literature has been generated on this topic. The tripartite relationship between insurer, insured and attorney and the conflicts of interest that may arise therefrom have been regularly addressed by courts in Illinois and across the country. It is useful for the defense practitioner to examine the current state of Illinois law in this regard from time to time, and that is the primary purpose of this article. This article is not intended to be an exhaustive guide to all of the potential problems inherent in the tripartite relationship, but is instead geared toward providing the practitioner with a review of Illinois law and a starting point for considering conflicts of interest within this context. I. Illinois Rules of Professional Conduct First and foremost, defense attorneys hired by insurance companies to represent insureds must be mindful of the Illinois Rules of Professional Conduct in regard to conflicts of interest. Specifically, reference must initially be made to Rule 1.7, the General Rule in regard to conflict of interest. Rule 1.7 provides as follows: (a) A lawyer shall not represent a client if the representation of that client will be directly adverse to another client, unless: (1) the lawyer reasonably believes the representation will not adversely affect the relationship with the other client; and (2) each client consents after disclosure. (b) A lawyer shall not represent a client if the representation of that client may be materially limited by the lawyer s responsibilities to another client or to a third person, or by the lawyer s own interests, unless: (1) the lawyer reasonably believes the representation will not be adversely affected; and (2) the client consents after disclosure. (c) When representation of multiple clients in a single matter is undertaken, the disclosure shall include explanation of the implications of the common representation and the advantages and risks involved. The application of this rule to the tripartite relationship context has been considered by Illinois courts as will be demonstrated below: Page 1 of 5

2 II. Illinois Decisional Law a. Who is the Client? Initially, it should be noted that a great deal has been written in regard to whether an insurance defense attorney represents the insurer, the insured or both. That specific topic will not be explored in detail within the boundaries of this article. 1 Suffice it to say that Illinois courts have ruled that an attorney-client relationship exists between an insured and the attorney hired by the insurer, which imposes upon the attorney the same professional obligations that would exist had the attorney been personally retained by the insured. Nandorf, Inc. v. CNA Insurance Companies. 2 Therefore, when an insurance company retains an attorney to defend an action against one of its insureds, the attorney must work toward furthering the interests of both the insured and insurance company. Maryland Casualty Company v. Peppers. 3 In essence, an attorney who is hired by an insurance company to represent an insured has dual clients, at least in terms of ethical questions which may arise during the course of this relationship. Not surprisingly, Illinois courts have held that an attorney is obligated to recognize and address potential conflicts of interest that may arise between the insurer and the insured. Illinois Municipal League Risk Management Association v. Seibert. 4 Above and beyond considering application of the specific Rules of Professional Responsibility to the tripartite relationship, attorneys must be aware that they owe fiduciary duties to both the insured and the insurer. Nandorf. 5 In expressing concern over potential conflicts of interest within the tripartite relationship, Illinois courts have recognized that an attorney hired by an insurance company may feel more aligned with its interests. Illinois Masonic Medical Center v. Turegum Insurance Company. 6 Additionally, courts have noted that an attorney may find it more financially advantageous to protect the insurer s interest as opposed to that of the insured s. Tews Funeral Home, Inc. v. Ohio Casualty Insurance Company. 7 Given these statements by Illinois courts, the importance placed on this issue by the judiciary in past years is not surprising. b. When a Conflict Occurs When an attorney identifies potential conflicts of interest that may arise between his or her representation of the insured or the insurer, the attorney s dual representation may continue if the attorney is able to remedy the conflict of interest by full disclosure and consent of the parties. Seibert. 