Court Opinion

ID: 3046415
Source: CourtListenerOpinion
Date Created: 2015-10-13 23:18:57.18092+00
Date Added: 2024-06-11T11:41:09.909835
License: Public Domain

United States Court of Appeals
                          FOR THE EIGHTH CIRCUIT
                                   ___________

                              Nos. 07-3624/07-3625
                                  ___________

Westchester Fire Insurance Company,   *
a New York corporation,               *
                                      *
           Appellant/Cross-Appellee, *
                                      * Appeal from the United States
     v.                               * District Court for the
                                      * District of Minnesota.
Douglas Wallerich, Patrick Lowther;   *
Sharon O'Reilly,                      *
                                      *
           Appellee/Cross-Appellant. *
                                 ___________

                             Submitted: October 15, 2008
                                Filed: April 24, 2009
                                 ___________

Before BYE, JOHN R. GIBSON, and SMITH, Circuit Judges.
                             ___________

SMITH, Circuit Judge.

       In this insurance coverage dispute, Westchester Fire Insurance Company
("Westchester") filed a declaratory judgment action against Douglas Wallerich,
Patrick Lowther, and Sharon O'Reilly (collectively "Insureds"), seeking a
determination whether it must provide coverage to the Insureds in defending an
underlying lawsuit. Additionally, Westchester sought reimbursement of its expenses
paid thus far in defending the underlying lawsuit. In response, the Insureds
counterclaimed for coverage fees for Westchester's initial denial of coverage and for
attorneys' fees in defending the declaratory judgment action. Westchester moved for
summary judgment, and the district court granted the motion in part, holding that
Westchester had no duty to defend the Insureds in the underlying lawsuit but that
Westchester was not entitled to reimbursement of its defense costs in the underlying
litigation. Additionally, the district court sua sponte granted summary judgment to the
Insureds in the amount of $6,335.33 for coverage fees resulting from Westchester's
initial denial of coverage.1 Both parties appeal from the district court's judgment. For
the reasons outlined below, we affirm in part and reverse in part.

                                 I. Background
      The Insureds formed the partnership Jewel of the Mississippi, LLP ("Jewel
Partnership") with Mark Fayette, Mark's wife, Shayna Fayette, and others, for the
purpose of acquiring and developing the Jewel Nursery property in Lake City,
Minnesota.

      The Jewel Partnership and Hale Irwin Golf Properties, LLC formed the
Residences at the Jewel, LLC ("the Residences") to develop the property for
commercial and residential use. Mark Fayette and the Insureds, in addition to being
investors in the Residences, also held various officer and director positions within the
Residences until its dissolution. Shayna Fayette was never an officer, director, or
employee of the Residences.

       In his capacity as Chief Manager of the Residences, Wallerich filed an
application with Westchester for a business and management indemnity insurance
policy. Westchester subsequently issued the policy to the Residences. Two sections
of the policy are relevant to the issues in the instant case: the "General Terms and
Conditions" section and the "Directors, Officers, and Company Indemnity Coverage"
("D&O coverage") section.

      1
       The district court granted Westchester's motion to dismiss part of the Insureds'
counterclaim that sought attorneys' fees for defending the declaratory judgment action.
The Insureds have not appealed this determination.

                                          -2-
      According to the policy, the General Terms and Conditions "apply to each and
every Coverage Section of [the] Policy. The terms and conditions of each Coverage
Section apply only to that Coverage Section and shall not be construed to apply to any
other Coverage Section." (Boldface in original). The Definitions section of the
General Terms and Conditions explains as follows:

      Whenever used in this Policy, the terms that appear below in boldface
      type shall have the meanings set forth in this Definitions subsection of
      the General Terms and Conditions. However, if a term also appears in
      boldface type in a particular Coverage Section and is defined in that
      Coverage Section, that definition shall apply for purposes of that
      particular Coverage Section. Terms that appear in boldface in the
      General Terms and Conditions but are not defined in this Definitions
      subsection and are defined in other Coverage Sections of the Policy shall
      have the meanings ascribed to them in those Coverage Sections.

(Boldface in original). The General Terms and Conditions section also contains a
clause dealing with "spouses," which provides, in relevant part:

      The . . . spouses . . . of natural persons who are Insureds shall be
      considered Insureds under this Policy; provided, however, coverage is
      afforded to such . . . spouses . . . only for a Claim arising solely out of
      their status as such and, in the case of a spouse . . . where the Claim
      seeks damages from marital community property, jointly held property
      or property transferred from the natural person who is an Insured to the
      spouse . . . .

(Boldface in original).

      The insuring clause of the D&O coverage section provides:

      Insurer shall pay the Loss of the Directors and Officers for which the
      Directors and Officers are not indemnified by the Company and which

                                         -3-
      the Directors and Officers have become legally obligated to pay by
      reason of a Claim . . . for any Wrongful Act taking place prior to the
      end of the Policy Period.

       "Loss means damages, judgments, settlements, pre-judgment or post-judgment
interest awarded by a court, and Costs, Charges and Expenses incurred by the
Directors and Officers under the Insuring Clause[ ]. . . ." (Boldface in original). "Cost,
Charges, and Expenses means reasonable and necessary legal costs, charges, fees
and expenses incurred by any of the Insureds in defending Claims . . . ."(Boldface in
original). "Claim means . . . a civil proceeding against any Insured seeking monetary
damages, or non-monetary or injunctive relief, commenced by the service of a
complaint or similar pleading . . . ." (Boldface in original). "Wrongful act means any
actual or alleged error, omission, misleading statement, misstatement, neglect, breach
of duty or act allegedly committed or attempted by: any of the Directors or Officers
while acting in their capacity as such . . . ." (Boldface in original). The D&O section
defines "Insureds" as "the Company and the Directors and Officers." (Boldface in
original).

