Source: http://dutytodefend.com/cumis-test/
Timestamp: 2019-04-22 08:35:01+00:00

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Dependent Cousel Disqualification Test – When Does the Right to Independent Counsel Vest?
Since its publication over three decades ago, the landmark Cumis decision has been validated by the California Legislature, the Supreme Court, and a well developed body of law that the right of a policyholder to select and direct independent counsel to conduct a policyholder’s defense at a liability insurer’s expense vests unless the insurer’s reservation of rights is limited to grounds that have “nothing to do with the issues being litigated in” a third party liability dispute – generally such as non-payment of premium or violation of a policy condition.
A reservation of rights is typically a conditional denial of a third party plaintiff’s claim for damages and the policyholder’s first party claim for indemnification and a conditional acceptance of the policyholder’s first party claim for a defense of the injured plaintiff’s liability dispute. Typically, a reservation of rights letter states that the insurer will defend the policyholder but does not concede indemnity coverage and does not waive any ground upon which the insurer may later learn that it is entitled to deny all coverage.
California law has expanded the permissible scope of a reservation of rights to include two rights not mentioned in any standard policy that many neophytes find shocking: 1) a liability insurer may agree to pay for its policyholder’s defense while reserving its rights to get back all of its costs of defense from its policyholder and independent counsel; and 2) an insurer may fund a settlement over the objection of its policyholder while reserving its rights to get back all of its costs of settlement from the policyholder.
Insurance regulations require liability insurers to make a coverage decisions “immediately”. “Upon receiving proof of claim, every insurer shall immediately, but in no event more than forty (40) calendar days later, accept or deny the claim, in whole or in part. Where an insurer denies a claim, in whole or in part, it shall do so in writing and shall provide to the [policyholder] a statement listing all bases for such denial and the factual and legal bases for each reason given for such denial which is then within the insurer’s knowledge. Where an insurer’s denial is based on a specific policy provision, the written denial shall include reference thereto and provide an explanation of the application of the provision to the claim.” A reservation of rights constitutes a conditional acceptance of the claim for a defense and a conditional denial of the injured plaintiff’s and the policyholder’s common claims to pay the plaintiff’s damages.
A reservation of rights always produces uncertainty in that it defers coverage decisions, usually until after the liability dispute is resolved. The process of resolving the plaintiff’s liability claim may produce admissible evidence and judicial admissions and apply the doctrines of collateral estoppel, res judicata, law of the case that may impact the coverage issues upon which the insurer may deny coverage. A reservation of rights may seem relatively harmless in that it doesn’t come right out and deny all coverage, it just defers until a later time a final decision whether to deny coverage. Courts sometimes allow insurers to reserve their rights at almost any time, fostering uncertainty.
Insurers tend to reserve their rights to later deny coverage “in a ‘mixed’ action, in which some of the claims are at least potentially covered and the others are not. [W]e justify the insurer’s duty to defend the entire ‘mixed’ action prophylactically, as an obligation imposed by law in support of the policy. To defend meaningfully, the insurer must defend immediately. To defend immediately, it must defend entirely. It cannot parse the claims, dividing those that are at least potentially covered from those that are not. To do so would be time consuming. It might also be futile: The ‘plasticity of modern pleading’ allows the transformation of claims that are at least potentially covered into claims that are not, and vice versa.” Insurers often reserve their rights to later deny coverage in business litigation, construction defect, employment, and malpractice cases, as well as cases in which exclusions or other limitations on coverage may apply.
In and two part – if-then holding – the Cumis decision reasons that if an insurer’s reservation of rights creates a conflict of interests between the insurer and the policyholder, then the insurer must discharge its contractual promise to defend its policyholder by paying independent counsel to conduct the policyholder’s defense of the injured plaintiff’s tort lawsuit. A liability policy makes two primary promises: 1) to indemnify the policyholder for a judgment that is actually covered by the policy; and 2) to defend a lawsuit that is potentially covered. Because a liability insurer is not licensed to practice law, its promise to defend its policyholder creates an obligation that it cannot lawfully discharge by itself. Instead, the promise to defend necessarily creates a delegable duty to defend that must be discharged by paying a licensed attorney to conduct the policyholder’s defense. The insurer must defend immediately and it must defend the entire action by adequately funding the defense.