8 If the consent of the parties cannot be secured, Rules 1.7(a) and (b) of the Illinois Rules of Professional Conduct prohibit an attorney from continuing to represent both the insured and insurer. Additionally, if the conflict of interest is serious enough, the insurer may be required to surrender control of the litigation to the insured. Nandorf. 9 The purpose of generally allowing the insurer to control the litigation has been described as follows: The purpose of such a right is to allow insurers to protect their financial interests in the outcome of litigation and to minimize unwarranted liability. Giving the insurer exclusive control over litigation against the insured safeguards the orderly and proper disbursement of large sums of money involved in the insurance business. Parker v. Agricultural Insurance Company. 10 The insured may, however, at his or her own expense, choose to hire independent counsel. Nandorf. 11 In any event, not just any conflict of interest will result in the insurer s loss of its right to control the defense. The conflict must rise to a level from which it appears that the insurer may not vigorously defend a claim lodged against its insured. County of Massac v. United States Fidelity & Guaranty Co. 12 If the insured could be prejudiced by the insurer s further representation, the insurer, in many circumstances, may meet its obligation to defend by simply reimbursing the insured to retain outside counsel. Thornton v. Paul. 13 Page 2 of 5

3 c. Potential Conflicts What then are the situations that may exist which would be deemed a conflict of interest in this tripartite context? It should be noted that an insurer s interest in negating policy coverage does not, in and of itself, create a sufficient conflict of interest to preclude the insurer from assuming the defense of its insured. O Bannon v. Northern Petro Chemical Company. 14 The Illinois Supreme Court has found, however, that a conflict of interest is present which requires an insurer to surrender control of the litigation to the insured and provide reimbursement for outside counsel in at least two circumstances. First, the court has held that a conflict of this nature exists when the insurer is obligated to provide defenses for two or more insureds who have adverse interests. Murphy v. Urso. 15 In that case, a passenger in a vehicle sued the driver and the owner of another vehicle for injuries sustained in an automobile accident. The court held that there were conflicting interests between that of the driver and owner because it would be advantageous for the driver to argue that he was an agent of the owner of the vehicle and, conversely, it would be in the best interest of the owner of the vehicle to argue that the driver had not been given permission to drive the vehicle. Murphy. 16 The second circumstance under which Illinois courts have held that an insurer is required to surrender control of the litigation to the insured is when the proof of certain facts would shift liability from the insurer to the insured. Seibert. 17 For example, such a conflict has been found in situations where the underlying action asserts certain claims that are covered under the insurance policy and other claims which the insurer is required to defend but asserts are not covered by the policy. Maryland Casualty Company. 18 In the case of Illinois Municipal League Risk Management Association v. Seibert, supra, a police officer who was sued along with the City of Mattoon brought a declaratory judgment action alleging that a conflict of interest with the association defending the self-insured city required that the association pay for outside counsel to represent the officer because a punitive damages claim might result in the officer s incurring personal liability. In accordance with the principals detailed above, the court held that the insurer was required to pay for outside counsel to represent the officer. Seibert. 19 Additionally, conflicts of interest may arise in the context of whether or not an attorney has an insured s authority to settle a matter. Many insurance policies provide that an insurer has authority to settle lawsuits without the insured s consent. Nonetheless, attorneys must be cognizant of their duty to inform the insured of the proposed settlement. In the case of Rogers v. Robson, Masters, Ryan, Brumund and Belom, 20 a physician brought an action against attorneys who had been retained by the physician s insurer to defend a medical malpractice action against him, to recover damages allegedly suffered due to the fact that the attorneys had settled the action without the physician s expressed permission and knowledge. 