       The D&O coverage section contains an "insured v. insured" exclusion, which
states that:

      Insurer shall not be liable for Loss under this Coverage Section on
      account of any Claim:
                                       ***
      e) brought or maintained by, on behalf of, in the right of, or at the
      direction of any Insured in any capacity, any Outside Entity or any
      person or entity that is an owner of or joint venture participant in any
      Subsidiary in any respect and whether or not collusive, unless such
      Claim:

             (I) is brought derivatively by a securities holder of the
             Parent Company and is instigated and continued totally

                                           -4-
             independent of, and totally without the solicitation,
             assistance, active participation of, or intervention of, any
             Insured[.]

(Boldface in original).

       Mark and Shayna Fayette, individually and on behalf of the Residences, filed
a lawsuit ("Fayette lawsuit") in Minnesota state court against the Insureds, alleging
breach of various fiduciary duties in connection with the management and auction of
certain residential and commercial properties held by the Residences. The Insureds
timely notified Westchester of the lawsuit and sought coverage for their defense.
Westchester denied coverage and refused to defend the Insureds. The Insureds then
hired counsel, who urged Westchester to reconsider its position. Thereafter,
Westchester changed its position, agreeing to defend the Insureds against the Fayette
lawsuit, subject to a full reservation of rights, including: (1) the right to withdraw from
the Insureds' defense; (2) the right to deny insurance coverage; (3) the right to file a
declaratory judgment action challenging its obligation to defend the Insureds in the
Fayette lawsuit; (4) the right to seek reimbursement of defense expenses in the event
that a court found that Westchester had no duty to defend the Insureds; and (5) the
right to deny any indemnity obligation. Westchester stated in the reservation-of-rights
letter that its offer to advance defense expenses was "not an admission of any
obligation under the policy." The Insureds objected to Westchester's reservations but
accepted its offer to advance defense expenses to them.

       Westchester then filed a declaratory judgment action in federal district court,
seeking a determination that it owed no coverage to the Insureds. It also asserted that
it was entitled to reimbursement for the fees and costs that it incurred in defending the
underlying Fayette lawsuit. The Insureds counterclaimed for coverage fees incurred
as a result of Westchester's initial denial of coverage and for attorneys' fees in
defending this declaratory judgment action. Westchester then moved for summary

                                           -5-
judgment on the grounds that the "insured v. insured" exclusion in the insurance
policy precludes coverage.

      The district court granted in part Westchester's motion for summary judgment.
Despite finding that Shayna Fayette was not an "Insured" within the meaning of the
policy, the district court ultimately concluded that Westchester had no duty to defend
or indemnify the Insureds in the Fayette lawsuit. The court determined that the
"insured v. insured" exclusion applied because Mark Fayette—an Insured—was a
party to the underlying lawsuit. But the court denied Westchester's motion for
summary judgment with respect to its reimbursement claim for defense costs
expended in the underlying litigation, finding no agreement to reimbursement in the
insurance policy. The district court also sua sponte granted summary judgment to the
Insureds on their counterclaim for coverage fees, awarding them coverage fees in the
amount of $6,335.33.

      Both Westchester and the Insureds appeal from the district court's judgment.

                                   II. Discussion
      On appeal, Westchester challenges the district court's determinations that (1)
Shayna Fayette is not an "insured" under the policy; (2) Westchester is not entitled to
reimbursement of defense costs; and (3) the Insureds are entitled to coverage-counsel
fees.

       The Insureds cross-appeal the district court's judgment, arguing that the
"insured v. insured" exclusion does not apply and, as a result, Westchester has a duty
to defend the Insureds in the Fayette lawsuit.

                    A. Whether Shayna Fayette is an "Insured"
      Westchester's first argument is that, although the district court correctly held
that Westchester had no duty to defend the Insureds against any portion of the Fayette

                                         -6-
lawsuit, it erroneously found that Shayna Fayette was not an "Insured" under the
policy. Westchester maintains that this finding creates the potential for Mark and
Shayna Fayette to dismiss their complaint and refile in Shayna Fayette's name alone.

        Looking to the language of the policy, the district court determined that Shayna
Fayette was not an "Insured." According to the district court, the D&O coverage
section defines the term "Insureds" to mean "the Company and the Directors and
Officers." (Boldface in original). But the General Terms and Conditions section states
that a spouse is an "Insured" under the policy. As a result, the district court concluded
that an ambiguity existed in the policy because the definition of "Insured" is subject
to two different meanings. The court noted that the General Terms and Conditions
section states "that Terms that appear in boldface in the General Terms and
Conditions but are not defined in this Definitions subsection and are defined in other
Coverage Sections of the Policy shall have the meanings ascribed to them in those
Coverage Sections." (Boldface in original). The court observed that the term
"Insureds" is not defined in the General Terms and Conditions section; instead, it is
only defined in the D&O coverage section to mean "the Company and the Directors
and Officers." (Boldface in original). This definition does not include spouses. As a
result, the district court held that because the term "Insureds" is defined in the D&O
coverage section, meaning that such definition is the only definition applicable to the
D&O coverage section and its exclusions, Shayna Fayette is not an "Insured" under
the D&O policy.

