Title: General Agents Insurance Co v. Midwest Sporting Goods Co.

State: illinois

Issuer: Illinois Supreme Court

Document:

Docket No. 98814-Agenda 16-January 2005.
GENERAL AGENTS INSURANCE COMPANY OF AMERICA,

INC., Appellee, v. MIDWEST SPORTING GOODS COMPANY et 							
al., Appellants.
Opinion filed March 24, 2005.
	JUSTICE THOMAS delivered the opinion of the court:
	At issue in this case is whether, following a declaration that an
insurer has no duty to defend its insured, the insurer is entitled to
reimbursement of the amounts paid for the defense of its insured in the
underlying lawsuit. The circuit and appellate courts held that the
insurer was entitled to reimbursement. For the following reasons, we
reverse the judgments of the circuit and appellate courts.

BACKGROUND
	The City of Chicago and Cook County sued Midwest Sporting
Goods Company (Midwest) and other defendants for creating a public
nuisance by selling guns to inappropriate purchasers. Midwest
tendered defense of the suit to General Agents Insurance Company of
America (hereinafter Gainsco), its liability carrier. Gainsco denied
coverage. The City of Chicago and Cook County then filed their first
amended complaint against Midwest and other defendants. Midwest
again tendered defense of the suit to Gainsco. On July 23, 1999,
Gainsco responded to Midwest's independent counsel as follows:
			"We wish to acknowledge and confirm our receipt and
review of the First Amended Complaint that you forwarded
to our office on behalf of your client and our Insured,
Midwest Sporting Goods, Inc. by letter dated April 28, 1999.
This letter will supplement Gainsco's letter of December 3,
1998 denying coverage with respect to the plaintiff's original
complaint in this matter. We have had an opportunity to
review the allegations of the First Amended Complaint, as
well as the policy documentation, and without waiving the
Company's rights or defenses under the Policy, would like to
call the following points to your attention.
			*** [The letter then quotes certain policy language.]
			The policy only applies to damages because of property
damage or bodily injury caused by an occurrence. The First
Amended Complaint does not seek damages because of
property damages or bodily injury. As such, the claim is not
covered under the Policy.
			The First Amended Complaint alleges that the Insured is
liable to the plaintiffs for various acts of intentional and/or
willful conduct. As a consequence, and based upon the
above-noted policy provisions, the claim may not be covered
under the Policy.
			Additionally, to the extent that the claim involves periods
of time that fall outside of the periods of time to which the
coverage afforded by the Company covers, the claim is not
covered by the Policy.
			Please note that to the extent that the claim seeks
injunctive relief, the claim is not a claim for damages and,
thus, is not afforded coverage under the Policy. Further, to
the extent that the claim is for punitive or exemplary
damages, the claim is not afforded coverage under the Policy.
			Subject to the foregoing, and without waiving any of its
rights and defenses, including the right to recoup any defense
costs paid in the event that it is determined that the
Company does not owe the Insured a defense in this matter,
the Company agrees to provide the Insured a defense in the
captioned suit. In light of the competing interests between the
Company and the Insured in respect of the coverage for this
matter, the Company agrees to the Insured's selection and
use of your firm as its counsel in this matter. However, the
Company notes its right to associate with the Insured and its
counsel in the defense of the underlying litigation.
			***
			Please note that any acts taken by or on behalf of the
Company are taken under and pursuant to a full reservation
of its rights and defenses under the Policy. Likewise, we will
understand that any acts taken by or on behalf of the Insured
are taken pursuant to a reservation of rights as well."
(Emphasis added.)
Based upon the record in this case, it does not appear that Midwest
ever responded to Gainsco's reservation of rights letter. Midwest
thereafter accepted Gainsco's payment of defense costs.
	On October 28, 1999, Gainsco filed a declaratory judgment
action seeking, inter alia, a declaration that it did not owe Midwest
a defense in the underlying litigation. The declaratory judgment action
also asserted a claim for recovery of all defense costs paid to
Midwest's independent counsel on behalf of Midwest in the
underlying litigation. On June 5, 2000, Gainsco filed its first amended
complaint for declaratory judgment. Midwest responded with an
answer and counterclaim.
	Gainsco then filed a motion for summary judgment in its
declaratory judgment action, and Midwest filed a cross-motion for
summary judgment. Following a hearing, the circuit court of Cook
County entered summary judgment in favor of Gainsco, declaring that
Gainsco had no duty to defend Midwest in the underlying litigation.
