Law and Insurance

Additional Insured Deprived of Coverage Under 8-Corners Rule - Again

Colony Insurance Co. v. Peachtree Construction, LTD., No. 4-08-CV-135-Y (October 14, 2009), see Peachtree Construction Decision

Texas's unusually strict adherence to the "complaint-allegation" or "8-corners" rule can be especially perilous for additional-insureds, a group typically including general contractors, commercial landlords, and oil companies, who have the clout to require subcontractors and tenants to add them as additional insureds to the subordinate's liability insurance.  Additional insureds are usually covered only when the accident arises from the named insured's activities.

The 8-corners rule precludes a court from considering any evidence to resolve an insurer's duty to defend other than the 4 corners of the pleading and the 4 corners of the policy.  All too often, as in this case, an injured plaintiff, often in his zeal to tag the defendant with the deepest pockets, fails to sue the named insured subcontrator or even allege that it exists.  (Often the plaintiff is the subcontractor's employee and is barred by the workers' compensation laws from suing the employer).

When that happens, the subcontractor's insurer refuses to defend its additional insured because the pleading fails to allege that the injury arose out of the subcontractor's work.  The insurer almost invariably wins dismissal of the insurance claim because the judge is barred from considering the abundant proof that in fact the named-insured subcontractor's work was the cause of the injury.  Texas is, I believe, the only state that recognizes no exceptions to the 8-corner rule to avoid law-is-an-ass ridiculous results.  I would welcome any corrections if this is not the case.

Here, Peachtree Construction was building a road and hired Cross Roads LP to install warning signs and barriers.  A passing motorcyclist lost control and crashed at the site.  The surviving spouse sued Peachtree alleging that the crash was the result of negligent placement of barriers and failure to post warning signs, matters squarely within Cross Road's contractual responsibilities.  However, the pleading did not mention Cross Roads.

Although Peachtree was an additional insured under Cross Road's general liability policy, the insurer refused to defend for the reasons described above.  In the ensuing coverage litigation, the judge refused to admit the subcontract or other evidence establishing Cross Road's role in the construction, again for reasons described above.

Compare this result with one in a similar case I discussed last year.  See 8-Corners Rule Requires Close Look at Factual Allegations, Says Fifth Circuit, in which the court put on its Sherlock Holme's cap and searched the pleadings with a magnifying glass to find traces in the pleadings that potentially implicated the involvement of a subcontractor in the allegations.  But the 5th Circuit had more to go on than here.  At least the the subcontractor was mentioned in that case.  In Peachtree, nothing was said to justify an inference supporting coverage.

So, what can an additional insured do in this situation?  It might try to challenge the pleadings in the underlying case by filing "special exceptions" in Texas state court or a motion for a more definite statement under Rule 12 (e) in federal court, devices designed to force the plaintiff to replead with greater detail.  Should Peachtree have pointed out to the plaintiff that Cross Roads was the subcontractor responsible for the signage and barriers, the plaintiff might have repled and at least mentioned the subcontractor.

Failing that, Peachtree might bring Cross Roads into the lawsuit as a third-party defendant, which might prompt the plaintiff to add the subcontractor as an additional defendant.

But these are cumbersome strategms that could fail.  The rationale behind the 8-corner rule is sound.  The insurer should have to take the pleadings as given and defend without developing extrinsic evidence early in a case to avoid coverage.  But the rule arguably gives the underlying plaintiff too much control over coverage.  Plaintiffs motivated to bring a deep pocket insurance company to the settlement table may plead or omit allegations just to trigger the duty to defend.  On the other hand, a plaintiff seeking to deprive the defendant of a fund to pay for the defense, may falsely plead out of coverage. 

It seems only fair that the parties to the insurance contract have some means of addressing obvious and egregious manipulation of the pleadings.

Connecticut AG Announces $1.3 MM Hartford Settlement of Price-Fixing Conspiracy

Two novel developments this week.  First, the House Judiciary Committee approved H.R. 3596, a bill that would remove the antitrust exemption in the McCarran-Ferguson Act of 1945 for health and medical malpractice insurers.  See Health Insurance Industry Antitrust Enforcement Act of 2009.  The Senate Judiciary Committee is considering the same legislation in S. 1691.  Although the politics and emotions roused in the the debate over this legislation is seen as just another wrinkle in the health care reform debate, repeal of McCarran-Feguson has been kicked around for years.  Proponents of the bill argue that the insurance industry, particularly health insurance, is not competitive, in part because insurers have managed under lax state controls to conspire, fix prices, and carve up markets.