      Under Minnesota law, "[t]he insured bears the burden of demonstrating
coverage under an insurance policy." SECURA Supreme Ins. Co. v. M.S.M., 755
N.W.2d 320, 323 (Minn. Ct. App. 2008). If the insured meets this burden, then the
insurer "must establish the applicability of exclusions." Id. "[A]ll exclusions are
construed strictly against the insurer." Id. (internal quotations and citation omitted).

                                          -7-
       "General principles of contract interpretation apply to insurance policies. When
the language in an insurance policy is unambiguous, the language must be given its
plain and ordinary meaning." Id. (internal quotations and citations omitted). But if the
court finds that the policy language is ambiguous, such ambiguity must be resolved
in the insured's favor. Id. "This is done by interpreting the ambiguity in accordance
with the reasonable expectations of the insured." Id. "In deciding whether an
ambiguity truly exists" in an insurance policy, the court must read the policy "as a
whole." Mutual Serv. Cas. Ins. Co. v. Wilson Twp., 603 N.W.2d 151, 153 (Minn. Ct.
App. 1999). "The language must be considered within its context, and with common
sense." Id. If the court concludes that "a phrase is subject to two interpretations, one
reasonable and the other unreasonable in the context of the policy, the reasonable
construction will control and no ambiguity exists." Id.

      Likewise, provisions in an insurance contract "must be read and studied
independently and in context with all other relevant provisions and the language of the
policy as a whole." West Bend Mut. Ins. Co. v. Armstrong, 419 N.W.2d 848, 850
(Minn. Ct. App. 1988). "Construction of an insurance policy which entirely
neutralizes one provision should not be adopted if the contract is susceptible of
another construction which gives effect to all of its provisions and is consistent with
the general intent." Id.

       Viewing the relevant policy language in context, giving effect to all of the
policy's provisions, and applying a commonsense construction to such language, we
hold that no ambiguity exists in the policy language and that Shayna Fayette is an
"Insured" under the policy. The term "Insured" does appear in boldface type in the
General Terms and Conditions section. The term is not defined in the Definitions
subsection of the General Terms and Conditions section. Likewise, the "Estates, Legal
Representatives, and Spouses" provision appearing in the General Terms and
Conditions section does not define "Insured" but instead advises that
"[t]he . . . spouses . . . of natural persons who are Insureds shall be considered

                                          -8-
Insureds under this Policy . . . ." (Boldface in original). Thus, this provision does not
purport to define the term "Insured"; instead, it only explains that spouses are
considered "Insureds" under the policy—however that term is defined in the relevant
coverage section. Therefore, as directed by the policy, because the term "Insured" is
not defined in the Definitions subsection of the General Terms and Conditions section,
the relevant coverage section's definition of "Insured" governs. The relevant coverage
section is the D&O coverage section, which defines an "Insured" as "the Company
and the Directors and Officers." (Boldface in original).

      Applying the D&O coverage section's definition of "Insured" to the "Estates,
Legal Representatives, and Spouses" provision in the General Terms and Conditions
section yields the following result:

      The . . . spouses . . . of natural persons who are Insureds [defined as the
      Company and the Directors and Officers] shall be considered Insureds
      [defined as the Company and the Directors and Officers] under this
      Policy. . . .

(Boldface in original). Because Mark Fayette is a director and officer of the
Residences, he is an "Insured" under the D&O policy. In turn, applying the "Estates,
Legal Representatives, and Spouses" provision, because Shayna Fayette is the spouse
of Mark Fayette—a director and officer who meets the definition of "Insured" under
the D&O coverage section—she is also considered an "Insured." This plain language,
commonsense interpretation of the policy gives effect to all sections and provisions
in the policy.

       Because both Mark Fayette and Shayna Fayette are "Insureds" under the policy,
the "insured v. insured" exclusion applies because the policy excludes coverage for
"any Claim . . . brought or maintained by, on behalf of, in the right of, or at the
direction of any Insured in any capacity . . . whether or not collusive . . . ." (Boldface

                                           -9-
in original).2 Therefore, Westchester has no duty to defend the Insureds. As a result,
we need not address the question whether the "insured v. insured" exclusion applies
when the lawsuit involves the presence of both an insured plaintiff and a non-insured
plaintiff.

       2
        The dissent relies on what it considers a "limitation" in the General Terms and
Conditions section to conclude that Shayna Fayette is not an insured. Without
question, the General Terms and Conditions section makes clear that Shayna
Fayette—a "spouse" of a natural person" who is an "Insured" "shall be considered" an
Insured under the policy. But the section goes on to explain that when the spouse is
a defendant—not a plaintiff—other conditions apply. The exclusion states that
Westchester will "afford" coverage to spouses "only for a Claim arising solely out of
their status as such and, in the case of a spouse . . . where the Claim seeks damages
from marital community property, jointly held property or property transferred from
the natural person who is an Insured to the spouse[.]" (Boldface in original). Thus,
when a spouse of an Insured is being sued, the policy only considers the spouse an
Insured if: (1) a claim is brought against the spouse arising solely out of that spouse's
status as an Insured's spouse and (2) the claim seeks damages from marital property,
jointly held property, or property transferred from the Insured to the spouse.

        In the present case, these two limitations do not apply because Westchester is
not having to "afford" any coverage to Shayna Fayette, as she is not being sued but
is instead a plaintiff. The dissent does not recognize this distinction in its analysis, nor
does it mention the "insured v. insured" exclusion in the D&O coverage section,
which states that Westchester is not liable "on account of any Claim" that is "brought
or maintained by, on behalf of, in the right of, or at the direction of any Insured in any
capacity." (Boldface in original; emphasis added). This language, unlike the
"limitations" that the dissent relies on in the General Terms and Conditions section,
specifically covers a situation where an Insured is a plaintiff—not a defendant. We
acknowledge the accuracy of the dissent's analysis had Shayna Fayette been a
defendant in the present case. But she is not a defendant; she is a plaintiff. As a result,
she cannot rely on the limitations contained in the General Terms and Conditions
section.