The trial court denied Midwest's cross-motion for summary judgment.
In ruling on Gainsco's motion for summary judgment, the trial court
noted that the issue before it was whether the plaintiffs in the
underlying complaint were seeking damages in the nature of economic
loss or bodily injury. The trial court held that based upon case law, the
damages sought by the plaintiffs in the underlying case amounted only
to economic loss, and therefore held that Gainsco was entitled to
summary judgment on its declaratory judgment action.
	Gainsco then filed a motion for entry of judgment for recovery of
defense costs, seeking to recover the defense costs that it had paid to
Midwest's independent counsel for Midwest's defense of the
underlying litigation. The motion for defense costs included the
affidavit of Rita Beck, a senior claims examiner for Gainsco, stating
that Gainsco had paid $40,517.34 for the defense of Midwest in the
underlying litigation. The trial court stayed consideration of Gainsco's
motion for defense costs pending Midwest's appeal of the trial court's
finding that Gainsco was not obligated to defend Midwest.
	On appeal, the appellate court affirmed the trial court's judgment,
holding that Gainsco had no duty to defend or indemnify Midwest
against the underlying claim. General Agents Insurance Co. of
America, Inc. v. Midwest Sporting Goods Co., 328 Ill. App. 3d 482
(2002). Midwest did not seek further review of the appellate court's
decision.
	Thereafter, the trial court considered Gainsco's motion for entry
of judgment for recovery of defense costs. Following briefing and oral
argument, the trial court held that Gainsco had reserved its right to
recoup its costs for defending Midwest and therefore granted
Gainsco's motion. The trial court ordered Midwest to pay Gainsco
$40,517.34. Midwest then appealed the trial court's ruling on the
motion for recovery of defense costs.
	The appellate court, with one justice dissenting, again affirmed
the trial court's judgment. 349 Ill. App. 3d 529. On appeal, Midwest
argued that Gainsco had paid the defense costs pursuant to the
insurance contract, which made no provision for the recovery sought
by Gainsco. In addition, because the relationship between the parties
was governed by contract, Gainsco could not recover defense costs
under a theory of unjust enrichment. 349 Ill. App. 3d at 530-31.
	The appellate court rejected Midwest's argument, stating that
Midwest misconstrued the payments made by Gainsco. 349 Ill. App.
3d at 531. The appellate court found the arrangement in this case
similar to the arrangement made between the parties in City of
Chicago v. McKechney, 205 Ill. 372 (1903). The appellate court
noted that in McKechney, the City of Chicago had agreed in 1895 to
pay McKechney to construct a tunnel. However, in 1897, McKechney
demanded increased payments due to difficulties encountered in the
construction. When the City thereafter paid McKechney at its regular
rate of pay, McKechney stopped work and sued the City, claiming the
payment violated an 1897 revision to the original contract. In 1898,
the City and McKechney entered into a new arrangement for the
resumption of work pending a determination of the parties' rights in
the lawsuit. Under the 1898 agreement, the City agreed to pay
McKechney a rate higher than that agreed to in the 1895 contract, but
stated that its agreement was without prejudice to its right to recover
any overpayment if the court determined that the 1895 contract
applied. This court found that the 1898 agreement was an
accommodation pending litigation that preserved the City's rights
under the 1895 contract.
	 The appellate court characterized the parties' actions in this case,
like that of the parties in McKechney, as an "accommodation pending
litigation to determine whether Gainsco owed Midwest the cost of
defending the lawsuit the City of Chicago brought against Midwest."
349 Ill. App. 3d at 532. The appellate court stated that, "[l]ike the
1898 arrangement in McKechney, the accommodation proposed in
Gainsco's letter reserved rights to litigate the question of whether
Gainsco owed the payments sought, and the right to recover any
amounts the court later determined Gainsco did not owe." 349 Ill.
App. 3d at 532. The appellate court stated that it saw "no reason to
invalidate the accommodation pending litigation here." 349 Ill. App.
3d at 532.
	The appellate court then noted that courts in other jurisdictions
had reached a similar result. For example, the court in Buss v.