Not so, says the Attorney General of Connecticut, Richard Blumenthal, who yesterday announced a $1.3 MM settlement with Hartford Financial Services Group, the first antitrust settlement of its kind in the reinsurance industry.  See Press Release.  The settlement is part of ongoing litigation by Blumenthal against Guy Carpenter & Company LLC, one of the world's largest reinsurance brokers.  The Connecticut AG began the action in 2007 against Guy Carpenter and reinsurers, like Hartford, allegedly part of a market allocation and price-fixing conspiracy.  This action is similar to the other enforcement suits that spun out of Eliot Spitzer's 2006 New York investigation of Marsh McClennan and other brokers.

"The Hartford is making history by this first-in-the-nation settlement --- and drawing back the cloak of secrecy on a series of illegal price-fixing conspiracies that inflated insurance costs by hundreds of millions of dollars nationwide at the expense of 170 insurance companies and their customers," said Blumenthal.

Hartford, one of 20 alleged co-conspirators, cooperated in the investigation, said Blumenthal, hence the light penalty.  Blumenthal also commented:

"Bolstered by backroom deals, insurance industry inertia and an unregulated market, Guy Carpenter's conspiracies continued undetected for almost 50 years.  The Hartford helped Guy Carpenter create an illusion of competition, but now has helped my investigation to break apart business practices that have inflated costs for consumers by as much as 40%."

So which is more compelling, head-cracking, fire-breathing state regulators fully capable and financed to police the insurance industry state-by-state, or the fact that this type of arrangement went on for 50 years before anyone blew the whistle?  A spokesperson for the health insurance industry, Karen Ignagni, said in a letter to the chairman of the House committee that the bills are unnecessary because McCarran-Ferguson doesn't shield insurers from antitrust regulation.  See Repeal of Antitrust Exemption.  "The bills attempt to remedy a problem that does not exist," said Ignagni. 

I'd call that an overstatement.  The problem exists.  Which is the better remedy is the question.  If I had to bet, with or without health care reform, state regulation of insurance is probabaly on its way out.

Senate Bill Will Remove Antitrust Exemption for Health Insurance

This week, Senate Judiciary Committee Chairman, Patrick Leahy, introduced legislation ending the federal antitrust exemption for health and medical malpractice insurance under the McCarran-Ferguson Act of 1945 (15 U.S.C. § 1011 et seq.), which basically gives states, not the federal government, the authority to regulate the "business of insurance" unless a federal law specifically provides otherwise.  See Leahy's Statement.  In commenting on the bill, named the Health Insurance Industry Antitrust Enforcement Act, Senator Leahy said:

A few industries have used their influence to obtain a special, statutory exemption from the antitrust laws, and the insurance industry is one of them.  In the markets for health insurance and medical malpractice insurance, patients and doctors are paying the price, as costs continue to increase at an alarming rate.  Insurers should not object to being subject to the same antitrust laws as everyone else.

Many think that state regulation of the insurance industry in general is on the way out.  See my discussion, Drift Toward Federal Regulation.  The near failure last fall of AIG and severe weakness in the economy fuel speculation that federal regulation is not far off. See Insurance Federal Regulation Bill Touted as Answer to AIG-Sized Problems.

Nevertheless, Senator Leahy's bill may have more to do with health care reform than the demise of McCarran-Ferguson per se and may be intended to preempt challenges to any reform legislation, including tort reform, under McCarran-Ferguson.

 

Entergy Decision Survives Rehearing: Owners May Avoid Employee Lawsuits

Entergy Gulf States, Inc. v. Summers, No. 05-0272 (Tex. April 3, 2009) see Entergy Majority Opinion

 Somebody needs to explain to me why this case has provoked such a firestorm.  In a unamimous 2007 decision, the Texas Supreme Court held that the Texas' workers' compensation (WC) statute (Labor Code sec. 406.121) permitted a premises-owner to act as its own "general contractor" (the term used in the statute) and achieve the benefits of immunity from common law lawsuits by contracting with subcontractors to purchase WC insurance for all employees on the work site.  (See my discussion at Entergy 1) This arrangement, called an Owner Controlled Insurance Program (OCIP), may be used on large construction projects to lower insurance costs.  One big WC policy instead of 100 smaller ones.