                                           -10-
      B. Whether Westchester is Entitled to Reimbursement of Defense Costs
      Because we conclude that Westchester has no duty to defend the Insureds, we
must necessarily determine whether Westchester is entitled to reimbursement of
defense costs expended in the Fayette lawsuit.

       The question whether insurers have a right to obtain reimbursement from
insureds for funds advanced toward defense of uncovered claims has not been
addressed by Minnesota's state appellate courts. Westchester marshals four arguments
urging us to conclude that Minnesota courts, like most state courts, would allow
reimbursement. Westchester first asserts that, under Minnesota law, an insurer's duty
to defend is less broad than in some states. Insurers in Minnesota are not obligated to
defend whenever coverage is merely "arguable" based upon a policy interpretation
dispute. Second, Westchester maintains that insurers' reimbursement rights stem from
equitable legal principles and not contract terms. Reimbursement, by definition, is
only available for the defense of uncovered claims. Third, Westchester states that
Minnesota's federal courts have reached conflicting results with respect to insurers'
reimbursement rights under Minnesota law and that the better-reasoned decisions
recognize a right of reimbursement because it is most consistent with Minnesota law.
Finally, Westchester argues that Minnesota's general contract and insurance law is
most compatible with the equitable theories that underpin insurers' unilateral
reimbursement rights, particularly in cases such as this one in which the insurer did
not owe anything under the policy.

       Nationally, courts "are split as to whether an insurer may bring a cause of action
against an insured for attorneys' fees and costs expended defending the insured in a
different matter." Gen. Star Indem. Co. v. V.I. Port Auth., 564 F. Supp. 2d 473, 476
(D. V.I. 2008) (citing Perdue Farms, Inc. v. Travelers Cas. & Sur. Co. of Am., 448
F.3d 252, 258 (4th Cir. 2006) (acknowledging that "jurisdictions differ on the
soundness of an insurer's right to reimbursement of defense costs")).

                                          -11-
       "[N]umerous courts recognize an insurer's right to reimbursement of defense
fees paid where it is determined that the insurer had no duty to defend. Indeed, many
cases refer to this holding as the majority position." Westport Ins. v. Ong, No.
1:07CV10 DAK, 2008 WL 892941, at *4 (D. Utah Mar. 28, 2008) (slip op.) (citing
St. Paul Fire & Marine Ins. Co. v. Compaq, 457 F.3d 766, 772 (8th Cir. 2006)
(applying Texas law); United Nat'l Ins. Co. v. SST Fitness Corp., 309 F.3d 914, 921
(6th Cir. 2002) (applying Ohio law); Envirotech Indus., Inc. v. United Capitol Ins.,
141 F.3d 1175 (9th Cir. 1998) (unpublished); Resure, Inc. v. Chem. Distrib., Inc., 927
F. Supp. 190, 194 (M.D. La. 1996) (applying New Mexico law); St. Paul Mercury Ins.
Co. v. Med. Lab. Network, Inc., 690 F. Supp. 901, 904 (C.D. Cal. 1988); Jim Black &
Assoc. v. Transcon. Ins. Co., 932 So. 2d 516, 518 (Fla. Dist. Ct. App. 2006); Travelers
Cas. & Sur. Co. v. Ribi Immunochem, 108 P.3d 469, 480 (Mont. 2005); Sec. Ins. Co.
of Hartford v. Lumbermens Mut. Cas. Co., 826 A.2d 107, 125 (Conn. 2003); Buss v.
Superior Court, 939 P.2d 766, 778 (Cal. 1997)).

       "Courts that recognize such claims for reimbursement of defense costs generally
do so under a quasi-contract theory, allowing recovery to prevent unjust enrichment."
Gen. Star Indem. Co., 564 F. Supp. 2d at 477. The seminal case allowing
reimbursement is Buss; in that case, the California Supreme Court affirmed a ruling
that an insurer that issued a standard commercial general liability insurance policy has
a right of reimbursement of defense costs for claims not even potentially covered
under its policy, explaining that:

      Under the policy, the insurer does not have a duty to defend the insured
      as to the claims that are not even potentially covered. With regard to
      defense costs for these claims, the insurer has not been paid premiums
      by the insured. It did not bargain to bear these costs. To attempt to shift
      them would not upset the arrangement. The insurer therefore has a right
      of reimbursement that is implied in law as quasi-contractual, whether or
      not it has one that is implied in fact in the policy as contractual. As
      stated, under the law of restitution such a right runs against the person
      who benefits from "unjust enrichment" and in favor of the person who

                                         -12-
      suffers loss thereby. The "enrichment" of the insured by the insurer
      through the insurer's bearing of unbargained-for defense costs is
      inconsistent with the insurer's freedom under the policy and therefore
      must be deemed "unjust." It is like the case of A and B. A has a
      contractual duty to pay B $50. He has only a $100 bill. He may be held
      to have a prophylactic duty to tender the note. But he surely has a right,
      implied in law if not in fact, to get back $50. Even if the policy's
      language were unclear, the hypothetical insured could not have an
      objectively reasonable expectation that it was entitled to what would in
      fact be a windfall.
939 P.2d at 776–77 (internal citation omitted). In a related footnote, the court further
explained:

      That the insurer does not have a right of reimbursement express in the
      policy does not mean that it does not have one implied in law. Rather,
      that it has an implied-in-law right helps explain why it does not have an
      express-in-policy one. The former renders the latter unnecessary. This is
      proved by the fact that, with an implied-in-law right and without an
      express-in-policy one, insurers have sought, and obtained,
      reimbursement—and have done so, on the evidence of reported
      decisions, for much more than a decade. To be sure, an express right
      could have been introduced into the policy. But that it was not is not
      dispositive.