Superior Court, 16 Cal. 4th 35, 939 P.2d 766, 65 Cal. Rptr. 366
(1997), ordered an insured to reimburse its insurer for defense costs
paid on claims that were not within the coverage of the insured's
policy. 349 Ill. App. 3d at 532. In addition, the court in Walbrook
Insurance Co. v. Goshgarian & Goshgarian, 726 F. Supp. 777, 784
(C.D. Cal. 1989), held that an insured was required to reimburse its
insurer for defense costs incurred in the underlying suit where the
insurer reserved the right to seek reimbursement of defense costs and
the insured, although objecting to the reservation, nonetheless
accepted payment of the defense costs. 349 Ill. App. 3d at 532-33.
Finally, the appellate court observed that the United States District
Court for the Southern District of Illinois, in Grinnell Mutual
Reinsurance Co. v. Shierk, 996 F. Supp. 836 (S.D. Ill. 1998), had
stated that it believed that this court would follow the reasoning of
Buss and Walbrook and therefore held that an insurer had the right to
reimbursement of defense costs when the underlying claims were not
covered by the insurance policy and the insurer had reserved the right
to seek reimbursement. 349 Ill. App. 3d at 533.
	The appellate court rejected Midwest's argument that the court
should not adopt the reasoning of Buss, Walbrook and Grinnell
because those decisions give an insurance company too much
leverage. The appellate court stated that if Midwest had refused to
accept the funds under Gainsco's conditions, Midwest could have
forced Gainsco to either defend without a right of reimbursement or
deny a defense and risk losing its policy defense if it was found in
breach of the insurance contract. 349 Ill. App. 3d at 534. Finally, the
appellate court reiterated that the payments made by Gainsco were not
made pursuant to Midwest's insurance policy, but rather were an
"accommodation pending litigation to determine whether Gainsco
owed Midwest, under the insurance contract, a defense." 349 Ill. App.
3d at 534.
	The dissenting justice disagreed that Illinois law supported the
majority's decision. The dissenting justice stated that an insurer's duty
to defend its insured arises from and is limited by the express
undertaking to defend as stated in the contract of insurance. 349 Ill.
App. 3d at 535 (McBride, J., dissenting). Here, there was no language
in the policy providing for reimbursement of costs. 349 Ill. App. 3d at
535 (McBride, J., dissenting).
	As noted, this court allowed Midwest's petition for leave to
appeal. 177 Ill. 2d R. 315. This court also allowed Certain
Underwriters at Lloyd's London to file an amicus curiae brief on
behalf of Gainsco. 155 Ill. 2d R. 345.

ANALYSIS
	Although it is not clear from the record, it appears that Gainsco's
motion for recovery of defense costs was treated as a motion for
summary judgment. The trial court decided the motion based upon the
briefs submitted by the parties and oral argument, without an
evidentiary hearing. A circuit court's entry of summary judgment is
subject to de novo review. Guillen v. Potomac Insurance Co. of
Illinois, 203 Ill. 2d 141, 149 (2003).
	As a preliminary matter, we address the appellate court's finding
that the arrangement in this case was similar to the arrangement made
between the parties in City of Chicago v. McKechney, 205 Ill. 372
(1903). We find that the appellate court's reliance on McKechney was
misplaced. McKechney did not involve an insurance contract.
Consequently, although there may be some factual similarities between
this case and McKechney, we find that it is more appropriate to
consider the instant case in light of case law specifically addressing
insurance contracts and an insurer's reservation of its right to
reimbursement of defense costs. Thus, although the 1898 agreement
between the parties in McKechney was properly characterized as an
"accommodation pending litigation," we decline to characterize the
circumstances surrounding Gainsco's July 23, 1999, letter as such.
The McKechney decision is simply inapposite to this case.
	We turn then to the parties' arguments before this court. Midwest
argues that Gainsco failed to establish any legal basis that would
entitle it to an award of reimbursement of defense costs. Midwest
notes that the insurance policy between Midwest and Gainsco contains
no provisions allowing Gainsco to recover defense costs. Further,
because there was an express written insurance contract between the
parties, Gainsco cannot claim that it is entitled to recover defense
costs under a theory of unjust enrichment. In addition, Gainsco's
reservation of rights letter could only reserve the rights contained
within the insurance policy and could not create new rights. In any
event, the language in the reservation of rights letter clearly establishes
that Gainsco paid the defense costs pursuant to the insurance policy.
	Gainsco responds that each of the preceding arguments must fail
because there is no contract governing the parties' relationship.
Gainsco argues that its duty to defend extended only to claims for
damages that were payable or potentially covered under a Gainsco
policy. Here, as the circuit and appellate courts found, the Gainsco
policies did not apply to the underlying litigation. In addition, Gainsco
notes that numerous decisions, including Buss, Walbrook and Grinnell
support the trial court's decision.