Then all hell broke loose.  Outcries of judicial activism seemed to arise from all sides.  Even some lawmakers commented in the press that this was never the intent of the 1989 language changes that the Court construed.  One reporter was so desperate for a comment, she called me.  So the Court agreed to rehear the case.  Now, in 87 anguished pages, a four-judge majority, joined by three concurrences (two of which wrote 51 of those pages, see Hecht Concurrence and Willett Concurrence) and opposed by a three-judge dissent (see Dissent), reached the same result.

The statute itself provides:

A general contractor and a subcontractor may enter into a written agreement under which the general contractor provides [WC] insurance coverage to the subcontractor and the employees of the subcontractor.

The controversy lurks in the definition of "general contractor":

"General contractor" means a person who understakes to procure the performance of work or a service, either separately or through the use of subcontractors.  The term includes a "principal contractor," "original contractor," "prime contractor," or other analogous term.  the term does not include a motor carrier that provides a transportation service through the use of an owner operator.

The majority and those concurring say a premises owner may "undertake to procure the work or service of another."  The dissenters assert that common usage, as well as earlier versions of the statute, as well as court opinions, defined "general contractor" to mean one contracting directly with an owner; "subcontractors" being those who contract with the general contractor. 

The majority says it is just giving the statutory language its plain meaning.  But even Justice Hecht, writing one of the concurring opinions, admits the statute is ambiguous.  He finds sound policy reasons for spreading the blessings of WC coverage as broadly as possible.  Apparently, a number of amici ("friends of the court who submit briefs because the outcome affects their interests) argued against allowing owners to escape common law liability to injured employees because WC benefits are too meager.

Admittedly, it's hard to tell which interpretation is what the Legislature intended.  There are currently at least three bills pending on the current legislative docket, H.B. 520, H.B. 1657, and S.B. 2063, that would bar owners from becoming statutory employers.  But I ask again, why all the fuss? 

One of the amici seeking to overturn the 2007 result admits that very few owners are large and rich enough to afford an OCIP arrangement.  Insurance companies typically won't agree to them unless the project is huge.  Opening the statutory protection to owners will not make much difference in the number and frequency of construction lawsuits. 

I stand by what I told the reporter in 2007.  I think this case is no big deal.

National Insurance Agents Association Fearful of Drift Toward Federal Regulation

In an open letter to President Obama, the Independent Agents & Brokers of America (the "Big I") gingerly nudged the President to leave in place state regulation of the insurance industry even as it pledged to work with the Administration on reforming the financial services industry.  See Big I Urges President.   The Big I has long opposed steps to federalize insurance regulation, which some in the insurance industry would welcome.  The open letter may have been prompted by alarm last week at signs that Congress may be warming up to federal regulation of the insurance industry.

Seven lawmakers urged Treasury Secretary Designate Timothy Geithner to support federal oversight of insurance companies, and Mr. Geithner's remarks at his confirmation hearing last Friday could be taken to imply that the Administration might consider federalizing insurance as part of the larger reform of financial institutions.  See Lawmakers Press Geithner on US Insurance Oversight.   

The example of AIG's meltdown is often used to support federal reform of the insurance market, but, as Big I's open letter states, the part of AIG that imploded was the company's financial services arm.  AIG's insurance units were largely unaffected and remained adequately captialized.  This, argues Big I, shows that state regulation of insurance companies works. 

Prerhaps, but the drum beat for federal reform seems to be getting stonger and quicker.

Stealth "Classification Limitations" Reported Creeping Into CGL Policies

A report appeared last week of an trend in the commercial general liability market that could spell trouble for many policyholders.  Dave Lenkus reported in Business Insurance magazine that endorsements with "classification limitations" were appearing for the first time in CGL policies issued by admitted insurers.  A "classification limitation" limits coverage only to specifed categories of the insured's operations.  See Curb on CGL Coverage.  More alarming, the policyholder may not know what "classification" the insurer has imposed to limit coverage because the endorsement does not identify covered operations but instead provides a number coding the classification whose description resides in an insurance industry database that is both subject to change and not directly accessible to policyholders and their risk managers.

 What's going on?  Traditionally, a company seeking liability coverage completes an application describing what the business does -- builds house, makes widgets, whatever -- and the insurer decides if it wants to issue the policy.  If the policy issues, then the policyholder is covered for whatever it does subject to the scope of the insuring agreement, the exclusions, and other terms and conditions.  Perhaps the policy states the the general type of operations the policyholder engages in, and the policy may allow the insurer to readjust the premium if the company goes in a different direction or adds new and different operations.