Id. at 776–77 n.13 (internal citations omitted).

       According to the Buss court, in order to obtain a reimbursement of defense
costs, an insurer must reserve its rights on this basis. It is not necessary that the
insured agree with the insurer's reservation of rights to obtain a reimbursement of
defense costs for it to be valid; "[b]ecause the right is the insurer's alone, it may be
reserved by it unilaterally." Id. at 784 n.27.

                                         -13-
        In contrast to Buss and the courts relying on its rationale, the "most recent
decisions" reflect the minority position. Westport Ins., 2008 WL 892941, at *4. These
courts "have refused to recognize claims by insurers for reimbursement of defense
costs expended under a unilateral reservation of rights, absent a provision for such
reimbursement in the insurance policy." Gen. Star Indem. Co., 564 F. Supp. 2d at 477
(citing Terra Nova Ins. Co. Ltd. v. 900 Bar, Inc., 887 F.2d 1213, 1219 (3d Cir. 1989)
("[W]e believe, the Pennsylvania Supreme Court would preclude an insurer who
provides a defense under reservation of rights from recovering the cost of that defense
from its insured if it is later determined that there is no coverage."); Perdue Farms,
448 F.3d at 258 (holding that, under Maryland law, the insurer had no right to
reimbursement for defense costs attributable to non-covered claims); Liberty Mut. Ins.
Co. v. FAG Bearings Corp., 153 F.3d 919, 924 (8th Cir. 1998) (holding that an insurer
was not entitled to reimbursement of defense costs expended prior to the court's
determination that there was no duty to defend); LA Weight Loss Ctrs., Inc. v.
Lexington Ins. Co., 2003 No. 1560, 2006 WL 689109, at *6 (Pa. Ct. C.P. Mar. 1,
2006) (holding that an insurer could not sustain a claim for restitution of costs
defending uncovered claims based on an unjust enrichment theory); Gen. Agents Ins.
Co. of Am., Inc. v. Midwest Sporting Goods Co., 828 N.E.2d 1092, 1102 (Ill. 2005)
("We . . . 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."); Shoshone First Bank v. Pac. Employers Ins. Co., 2 P.3d 510, 514 (Wy.
2000) ("There is no indication in the Policy of any distinction to be made between
covered and non-covered claims so far as the defense of those claims is concerned,
and we will not permit the Policy to be modified by subsequent letters from the insurer
to the insured.")). "Courts disallowing such claims for reimbursement generally reason
that an insured is not unjustly enriched when an insurer agrees to defend against
uncovered claims under a reservation of rights." Id. at 477–78.

       The Third Circuit explained its reasoning for rejecting a right of reimbursement,
stating:

                                          -14-
      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. 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, 887 F.2d at 1219–20 (predicting that Pennsylvania law would preclude
an insurer that tenders a defense under a reservation of rights and is later deemed to
owe no duty to defend from recovering such defense costs from the insured).

     More recently, the Illinois Supreme Court also rejected a right of
reimbursement, explaining:

      [W]e 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.

Gen. Agents, 828 N.E.2d at 1103.

       Conflicting decisions exist within this circuit's district courts as to whether a
right to reimbursement for insurers exists under Minnesota law. Compare Knapp v.

                                         -15-
Commonwealth, 932 F. Supp. 1169 (D. Minn. 1996), with Employers Mut. Cas. Co.
v. Indus. Rubber Prod., Inc., No. Civ. 04-3839, 2006 WL 453207 (D. Minn. Feb. 23,
2006).

       In Knapp, a diversity case governed by Minnesota law, an insurer sought
reimbursement of attorneys' fees and costs for defense under a reservation of rights
where there was no coverage or duty to defend. 932 F. Supp. at 1171. The district
court acknowledged that "Minnesota has not before determined whether or not an
insurer may be reimbursed for attorney's fees and costs, when it has been determined
that no coverage exists and the insurer undertook the defense under a reservation of
rights letter." Id. In granting summary judgment to the insurer on its right to
reimbursement, the district court held:

      [The insured] offers little to dissuade this Court from following those
      courts that have recognized the rights of insurers to seek reimbursement
      for its attorney's fees and costs under certain circumstances. California
      law is persuasive and consistent with earlier Minnesota cases addressing
      the responsibility of an insurer to meet its duty to defend first and
      challenge policy coverage questions later. The courts should be
      consistent in encouraging insurance companies to properly meet their
      duty to defend its insured against third party claims and minimize
      unnecessary claims to enforce policy coverage. However, where an
      insurer has properly met its duty and subsequently successfully
      challenges policy coverage, it should be entitled to the full benefit of
      such a challenge and be reimbursed for the benefits it bestowed, in good
      faith, to its insured.