	An insurer's duty to defend its insured is much broader than its
duty to indemnify its insured. Outboard Marine Corp. v. Liberty
Mutual Insurance Co., 154 Ill. 2d 90, 125 (1992). An insurer may not
justifiably refuse to defend an action against its insured unless it is
clear from the face of the underlying complaint that the allegations set
forth in that complaint fail to state facts that bring the case within or
potentially within the insured's policy coverage. United States Fidelity
& Guaranty Co. v. Wilkin Insulation Co., 144 Ill. 2d 64, 73 (1991).
A court must compare the allegations in the underlying complaint to
the policy language in order to determine whether the insurer's duty
to defend has arisen. Outboard Marine, 154 Ill. 2d  at 125. If the
underlying complaint alleges facts within or potentially within policy
coverage, an insurer is obligated to defend its insured even if the
allegations are groundless, false or fraudulent. Dixon Distributing Co.
v. Hanover Insurance Co., 161 Ill. 2d 433, 438-39 (1994). The
allegations in the underlying complaint must be liberally construed in
favor of the insured. Outboard Marine, 154 Ill. 2d  at 125. In addition,
if several theories of recovery are alleged in the underlying complaint
against the insured, the insurer's duty to defend arises even if only one
of several theories is within the potential coverage of the policy.
United States Fidelity & Guaranty Co., 144 Ill. 2d  at 73. When the
underlying complaint against the insured alleged facts within or
potentially within the scope of policy coverage, the insurer taking the
position that the complaint is not covered by its policy must defend
the suit under a reservation of rights or seek a declaratory judgment
that there is no coverage. State Farm Fire & Casualty Co. v. Martin,
186 Ill. 2d 367, 371 (1999).
	In the instant case, as noted, Gainsco chose both to defend under
a reservation of rights and to seek a declaratory judgment that there
was no coverage. Gainsco's reservation of rights letter provided that
it reserved the right to recoup any defense costs paid in the event it
was determined that Gainsco did not owe Midwest a defense. The
gravamen of Midwest's argument on appeal is that Gainsco could not
reserve the right to recoup defense costs because the insurance
contract between the parties does not contain a provision allowing
Gainsco the right to recoup defense costs. In turn, the gravamen of
Gainsco's response is that there is no contract governing the
relationship between the parties because both the circuit and appellate
courts have held that the policies issued by Gainsco to Midwest did
not apply to the underlying litigation. Accordingly, Gainsco maintains
that it had no duty to defend Midwest and thus is entitled to recoup
the amounts paid for Midwest's defense.
	In support of its argument, Gainsco points to decisions from
other jurisdictions where courts have held that an insurer may recover
its defense costs if it specifically reserves the right to recoup those
costs in the event it is determined that the insurer does not owe the
insured a defense. Gainsco notes that Grinnell Mutual Reinsurance
Co. v. Shierk, 996 F. Supp. 836 (S.D. Ill. 1998), the only decision
interpreting Illinois law on this issue, is indistinguishable from this
case and directly supports the circuit court's decision to grant
Gainsco's motion for recovery of defense costs. In Grinnell, the
insured, Shierk, was sued by his wife for negligence in connection
with an incident where he discharged a gun in her direction, causing
a bullet to strike her in the face. Grinnell, 996 F. Supp.  at 836. Shierk
tendered defense of the lawsuit to Grinnell Mutual Reinsurance
Company (Grinnell), claiming coverage pursuant to his homeowner's
insurance policy. Grinnell, 996 F. Supp.  at 836. Grinnell agreed to
defend Shierk, but expressly reserved the right to later deny coverage
and reserved the right to seek reimbursement from Shierk in the event
a declaratory judgment action found that Grinnell had no duty to
defend. Grinnell, 996 F. Supp.  at 836. The district court later
determined that Grinnell had no duty to defend. Grinnell, 996 F. Supp.  at 838.
	The district court then considered whether Grinnell was entitled
to reimbursement of funds that it had already expended in defending
Shierk. Grinnell, 996 F. Supp.  at 838-39. The district court noted that
there was no Illinois case law addressing the issue, but that such relief
was found to be available in other jurisdictions. Grinnell, 996 F. Supp. 
at 839. The district court predicted that this court would order
reimbursement of defense costs, observing that Grinnell specifically
reserved the right to seek reimbursement and that Shierk, fully aware
of Grinnell's reservation of its right to reimbursement, accepted the
benefit of Grinnell's defense. Grinnell, 996 F. Supp.  at 839.