Within the last decade or so, more specific classification restrictions started appearing in policies issued in the surplus lines market, those insurers not admitted to issue insurance in particular states whose policies are not subject to the same regulations imposed on admitted carriers.  For example, polices out of the Lloyds London market are typically issued on a surplus lines basis.  Policyholders purchasing surplus lines insurance are on notice that the polices may have non-standard and unusal provisions which would not pass muster with state's department of insurance.  Policy forms and endorsements issued in Texas by admitted carriers must be approved by the Texas Department of Insurance. 

Enter ISO, the Insurance Service Office, that perfroms a number of functions for the insurance industry, including promulgating standard insurance forms for admission by state regulators.  Some states automatically admit ISO forms.  Some, like Texas, admit forms only after review, but routinely accept ISO forms.  Now, we are seeing classification limitations endorsements appearing in ISO policies issued by admitted carriers.

Why should this be a concern to policyholders?  For one thing, the operations classifications are becoming more specific and narrow.  The company is no longer just in the contsruction industry; it builds only residential buildings, or only single family, or only -- who knows?  The classifications themselves are periodically revised and so become a moving target.  If the company engages in operatons that do not precisely fall within the classification stated in the policy, the insurer may deny the claim.

Add to that, the problem that the policyholder may not know that its classification has changed or even what classification restricts coverage.  The ISO database with the classification matching the number in the endrosement is not available to non-insurance professionals.  Yikes.

Everyone agrees with the principle that insurers are entitled to select what categories of risk they are willing to insure.  But the process should be subject to fuller disclosure than is now apparent.  Policyholders, particularly in certain industries, like construction, need to be vigilant and watch for classification limitations.  The insured's agent should be able to access the database and decode the classification.

FDIC Could Guarantee Insurance Limits If Federal Charters Issued, Predicts Chairman

In remarks at the annual conference of the International Association of Deposit Insurers, Sheila Blair, Chairman of the FDIC, said that her agency could play an expanded role in regulting insurance companies if Congress shifts regulation of the U.S. insurance industry from state to federal control.  Much like the current guarantees of deposits in U.S. banks, the FDIC could provide guarantees of insurance policy proceeds.

I have previously reported on the progress of legislation moving in the direction of optional federal chartering.  (See Broad Federal Insurance Regulation To Follow? and So What Happened to Legislation to Create Office of Insurance Information?)

Federal chartering for insurance companies is controversial even within the insurance industry.  Current widespread financial troubles have provided some ammunition to those in favor of federal regulation.  Just look at AIG.  Listen to Chairman Blair.

Ironically, however, opponents of moving away from state regulation also point to the example of AIG.  The AIG insurance companies were not involved in or hurt by the company's near-collapse from speculation in mortgage-linked investments, an operation of AIG Techical Services, which is not one of the AIG insurance companies.  What better recommnendation of the soundness of state regulation, say supporters of the current system, than the contrast between AIG's insuring sectors, that are financially unscathed, and the company's financial sector, which collapsed?

Stay tuned.

Insurance Industry Reacts to Regulators' Questions on Global Warming Risks

Climatewire reporter Evan Lehmann posted a story this week with the headline, "A Tempest Rages Among Insurers and Regulators Over Climate Risks," (see Lehmann Story).  Earlier this month, I reported on the 9-point questionnaire proposed by a committee of the National Association of Insurance Commissioners (NAIC) to the insurance industry and the industry's mixed reception to the idea.  (See Perfect Storm Brewing Over Climate Change Disclosures).  The two sides met last week, and Mr. Lehmann reported the various reactions.

Just to summarize the insurers' reaction:

• some are irate over what they see as a political stunt designed to "'coerce' what is believed to be the world’s largest industry into advancing the notion of human-induced climate change";
• some are concerned that they would have to divulge proprietary or anticompetitive information;
• some fear their disclosures could be used against them in lawsuits; and
• some believe not enough is known about the effects of climate change to justify some of the questions.

NAIC representatives assert they have an obligation to protect consumers by taking steps to ensure that insurers are able to pay "rising claims related to violent weather."  The regulators will vote in September whether to propound the questions and have indicated they are willing to modify the questionnaire, broadening some questions to avoid specific disclosures of proprietary or competitively sensitive information and allowing some answers to be submitted confidentially.