Id. at 1172 (internal citation omitted). The court also addressed the insured's argument
that "insurance companies are not allowed to require their insured to pay defense costs
by unilaterally sending reservation of rights letters unless there is an agreement or
understanding with the insured." Id. The court rejected this argument, finding that the
language contained in the reservation-of-rights letter sufficiently and specifically

                                         -16-
reserved the right to seek reimbursement of litigation expenses, finding that the
insurer "clearly indicated its desire to reserve its right to later seek reimbursement for
attorney's fees and costs." Id. According to the court, "[the insured's] silence in
response to [the insurer's] reservations of rights letter, and subsequent acceptance of
the defense provided by [the insurer], constitutes an implied agreement to the
reservation of rights." Id.

       In contrast, in Employers Mutual, the same district court, sitting in diversity and
applying Minnesota law, held that no right of reimbursement exists. 2006 WL 453207,
at *6. Relying on a decision from this court issued after Knapp, the district court
stated:

      In [Liberty Mutual], the Court determined that the absolute pollution
      exclusion barred coverage. 153 F.3d [at 923]. In light of the Court's
      finding of no coverage, the insurer argued it was entitled to
      reimbursement of all defense costs paid. Applying Missouri law, the
      Court noted:

             Although the parties disputed whether the claims were
             excluded from coverage by operation of the pollution
             exclusion clause, any uncertainty as to such coverage
             should be resolved in [the insured's] favor. Therefore [the
             insurer] remained obligated to defend [the insured] so long
             as there remained any question as to whether the underlying
             claims were covered by the policies. Upon such
             determination that the . . . claims . . . were excluded from
             coverage, the district court properly concluded that [the
             insurer's] duty to defend [the insured] in this action expired.
             Because we conclude that [the insurer] had a duty to defend
             [the insured] until such determination was made, we reject
             [the insurer's] argument that it is entitled to reimbursement
             of defense costs. Id. at 924.

                                          -17-
      [See also Gen. Agents, 828 N.E.2d at 1092] (court held it would follow
      the minority rule which refuses 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).

      While the Eighth Circuit's decision in Liberty Mutual was made pursuant
      to the law of Missouri as to the scope of the duty to defend, this Court
      recognizes that Minnesota law has interpreted the duty to defend
      consistent with Missouri's interpretation. See e.g. Brown v. State Auto &
      Casualty Underwriters, 293 N.W.2d 822, 825–26 (Minn. 1980) (duty to
      defend triggered when any part of the claim arguably falls within
      coverage of policy). This Court will therefore follow the reasoning of the
      Eighth Circuit in Liberty Mutual and find an insurer is not entitled to the
      reimbursement of defense costs expended prior to the determination of
      coverage, unless specifically provided for in the insurance policy.

      In this case, Employers did include in its reservation of rights letter a
      right to seek reimbursement of defense costs. However, IRP did not
      explicitly respond to this reservation, and the CGL policy is silent as to
      Employers' right to seek reimbursement. Accordingly, the Court will
      deny Employers' request for reimbursement of defense costs expended
      prior to the date of this Order.

Id.

       As noted supra, the district court in Employers Mutual relied on this court's
holding in Liberty Mutual in reversing its prior position in Knapp. In Liberty Mutual,
the district court had determined that although the insurer had an initial duty to defend
the insured, such a duty expired upon the determination that the claims against the
insured were excluded from coverage by operation of an exclusion clause in the
underlying policies. 153 F.3d at 923. Before this court, the insured argued that it had
no initial duty to defend the insured "and that it [was] entitled to reimbursement of all
defense costs paid." Id. This court rejected that argument, holding that, under Missouri
law, the liability insurer remained obligated to defend insured so long as there

                                          -18-
remained any question as to whether the underlying claims were covered by the
policies. Id.

       In contrast, this court, applying Texas law, has held that an insured entered into
a binding agreement that allowed the insurer to reserve the right to recoup defense
costs in exchange for the insurer's agreement to forgo its right to veto the insured's
choice of defense counsel. St. Paul Fire & Marine Ins., 457 F.3d at 766. In St. Paul,
the insurer provided liability insurance to the insured. Id. at 768. After the insured was
sued, the insurer sent a letter to the insured, agreeing to defend the insured pursuant
to the policy but reserving its right to deny liability under the policy upon any
subsequent determination that the underlying lawsuit was not covered. Id. The letter
also expressed concern that the insured was retaining defense counsel without the
insurer's approval in violation of the terms of the policy. Id. Thereafter, the insurer
sent a letter to the insured, recognizing that the insured had continued to retain three
law firms of its choice to defend the suit without the insurer's approval. Id. After
reiterating its rights under the policy to veto the insured's choice of defense counsel
and to pay no defense costs which were unreasonable, the insurer stated its desire to
"cooperate" with the insured to allow the insured to retain its choice of defense
counsel. Id. The insurer repeated its earlier reservation of rights to deny all coverage
and, in addition, specifically reserved a right to recover any defense costs paid to the
insured in the event that the insurer later determined that the claim was not covered.
Id. The letter concluded by asking the insured for confirmation that it accepted the
offered defense of the underlying claim. Id. No official acceptance occurred, but the
insured continued to employ its chosen counsel and began accepting payments from
the insurer. Id.

      On appeal, we found that the insurer's conduct was not "unilateral" and that
Texas law failed to address the situation "where the insurer agrees to relinquish
another right it has under the policy in return for the reservation of the right to
recover." Id. at 773. The insurer's letter contained an offer to forgo its right under the

                                          -19-
policy to veto the insured's choice of counsel if the insured would agree to reduced
coverage of defense costs—"and to [the insurer's] reservation of the right to
reimbursement of those defense costs upon a subsequent determination that the policy
did not cover the claim." Id. According to this court, the insured

      could have dismissed the three firms it had hired and chosen a firm
      acceptable to [the insurer], as required by the policy . . . which would
      have entitled [the insured] to coverage of 100 percent of its reasonable
      defense costs. In that case, any attempt by [the insurer] to assert a
      reservation of rights would have lacked the element of mutual promises
      necessary to create a bilateral agreement.