	Gainsco notes that the court in Grinnell cited a decision from a
California federal district court, Walbrook Insurance Co. v.
Goshgarian & Goshgarian, 726 F. Supp. 777 (C.D. Cal. 1989), which
also supports the trial court's decision to order reimbursement. In that
case, the insureds had argued that even if their insurer did not have a
duty to defend in the underlying action, the insurer was not entitled to
reimbursement of defense fees because the insurer had failed to make
an adequate reservation of rights. Walbrook, 726 F. Supp.  at 781. The
reservation of rights letter sent to the insureds stated that the insurer
specifically reserved the right to recover all sums paid on behalf of the
insureds for defense, settlement or satisfaction of the judgment.
Walbrook, 726 F. Supp.  at 782. The insureds, however, responded by
objecting to the reservation of rights and refusing to consent to or
acknowledge the validity of those rights, although the insureds did
accept $500,000 in payments from the insurer to their independent
counsel in the underlying suit. Walbrook, 726 F. Supp.  at 782. The
district court held that there was adequate evidence of an
understanding that the insurer would seek reimbursement, and that the
insureds' acceptance of the money constituted an implied agreement
to the reservation. Walbrook, 726 F. Supp.  at 784.
	Gainsco notes that the district court in Grinnell also relied on a
decision from the Supreme Court of California. In Buss v. Superior
Court, 16 Cal. 4th 35, 939 P.2d 766, 65 Cal. Rptr. 366 (1997), the
court also addressed whether an insurer could recover reimbursement
of defense costs from its insured. The underlying action in that case
asserted 27 causes of action, of which only one claim potentially fell
within policy coverage. Buss, 16 Cal. 4th  at 41-42, 939 P.2d  at 770,
65 Cal. Rptr.  at 370. The insurer accepted defense of the underlying
action, but reserved all of its rights, including the right to deny that
any cause of action was actually covered and the right to be
reimbursed for defense costs in the event it was later determined that
there was no coverage. Buss, 16 Cal. 4th  at 42, 939 P.2d  at 770, 65 Cal. Rptr.  at 370.
	In addressing the issue, the court first noted that in a "mixed"
action, involving claims that are at least potentially covered and claims
that are not, an insurer nonetheless has a duty to defend the claim in
its entirety. Buss, 16 Cal. 4th  at 47-48, 939 P.2d  at 774, 65 Cal. Rptr. 
at 374. The court then stated that with regard to "mixed" claims, an
insurer may not seek reimbursement for claims that are at least
potentially covered, but may seek reimbursement for defense costs as
to the claims that are not even potentially covered. Buss, 16 Cal. 4th 
at 47-48, 939 P.2d  at 774, 65 Cal. Rptr.  at 374. The court explained
that with regard to defense costs for claims that are potentially
covered, the insured had paid premiums and the insurer had bargained
to bear those costs, so that there was no right of reimbursement
implied in the policy or implied in law. Buss, 16 Cal. 4th  at 49, 939 P.2d  at 775, 65 Cal. Rptr.  at 375. The court noted exceptions would
exist if the policy itself provided for reimbursement or if there was a
separate contract supported by separate consideration. Buss, 16 Cal. 4th  at 50, 939 P.2d  at 776, 65 Cal. Rptr.  at 376. However, with
regard to claims that are not even potentially covered, the insured had
not paid premiums to the insurer and the insurer did not bargain to
bear those costs. Buss, 16 Cal. 4th  at 50-51, 939 P.2d  at 776, 65 Cal. Rptr.  at 376. Consequently, the court reasoned that the insurer has a
right to reimbursement implied in law as quasi-contractual. Buss, 16 Cal. 4th  at 51, 939 P.2d  at 776, 65 Cal. Rptr.  at 376. Under the law
of restitution, the insured has been "enriched" through the insurer's
bearing of unbargained-for defense costs, an enrichment that must be
deemed unjust. Buss, 16 Cal. 4th  at 51, 939 P.2d  at 777, 65 Cal. Rptr. 
at 377.