The rationales for this rule include that a reserving insurer lacks an economic incentive to launch a vigorous defense and dependent counsel owes fiduciary duties to the policyholder of undivided loyalty, disclosure and confidentiality.
“The mandatory rule of disqualification in cases of dual representations involving unrelated matters – analogous to the biblical injunction against ‘serving two masters’ (Matthew 6:24) – is such a self-evident one that there are few published appellate decisions elaborating on it.” “The obligation of an insurer to provide independent Cumis counsel for an insured is premised on the ethical inability of an attorney to represent conflicting interests.” Ethical obligations pursuant to Rule 3-310 ripen when the potential exists for dependent counsel to control any coverage issue.
“The Cumis opinion was codified in 1987 by the enactment of Civil Code section 2860, which ‘clarifies and limits’ the rights and responsibilities of insurer and insured as set forth in Cumis.” However the statute “does not clearly state when the right to an independent counsel vests.” Instead, the statute merely enunciates the obvious without providing any guidance: “If a conflict of interest arises which creates a duty on the part of the insurer to provide independent counsel to the insured, the insurer shall provide independent counsel to represent the insured. [A] conflict of interest does not exist as to allegations or facts in the litigation for which the insurer denies coverage; however, when an insurer reserves its rights on a given issue and the outcome of that coverage issue can be controlled by counsel first retained by the insurer for the defense of the claim, a conflict of interest may exist.” This language has been interpreted to be a mere “example of a conflict of interest which may require appointment of independent counsel.” As described at length above, California courts have described dozens of other circumstances that may create a disqualifying conflict of interest.
Additionally, the code does not apply absent a judicial determination or the unconditional agreement of the insurer and the policyholder that the insurer has a duty to defend and that a disqualifying conflict of interest exists.
When the insurer concedes coverage, the resulting harmony is analogous to the spirit of the Three Musketeers: “All for one and one for all.” But, if conflicts of interest erupt between the policyholder and the insurer which reserves its rights to deny coverage, discord may undermine the harmony of the defense team. The “one for all” spirit may dissolve into a free-for-all. When conflicts of interest emerge the tripartite relationship is “torn and shredded”.
Overcoming confusion as to when the right to independent counsel vests is a little like playing three dimensional chess, a modern version of the ancient Persian game simulating war, in that each has three separate venues. In three dimensional chess, the pieces may move freely among three separate checker boards, while the right to independent counsel traverses three separate quarrels, each governed by a different set of laws: 1) tort law governs the liability dispute by the injured plaintiff against the policyholder; 2) contract law governs the coverage contest by the insurer against the policyholder; and 3) Rules of Professional Conduct, Rule 3-310 governs the ethical imbroglio by dependent counsel against the policyholder. Applying the wrong set of laws in the wrong venue is an error that has lead to some confusing published opinions.
A reserving insurer’s obligation to pay for independent counsel is derivative of dependent counsel’s ethical ban against representing dual clients with conflicting interests without analysis, disclosure, and informed written consent. Again, the two part – if-then holding of the Cumis opinion is that: 1) if dependent counsel cannot ethically represent dual clients with conflicting interests; 2) then the insurer must pay for independent counsel.
This confusion has lead to two irreconcilable lines of authority in California. The Cumis line of cases focuses on Canons of Ethics to conclude that “lawyers hired by the insurer an obligation to explain to the insured and the insurer the full implications of joint representation in situations where the insurer has reserved its rights to deny coverage.” The Dynamic Concepts line of cases focuses on the terms of the policy contract and the complete lack of evidence of any conflicts of interest to conclude that a “mere possibility of an unspecified conflict does not require independent counsel. The conflict must be significant, not merely theoretical, actual, not merely potential.” Rule 3-310 clearly requires lawyers to analyze “potential” conflicts of interest, make written disclosure to and obtain informed written consent from the policyholder. “[A] distinction between ‘potential’ and ‘actual’ conflicts of interest which is invalid and unworkable.” The “significant, not merely theoretical, actual, not merely potential” standard of Dynamic Concepts has been applied to a liability insurer’s contractual obligation to pay independent counsel, but it cannot apply to lawyer ethics. Policyholders seeking to require a liability insurer to pay for independent counsel should challenge the ethics of dependent counsel, not the contractual obligation of the insurer. The insurer’s contractual standard is stricter that the lawyer’s ethical standard. If dependent counsel fails to resolve ethical conflicts, then the insurer must pay for independent counsel.