Id. (internal quotations and citation omitted). But the insured, by continuing to employ
its chosen counsel while accepting the insurer's partial defense, accepted the insurer's
offer and created a supplemental agreement. Id.

        In the present case, we hold that Westchester is not entitled to reimbursement
of defense costs. First, even if we applied the majority rule, as in Knapp, the Knapp
case is distinguishable. In that case, the district court specifically noted that the
insured remained silent in response to the insurer's reservation-of-rights letter and
subsequently accepted the defense, equating to an implied agreement to the
reservation of rights by the insurer. Here, the exact opposite occurred: In response to
Westchester's reservation-of-rights letter, the Insureds explicitly rejected such terms
in the letter but nonetheless offered to accept Westchester's defense. As a result, when
Westchester decided to still tender a defense in spite of the Insureds' rejection of its
terms in the reservation-of-rights letter, it was impliedly agreeing to proceed on the
Insureds' terms.

      Second, the instant case is also distinguishable from St. Paul in which this court
recognized a right of reimbursement. Unlike in St. Paul, in which the insurer explicitly
agreed to forgo another right that it had under the policy in return for the reservation

                                         -20-
of rights, Westchester never explicitly offered to forgo any right to the Insureds in
exchange for tendering a defense.

       Finally, although Minnesota appellate courts have not announced whether they
would permit a right of reimbursement, we find the most recent state and federal court
decisions' adoption of the minority position more persuasive. Here, Westchester could
have included in the policy an express provision for such reimbursement. Westchester
cannot now unilaterally amend the policy by including the right to reimbursement in
its reservation-of-rights letter.

              C. Whether the Insureds Are Entitled to Coverage Fees
       Westchester's final argument on appeal is that the district court erred by sua
sponte awarding the insureds their coverage fees. According to Westchester, coverage
fees are only available in Minnesota when an insurer breaches its duty to defend.
Because Westchester had no duty to defend, it asserts that the district court
erroneously found that Westchester breached its duty to defend by "initially" denying
coverage to the Insureds.

        In response, the Insureds contend that the district court correctly concluded that
Westchester must pay the insured's coverage fees incurred before Westchester
accepted the duty to defend. According to the Insureds, Westchester still has a duty
to defend, so these coverage fees are clearly awardable. But even if this court
concludes that Westchester does not have a duty to defend, the Insureds assert that the
trial court correctly concluded that the coverage issue was "arguable" at the time of
tender and thus Westchester should have agreed to accept the defense in the first
instance. "Arguable coverage" includes disputed issues of policy interpretation. By
accepting the duty to defend, Westchester admitted that coverage was arguable and
needed to be resolved by the district court.

                                          -21-
        In the insurance context, Minnesota courts allow recovery for attorneys' fees
"when an insurer breaches its duty to defend." In re Silicone Implant Ins. Coverage
Litig., 667 N.W.2d 405, 422 (Minn. 2003). An insurer has a duty to defend "[i]f any
part of a cause of action against the insured arguably falls within the scope of the
insurance coverage, either on the face of the complaint or from facts known to the
insurer." Denike v. W. Nat. Mut. Ins. Co., 473 N.W.2d 370, 373 (Minn. Ct. App.
1991). But if an insurer is under no duty to defend, the insured is not entitled to
attorneys' fees and litigation costs. St. Paul Fire & Marine Ins. Co. v. Seagate Tech.,
Inc., 570 N.W.2d 503, 507 (Minn. Ct. App. 1997). Thus, "absent statutory
authorization, an insured's ability to recover attorney fees is limited to situations
where the insurer has breached its contractual duty to defend." Silicone, 667 N.W.2d
at 423.

       We have already determined that the policy's "insured v. insured" exclusion
applies and that the language of the policy is unambiguous as to Shayna Fayette's
status as an "Insured" under the policy. Therefore, there was never "arguable
coverage." As a result, Westchester never had a duty to defend the Insureds. Applying
Minnesota law, the Insureds are not entitled to coverage fees because Westchester
never had a duty to defend.

                                   III. Conclusion
       Accordingly, we hold that because Shayna Fayette is an "Insured" under the
policy, the "insured v. insured" exclusion applies, meaning Westchester never had a
duty to defend the Insureds in the Fayette lawsuit. Therefore, we affirm the district
court's grant of summary judgment to Westchester as to its claim that it had no duty
to defend the Insureds.

     Second, we affirm the district court's denial of summary judgment to
Westchester on its claim for reimbursement costs, as Westchester is not entitled to
reimbursement of defense costs.

                                         -22-
      Finally, we reverse the district court's grant of summary judgment to the
Insureds on their claim for coverage fees.

BYE, Circuit Judge, dissenting.

     Contrary to the Court's conclusion, Shayna Fayette is not an insured under
Westchester's policy for the claims she brought against Douglas Wallerich, Partick
Lowther, and Sharon O'Reilly (the Insureds). I therefore respectfully dissent.

                                           I

      The Court concludes Shayna Fayette is an insured under the policy – triggering
the policy's insured vs. insured exclusion – by misinterpreting and misapplying the
"Estates, Legal Representative, and Spouses" provision found in the General Terms
and Conditions section of the policy. That provision, in relevant part, provides as
follows:

      The . . . spouses . . . of natural persons who are Insureds shall be
      considered Insureds under this Policy; provided, however, coverage is
      afforded to such . . . spouses only for a Claim arising solely out of their
      status as such and, in the case of a spouse . . . where the Claim seeks
      damages from marital community property, jointly held property or
      property transferred from the natural person who is an Insured to the
      spouse[.]