	Finally, Gainsco notes that other jurisdictions also have found
that an insurer may recover defense costs from its insured where the
insurer agrees to provide the insured a defense pursuant to an express
reservation of rights, including the right to recoup defense costs, the
insured accepts the defense, and a court subsequently finds that the
insurer did not owe the insured a defense. See United National
Insurance Co. v. SST Fitness Corp., 309 F.3d 914 (6th Cir. 2002)
(insurer was entitled to reimbursement of defense costs where the
insurer reserved the right to recover defense costs and the insured
accepted payment of defense costs); Resure, Inc. v. Chemical
Distributors, Inc., 927 F. Supp. 190 (M.D. La. 1996) (insurer was
entitled to reimbursement for all costs of defense where it timely and
specifically reserved the right to seek reimbursement and insured did
not object to the reservation); Knapp v. Commonwealth Land Title
Insurance Co., 932 F. Supp. 1169 (D. Minn. 1996) (where insurer
reserved its right to seek reimbursement of attorney's fees and costs,
insured's silence in response to the reservation of rights letter and
subsequent acceptance of defense constituted an implied agreement to
the reservation of rights); North Atlantic Casualty & Surety Insurance
Co. v. William D., 743 F. Supp. 1361 (N.D. Cal. 1990) (where insurer
sent letter to the insured reserving the right to reimbursement, and the
insured accepted payment of defense fees without comment, insurer
was entitled to reimbursement from insured); Hecla Mining Co. v.
New Hampshire Insurance Co., 811 P.2d 1083, 1089 (Colo. 1991)
(court states that proper course for insurer that believes it owes no
duty to defend "is to provide a defense to the insured under a
reservation of its rights to seek reimbursement should the facts at trial
prove that the incident resulting in liability was not covered by the
policy"); Colony Insurance Co. v. G&E Tires & Service, Inc., 777 So. 2d 1034 (Fla. App. 2000) (insurer was entitled to reimbursement of
defense costs where it timely and expressly reserved the right to seek
reimbursement, and the insured accepted the offer of a defense with
a reservation of rights).
	In general then, the decisions finding that an insurer is entitled to
reimbursement of defense costs are based upon a finding that there
was a contract implied in fact or law, or a finding that the insured was
unjustly enriched when its insurer paid defense costs for claims that
were not covered by the insured's policy. Although such reasoning
was not the basis for the appellate court's decision in this case,
Gainsco notes that this court may affirm the appellate court on any
basis, and urges this court to adopt the reasoning of the courts in the
preceding cases.
	Gainsco is correct that it would be entitled to reimbursement of
the defense costs paid in the underlying action if this court adopted the
analysis set forth in the preceding cases. Gainsco timely and expressly
reserved its right to reimbursement of defense costs, Midwest
accepted payment of those defense costs without objection, and a
declaratory judgment action determined that Gainsco did not owe
Midwest a defense in the underlying lawsuit. Our research reveals,
however, that other jurisdictions, albeit a minority, have refused to
allow an insurer to receive reimbursement of its defense costs even
though the underlying claim was not covered by the insurance policy
and the insurer had specifically reserved its right to reimbursement.
	Upon review, we find the analysis of those decisions refusing to
allow reimbursement to be more persuasive and more on point with
Illinois case law than the cases cited by Gainsco. For example, in
Shoshone First Bank v. Pacific Employers Insurance Co., 2 P.3d 510,
514 (Wy. 2000), the court declined to allocate costs between covered
and uncovered claims, holding that "unless an agreement to the
contrary is found in the policy, the insurer is liable for all the costs of
defending the action." The court rejected the insurer's claim that it
had the right to allocate defense costs for uncovered claims because
its reservation of rights letter had specifically reserved the right to
allocate the fees, expenses and indemnity payments when the case was
resolved. Shoshone First Bank, 2 P.3d  at 515. The court stated:
		"The insurer is not permitted to unilaterally modify and
change policy coverage. We agree with the Supreme Court
of Hawaii that a reservation of rights letter 'does not relieve
the insurer of the costs incurred in defending its insured
where the insurer was obligated, in the first instance, to
provide such a defense.' First Insurance Co. of Hawaii, Inc.
v. State, by Minami. 66 Haw. 413, 665 P.2d 648, 654
(1983). [The insurer] could have included allocation language
in the Policy, but it failed to do so. We look only to the four
corners of the policy to determine coverage, and where the
policy is unambiguous, extrinsic evidence is not considered.