 San Diego Navy Fed. Credit Union v. Cumis Ins. Society, Inc. (1984) 162 Cal.App.3d 358 (Cumis).
 Hartford Cas. Ins. Co. v. J.R. Marketing (2015) 61 Cal.4th 988, 992, fn1 (J.R. Marketing).
 Anatomy of a Liability Insurance Policy – Part 4: The Remainder of the Policy.
 Montrose Chemical Corp. v. Superior Court (1993) 6 Cal.4th 287, 306 (conc. opn. of Kennard, J.) (Montrose I).
 Blanchard v. State Farm Fire & Casualty Co. (1991) 2 Cal.App.4th 345, 350 (Blanchard).
 Long, supra, 163 Cal.App.4th at 1470 (citation and ellipsis omitted).
 Blanchard, supra, 2 Cal.App.4th 345; see also, Gafcon, Inc. v. Ponsor & Associates (2002) 98 Cal.App.4th 1388, 1422 (Gafcon).
 Gafcon, supra, 98 Cal.App.4th at 1422.
 United Enterprises, Inc. v. Superior Court (2010) 183 Cal. App. 4th 1004, 1010.
 Foremost Ins. Co. v. Wilks (1988) 206 Cal.App.3d 251, 261 (Wilks).
 McGee v. Superior Court (1985) 176 Cal.App.3d 221, 226 (McGee).
 Novak v. Low, Ball & Lynch (1999) 77 Cal.App.4th 278, 282; Civ.Code § 2860(a).
 James 3, supra, 91 Cal.App.4th at 1108.
 State Farm Fire & Cas. Co. v. Superior Court (1989) 216 Cal.App.3d 1222, 1226, fn.3 (State Farm Fire).
 Truck Ins. Exchange v. Superior Court (1996) 51 Cal.App.4th 985, 994; see also, Golden Eagle Ins. Co. v. Foremost Ins. Co. (1993) 20 Cal. App. 4th 1372, 1395-1396 (Golden Eagle).
 James 3, supra, 91 Cal.App.4th at 1101 (citations and redundancies omitted).
 Manfredi & Levine v. Superior Court (Barles) (1998) 66 Cal.App.4th 1128, 1134-35 (citations, quotation marks, ellipses, and redundancies omitted).
 Long, supra, 163 Cal.App.4th at 1470; James 3, supra, 91 Cal.App.4th at 1108-1109.
 Dynamic Concepts, Inc. v. Truck Ins. Exchange (1998) 61 Cal.App.4th 999, 1007 (Dynamic Concepts); Blanchard, supra, 2 Cal.App.4th at 350.
 McGee, supra, 176 Cal.App.3d at 227-228.
 Wilks, supra, 206 Cal.App.3d at 261.
 Blanchard, supra, 2 Cal.App.4th at 350.
 Golden Eagle, supra, 20 Cal.App.4th at 1396.
 Federal Ins. Co. v. MBL, Inc. (2013) 219 Cal.App.4th 29, 44 (ellipsis omitted).
 Hartford Casualty Ins. Co. v. Swift Distribution, Inc. (2014) 59 Cal.4th 277, 289.
 Buss v. Superior Court (1997) 16 Cal.4th 35 (Buss).
 J.R. Marketing, supra, 61 Cal.4th 988.
 Cal. Code Regs. § 2695.7(b)(1) (emphasis added, ellipses omitted).
 A 40 Day Regulatory Deadline to Deny Liability Insurance Coverage Is Poorly Enforced.