21 The Supreme Court of Illinois held that, regardless of the extent of the insurer s authority to settle without the physician s consent, the attorneys were under a duty to make a full disclosure to the physician in regard to the intent to settle the litigation without the physician s consent and contrary to his express instructions. 22 Certainly, a conflict of interest may also arise in the defense of claims for damages in excess of an insured s policy limits. (See Littlefield v. McGuffey 23 ). O n a related note, the Second District Appellate Court in the case of Smiley v. Manchester Insurance & Indem. Co. of St. Louis, 24 found an attorney liable for malpractice for failing to communicate authorization for settlement received from the insurer which resulted in the exposure of the insured to the excess of liability above the policy limits for alleged bad faith negotiations. Page 3 of 5

4 Another frequent scenario arising within the tripartite context is the circumstance when an insurer believes that the allegations of the underlying complaint may or may not bring the claim potentially within the coverage of the relevant insurance policy. In this instance, the insurer s duty to defend is broader than its duty to pay, and the insurer may be obligated to defend against claims and causes of action which are not in fact covered under the policy. Conway v. Country Casualty Insurance Co. 25 The Illinois Supreme Court has held that in cases where there was potential coverage so that the insurer has a duty to defend, but the insurer believes that it has a valid policy defense, it must usually either: (1) defend the tort action under a reservation of rights; or (2) secure a declaratory judgment as to its rights and obligations before trial of the original tort action. Thornton v. Paul. 26 Where a duty to defend exists, but the insurer refuses to defend and fails to take either course of action, it may be barred from disputing questions of coverage in a subsequent action brought against it by its insured who has incurred liability in the underlying action. Murphy v. Urso. 27 After this analysis is undertaken, the attorney must examine the situation closely to determine whether or not conflicts of interest exist which cannot be resolved and which would prohibit the attorney from representing both the insured and the insurer (even under a reservation of rights) in the absence of full disclosure and consent of the parties. Conclusion As detailed above, Illinois courts have emphasized the dangers inherent in the tripartite relationship between an attorney, an insurer and an insured. Insurance defense counsel must be cognizant of the general principals of law in this regard and must perform an immediate analysis of any possible conflicts of interest that may arise throughout the course of the litigation. As the case law cited above demonstrates, the failure to consider these issues in a timely and meaningful fashion may result not only in ethical violations but also in malpractice liability on the part of the attorney. The bottom line scenario for an insurance defense attorney in regard to the tripartite relationship is simply that the attorney ethically serves two masters and, if a serious conflict of interest arises between those masters, the attorney may be in a position where further dual representation is impossible. Endnotes 1 Steven J. Abarbanel and Susan Murphy, Ethical Considerations and the Tri-Partite Relationship: Attorney/Insurer Relationships in Managing Conflicts of Interest, Defense Research Institute, 1995; ABA Formal Opinion 282 (1950); ABA Formal Opinion 1476 (1981). 2 Nandorf, Inc. v. CNA Insurance Companies, 134 Ill.App.3d 134, 479 N.E.2d 988 (1st Dist. 1985); see also Rogers v. Robson, Masters, Ryan, Brumund and Belom, 74 Ill.App.3d 467, 392 N.E.2d 1365, affirmed, 81 Ill.2d 201, 407 N.E.2d Ill.2d 187, 355 N.E.2d 24 (1976) Ill.App.3d 864, 585 N.E.2d 1130 (4th Dist. 1992) N.E.2d at Ill.App.3d 158, 522 N.E.2d 611 (1988) F.2d 1037 (7th Cir. 1987) N.E.2d at N.E.2d 988 at Misc. 2d 678, 440 N.Y.S. 2d 964 (1981) N.E.2d at Ill.App.3d 35, 446 N.E.2d 584 (1983) Ill.2d 132, 384 N.E.2d 335 (1978) Ill.App.3d 734 (1983) Ill.2d 444 (Ill. 1981) Ill.2d 444 (Ill. 1981). (See also Seibert, 585 N.E.2d at 1136) N.E.2d at Ill.2d 187, 355 N.E.2d 24 (1976) N.E.2d at Ill.2d 201 (1980). Page 4 of 5

5 N.E.2d at N.E.2d at F.2d 101 (7th Cir. 1992) Ill.App.3d 364 N.E.2d 683 (2d Dist. 1977) Ill.2d 388, 442 N.E.2d 245 (1982) Ill.2d 132 (1978) Ill.2d 444 (1981). Illinois Association of Defense Trial Counsel Page 5 of 5