[Citation.] The Policy issued to Shoshone by [the insurer]
states a duty to defend, and allocation is not mentioned. In
light of the failure of the policy language to provide for
allocation, we will not permit the contract to be amended or
altered by a reservation of rights letter." Shoshone First
Bank, 2 P.3d  at 515-16.
Accord Texas Ass'n of Counties Government Risk Management Pool
v. Matagorda County, 52 S.W.3d 128, 44 Tex. Sup. Ct. J. 215 (2000)
(absent provision providing for reimbursement of settlement funds,
unilateral reservation of rights letter could not create rights not
contained within the insurance policy).
	The court in Shoshone First Bank then cited an unpublished
decision from the United States District Court for the District of
Wyoming that clearly articulated the problem with allowing an insurer
to reserve the right to seek reimbursement of defense costs. That
court stated that:
			"15. A reservation of rights letter does not create a
contract allowing an insurer to recoup defense costs from its
insureds.
			16. The question as to whether there is a duty to defend an
insured is a difficult one, but because that is the business of
an insurance carrier, it is the insurance carrier's duty to make
that decision. If an insurance carrier believes that no coverage
exists, then it should deny its insured a defense at the
beginning instead of defending and later attempting to recoup
from its insured the costs of defending the underlying action.
Where the insurance carrier is uncertain over insurance
coverage for the underlying claim, the proper course is for
the insurance carrier to tender a defense and seek a
declaratory judgment as to coverage under the policy.
However, to allow the insurer to force the insured into
choosing between seeking a defense under the policy, and run
the potential risk of having to pay for this defense if it is
subsequently determined that no duty to defend existed, or
giving up all meritorious claims that a duty to defend exists,
places the insured in the position of making a Hobson's
choice. Furthermore, endorsing such conduct is tantamount
to allowing the insurer to extract a unilateral amendment to
the insurance contract. If this became common practice, the
insurance industry might extract coercive arrangements from
their insureds, destroying the concept of liability and litigation
insurance.
			Order on Plaintiff's Motion for Summary Judgment,
America States Ins. Co. v. Ridco, Inc. Riddles Jewelry, Inc.
And Ken B. Berger, Civ. No. 95CV158D (D. Wyo. 1999)."
Shoshone First Bank, 2 P.3d  at 516.
	We agree with the analysis of the court in Shoshone First Bank,
as well as the United States District Court for the District of Wyoming
in America States Insurance Co. As a matter of public policy, we
cannot condone an arrangement where an insurer can unilaterally
modify its contract, through a reservation of rights, to allow for
reimbursement of defense costs in the event a court later finds that the
insurer owes no duty to defend. We recognize that courts have found
an implied agreement where the insured accepts the insurer's payment
of defense costs despite the insurer's reservation of a right to
reimbursement of defense costs. However, as stated by the court in
America States Insurance Co., cited by the Shoshone First Bank
court, recognizing such an implied agreement effectively places the
insured in the position of making a Hobson's choice between
accepting the insurer's additional conditions on its defense or losing
its right to a defense from the insurer.
	The United States Court of Appeals for the Third Circuit,
applying Pennsylvania law, also has ruled that an insurer cannot
recover defense costs even when it defends under a reservation of
rights to recover defense costs if it is later determined there is no
coverage. Terra Nova Insurance Co. v. 900 Bar, Inc., 887 F.2d 1213
(3d Cir. 1989). The court reasoned that:
		"A rule permitting such recovery would be inconsistent with
the legal principles that induce an insurer's offer to defend
under reservation of rights. Faced with uncertainty as to its
duty to indemnify, an insurer offers a defense under
reservation of rights to avoid the risks that an inept or
lackadaisical defense of the underlying action may expose it
to if it turns out there is a duty to indemnify. [footnote
omitted]. At the same time, the insurer wishes to preserve its
right to contest the duty to indemnify if the defense is
unsuccessful. Thus, such an offer is made at least as much for
the insurer's own benefit as for the insured's. If the insurer
could recover defense costs, the insured would be required to
pay for the insurer's action in protecting itself against the
estoppel to deny coverage that would be implied if it
undertook the defense without reservation." Terra Nova
Insurance Co., 887 F.2d  at 1219-20.