 Buss, supra, 16 Cal.4th at 47-49 (citations and ellipses omitted).
 Purdy v. Pacific Automobile Ins. Co. (1984) 157 Cal.App.3d 59, 76.
 Cumis, supra, 162 Cal.App.3d at 364.
 Union Ins. Co. v. Knife Co., Inc. 902 F. Supp. 877, 880-81 (W.D. Ark. 1995) (Knife) (citations, quotation marks, and ellipses omitted).
 J.R. Marketing, supra, 61 Cal.4th 992, fn1.
 Tomerlin v. Canadian Indemnity Co. (1964) 61 Cal.2d 638, 648 (emphasis added).
 Berger, Kahn, supra, 79 Cal.App.4th at 131, quoting Dynamic Concepts, supra, 61 Cal.App.4th at 1007-1008 (ellipses omitted).
 American Mut. Liab. Ins. Co. v. Superior Court (Nork) (1974) 38 Cal.App.3d 579, 592.
 Rockwell Internat. Corp. v. Superior Court (1994) 26 Cal.App.4th 1255, 1263-1264 (Rockwell) (citation omitted).
 Flatt v. Superior Court (1994) 9 Cal.4th 275, 286; “No one can serve two masters. Either you will hate the one and love the other, or you will be devoted to the one and despise the other.” (Matthew 6:24).
 50 State Survey – Does an Insurer’s Reservation of Rights Require It to Pay Independent Counsel?
 Moeller v. American Guar. & Liab. Ins. Co. 707 So.2d 1062, 1069 (Miss. 1996) (citations, quotation marks, and ellipses omitted).
 Hartford Acc. & Indem. Co. v. Foster 528 So.2d 255, 269, 274 (Miss. 1988).
 Hawkeye Cas. Co. v. Stoker, 48 N.W.2d 623, 631-32 (Neb. 1951) (citations, quotation marks, and ellipses omitted).
 James 3, supra, 91 Cal.App.4th at 1100 (citation omitted); see also, Seltzer v. Barnes (2010) 182 Cal.App.4th 953, 966 (“Civil Code, section 2860 codifies (with clarifications and limitations) the holding in [Cumis], which concluded that an insurer is responsible to pay the reasonable cost for hiring independent counsel for the insured when the insured and insurer have divergent interests due to the insurer’s reservation of its right to deny coverage”); Long, supra, 163 Cal.App.4th at 1470.
 Gafcon, supra, 98 Cal.App.4th at 1421.
 Handy v. First Interstate Bank (1993) 13 Cal.App.4th 917, 926 (“in the absence of a stipulation or unconditional agreement between the insurer and insured, unless and until there has been a judicial determination of an insurer’s duty to defend and the existence of a conflict of interest, the provisions of Civil Code section 2860 are inapplicable”); Several California appellate opinions have reached the issue, and they have all decided the issue the same way. See, Janopaul K Block Cos., LLC v. Superior Court (2011) 200 Cal.App.4th 1239, 1249; The Housing Group v. PMA Captial Insurance Co. (2011) 193 Cal.App.4th 1150, 1157; Intergulf Development LLC v. Superior Court (2010)183 Cal.App.4th 16, 20; Atmel Corp. v. St. Paul Fire & Marine Ins. Co. (N.D.Cal. 2005) 426 F.Supp.2d 1039, 1047.
 State Farm Auto. Ins. Co. v. Federal Ins. Co. (1999) 72 Cal.App.4th 1422, 1429.
 National Union Fire Ins. Co. v. Stites Prof. Law Corp. (1991) 235 Cal.App.3d 1718, 1727.
 Unigard Ins. Group v. O’Flaherty & Belgum (1995) 38 Cal.App.4th 1229, 1236-37.
 Kroll & Tract v. Paris & Paris (1999) 72 Cal.App.4th 1537, 1542.
 Long, supra, 163 Cal.App.4th at 1470 (citation omitted).
 Cumis, supra 162 Cal.App.3d at 375.
 Cumis, supra, 162 Cal.App.3d at 371, fn.7.

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