Addendum 18.

      The purpose of this clause is to consider a spouse of an insured as an insured
only in the limited instances set forth in the modifying phrase which follows the
semicolon. Thus, Shayna Fayette is considered an insured under the policy only when
two conditions are met: 1) a claim is brought against her arising solely out of her

                                         -23-
status as Mark Fayette's spouse; and 2) the claim seeks damages from marital
community property, jointly held property or property transferred from her husband
to herself. For example, there may be instances where an insured tries to shield assets
from potential claimants by transferring them to a spouse, and a claimant sues both
the insured and the spouse attempting to reach the transferred assets. In such a
situation, the above provision of the policy provides that the spouse shall be
considered an insured under the policy.

        The limited situation which triggers this provision is not involved in this case.
First, the provision comes into play only when a claim is brought against a spouse, not
where a spouse brings a claim. The provision is a limited grant of coverage, not a
policy exclusion; it provides coverage to spouses for claims brought against them.
Contrary to the Court's interpretation of the provision, it cannot be used to expand the
application of an exclusion (the insured vs. insured exclusion) found elsewhere in the
policy, in order to exclude coverage for a claim brought by a spouse. Cf. Atwater
Creamery Co. v. Western Nat'l Mut. Ins. Co., 366 N.W.2d 271, 278 (Minn. 1985)
(holding the reasonable expectations doctrine prevents application of an exclusion
"hidden" within the definitions section of a policy).

      Second, and more fundamentally, even assuming the provision also applies to
claims brought by a spouse, Shayna Fayette's claims arise out of her status as an
investor in the partnership; they do not arise in any way out of her status as the spouse
of Mark Fayette, let alone solely out of that status. Nor does her claim seek damages
from marital community property, jointly held property, or property transferred from
a named insured to a spouse. Thus, the provision is simply not relevant to determining
whether Shayna is an insured for purposes of the claims she brought against the
Insureds.

      It is incongruous to construe the phrase "[t]he . . . spouses . . . of natural persons
who are Insureds shall be considered Insureds under this Policy" independent of the

                                           -24-
limited grant of coverage which immediately follows it. Yet that is exactly what the
Court does. The Court's interpretation of the spouse provision does not comport with
general principles of insurance law, which require us to give effect to all provisions
in a policy. E.g., Carlson v. Allstate Ins. Co., 734 N.W.2d 695, 699 (Minn Ct. App.
2007). By considering Shayna Fayette an insured for a claim arising out of her status
as an investor in the partnership, the Court nullifies the limiting phrase "provided,
however, coverage is afforded to such . . . spouses . . . only for a Claim arising solely
out their status as such" and extends the limited application of the provision beyond
its intended purpose. See Canadian Universal Ins. Co. v. Fire Watch, Inc., 258
N.W.2d 570, 572 (Minn. 1977) (indicating a court's task is to construe an insurance
policy with the purpose of effectuating the parties' intent).

                                           II

       Because the Court erroneously concluded Shayna Fayette's claims were
excluded by the insured vs. insured exclusion, it did not address whether that
exclusion applies when a lawsuit involves the presence of both an insured plaintiff and
a non-insured plaintiff (i.e., covered and non-covered claims). I would reach that
question, the answer to which is clear. Minnesota law requires an insurance company
to defend its insureds in mixed-claim suits:

      It is axiomatic that the duty to defend is broader than the duty to
      indemnify. The duty to defend is broader than the duty to indemnify in
      three ways: (1) the duty to defend extends to every claim that "arguably"
      falls within the scope of coverage; (2) the duty to defend one claim
      creates a duty to defend all claims; and (3) the duty to defend exists
      regardless of the merits of the underlying claims.

Wooddale Builders, Inc. v. Md. Cas. Co., 722 N.W.2d 283, 302 (Minn. 2006) (internal
citations omitted) (emphasis added); see also Pac. Ins. Co. v. Burnett Title, Inc., 380
F.3d 1061, 1064 (8th Cir. 2004) (applying Minnesota law and recognizing this

                                          -25-
principle). Because Shayna Fayette's claims were covered by the policy, even though
Mark Fayette's were not, Westchester had a duty to defend the Insureds in the Fayette
lawsuit. In reaching a conclusion to the contrary, the district court relied on cases
which are contrary to the law in Minnesota, and therefore do not merit discussion.

      My disagreement with the Court's conclusion that Shayna Fayette is an insured
under the policy also leads me in a different direction with respect to the question
whether Westchester is entitled to reimbursement of the defense costs expended in the
Fayette suit. Because Westchester had a duty to defend the Insureds in the Fayette
lawsuit, it is not entitled to reimbursement of its defense costs, and the question
whether it would be entitled to reimbursement assuming it had no duty to defend is
moot. For the same reason, I disagree with the Court's conclusion that the Insureds
are not entitled to coverage fees.

                                          III

      For the reasons stated, I respectfully dissent. I would affirm the district court
on the issue whether Shayna Fayette is an insured under the policy, but reverse with
respect to the determination that Westchester did not have a duty to defend the
Insureds in the Fayette lawsuit, and remand this matter to the district court for entry
of judgment in favor of the Insureds with respect to all issues raised in this appeal.
                       ______________________________

                                         -26-