	Again, we find the reasoning of the Terra Nova court to be more
persuasive than the authorities cited by Gainsco. We agree that when
an insurer tenders a defense or pays defense costs pursuant to a
reservation of rights, the insurer is protecting itself at least as much as
it is protecting its insured. Thus, we cannot say that an insured is
unjustly enriched when its insurer tenders a defense in order to protect
its own interests, even if it is later determined that the insurer did not
owe a defense. Certainly, if an insurer wishes to retain its right to seek
reimbursement of defense costs in the event it later is determined that
the underlying claim is not covered by the policy, the insurer is free to
include such a term in its insurance contract. Absent such a provision
in the policy, however, an insurer cannot later attempt to amend the
policy by including the right to reimbursement in its reservation of
rights letter.
	Moreover, as the Supreme Court of Hawaii recognized,
"affording an insured a defense under a reservation of rights
agreement merely retains any defenses the insurer has under its policy;
it does not relieve the insurer of the costs incurred in defending its
insured where the insurer was obligated, in the first instance, to
provide such a defense." First Insurance Co. of Hawaii, Inc. v. State
of Hawaii, 66 Haw. 413, 422, 665 P.2d 648, 654 (1983). Gainsco's
reservation of rights letter could retain only those defenses that
Gainsco had under its policy. Gainsco concedes that the insurance
policies at issue did not provide for reimbursement of defense costs.
Consequently, Gainsco's attempt to expand its reservation of rights to
include the right to reimbursement must fail.
	As previously noted, Gainsco argues that we need not look to the
insurance contract between the parties to determine whether Gainsco
had a right to reimbursement because the circuit and appellate courts
have already determined that Gainsco owed no duty to defend.
Gainsco maintains that because it had no duty to defend, it follows
that there is no contract governing the relationship between the
parties. The problem with this argument is that Gainsco is attempting
to define its duty to defend based upon the outcome of the declaratory
judgment action. Although an insurer's duty to indemnify arises only
after damages are fixed, the duty to defend arises as soon as damages
are sought. Central Illinois Light Co. v. Home Insurance Co., 213 Ill. 2d 141, 158 (2004). As explained by the Court of Appeals for the
Eighth Circuit:
		"Liberty remained obligated to defend [its insured] so long as
there remained any question as to whether the underlying
claims were covered by the policies. Upon determination that
*** the claims against [the insured] were therefore excluded
from coverage, the district court properly concluded that
Liberty's duty to defend [its insured] in this action expired.
Because we conclude that Liberty had a duty to defend [its
insured] until such determination was made, we reject
Liberty's argument that it is entitled to reimbursement of
defense costs." Liberty Mutual Insurance Co. v. FAG
Bearings Corp., 153 F.3d 919, 924 (8th Cir. 1998).
	We find the analysis of the court in Liberty Mutual to be well
taken. Although Gainsco implies that it has always maintained that it
did not owe Midwest a defense in the underlying matter, we note that
Gainsco's reservation of rights letter reveals some uncertainty
concerning coverage. With regard to allegations in the underlying
claim that Midwest was liable to the plaintiffs for various acts of
intentional and/or willful conduct, Gainsco's reservation of rights
letter stated that "the claim may not be covered under the Policy."
(Emphasis added.) Given this uncertainty, Gainsco correctly agreed
to pay Midwest's defense costs in the underlying action and sought a
declaratory judgment that it did not owe Midwest a defense. Gainsco
thus remained obligated to defend Midwest as long as any questions
remained concerning whether the underlying claims were covered by
the policies. Because Gainsco's obligation to defend continued until
the trial court found that Gainsco did not owe Midwest a defense,
Gainsco is not entitled to reimbursement of defense costs paid pending
the trial court's order in the declaratory judgment action. The fact that
the trial court ultimately found that the underlying claims against
Midwest were not covered by the Gainsco policies does not entitle
Gainsco to reimbursement of its defense costs.
	In sum, we acknowledge that a majority of jurisdictions have held
that an insurer is entitled to reimbursement of defense costs when (1)
the insurer did not have a duty to defend, (2) the insurer timely and
expressly reserved its right to recoup defense costs, and (3) the
insured either remains silent in the face of the reservation of rights or
accepts the insurer's payment of defense costs. We choose, however,
to follow the minority rule and refuse to permit an insurer to recover
defense costs pursuant to a reservation of rights absent an express
provision to that effect in the insurance contract between the parties.
	For the foregoing reasons, then, we reverse the decisions of the
circuit and appellate courts awarding Gainsco reimbursement of
defense costs, in the amount of $40,517.34, expended for the defense
of Midwest in the underlying litigation.

Appellate court judgment reversed;
circuit court judgment reversed.