The insurance industry is in a bind. More than any other segment of commerce, insurance companies understand the importance of assessing risk.  Head in sand is hardly prudent risk management. They were among the first to warn of the dangers of ignoring potential global warming risks.  So they feel impelled not to be seen dragging their feet.  But in many ways, they mirror the range of beliefs across society at large, from abject deniers, to minimalists, to true believers that, as one put it, “This is not one risk among many, but really the pre-eminent risk facing the industry.”

No doubt, some form of questionnaire will go out and one hopes some good come of it.  More importantly, as insurers themselves have urged, other industries should be conducting their own risk management assessments.

So the storm watch continues.

Perfect Storm Brewing Over Climate Change Disclosures Sought By Regulators From Insurance Industry

Just before hurricane season heats up, the winds are starting to blow from the insurance industry over questions posed by a committee of the National Association of Insurance Commissioners (NAIC) in a white paper outlining the "Potential Impact of Climate Change on Insurance Regulation."  (See Adopted White Paper).  Unless or until insurance regulation is federalized, the NAIC remains the most powerful body overseeing the U.S. Insurance industry, and for the last year or so has fixed its sights on preparing for climate change.  The Climate Change Task Force of the NAIC has promulgated nine questions to insurers (paraphrased as follows):

1. Do you have a plan to mitigate your own emissions?
2. Do you have a policy for handling climate change risk and investment management?
3. Have you considered the impact of global warming on your own investment portfolio?
4. What steps have you taken to encourage policyholders to reduce losses from climate change?
5. Describe your use of computer modeling to assess global warming impact.
6. Do you know of any trends or effects of global warming that may have a material impact on your operations or financial condition?
7. Are there geographic locations (read Gulf coast) where you are reducing business or line of insurance you are reducing or eliminating due to global warming?
8. What analysis have you conducted on the impact of global warming on your business?
9. Describe steps you have taken to engage key constituencies on the topic of climate change.

The industry's response has been, well, mixed.  Immediate comment by spokespersons for the American Council of Life Insurers and the Property Casualty Insurers Association of America was concern over the potential public release of proprietary and competitively sensitive information.  (See NAIC Climate Change Blueprint for Insurers).

Interestingly, recent comment has focused on the political aspects of the NAIC requests.  Robert Detlefesen, vice president of the National Association of Mutual Insurance Companies, stated that the disclosures are "essentially a call-to-action that seeks to enlist insurers in a campaign to promote an agenda informed not by science or evidence, but by the policy predilections of a handful of interests groups."  (See story posted on ClimateWire).  Mr. Detlefesen may have been reacting to the involvement in the NAIC process of such public and consumer interest groups as Center for Economic Justice and Ceres. 

Other industry voices suggest more openness to some kind of disclosure process and dialog with state regulators.  After all, the insurance industry was probably the first from the private business sector to take global warming seriously and begin planning.  What happens in 2009 from the NAIC disclosure-requests may depend on the 2008 hurricane season.  Another Katrina or Rita and the NAIC may issue subpoenas and promulgate interrogatories; or maybe it won't have to.

Broad Federal Insurance Regulation To Follow?

Recently introduced, H.R. 5840, the Insurance Information Act of 2008 (see H.R. 5840 Text) will create a new Office of Insurance Information to collect and analyze data on insurance, advise the Secretary of the Treasury on foreign and domestic insurance issues, report to Congress every two years, establish federal policy on international insurance matters, and ensure consistency between state and federal insurance laws as well as coordinate international trade agreements.  The bill will also create an advisory group to inform and advise the head of the Office, which will include state regulators, consumer groups, and others in the insurance industry. 

Over all, the insurance industry appears to welcome the creation of the OII as a rational and necessary precursor to any federal action (or inaction) on future federal regulation.  For example, a senior officer of the Council of Insurance Agents & Brokers (quoted in Business Insurance Magazine, April 21, 2008) said, "There are few creative and bold acts of leadership that transform the dynamics of any insurance regulatory issue and that is precisely what has been done."  Leigh Ann Pusey, COO of the American Insurance Ass'n, observed, "We have a need to have someone at the federal level to develop some insurance knowledge and expertise and to help develop policy." 

However, not all industry voices are supportive.  Some see this measure as a first step to unwanted federal control over insurance business.  Justin Roth, senior federal affairs director for the National Ass'n of Mutual Insurance Companies, noted that the OII is the kind of agency advocated in the March 31 blueprint for financial services regulatory reform proposed by the Treasury Department.  "If you go by the Treasury Blueprint, this is step No. 1 toward an [optional national charter].  It is obvious to us that this is step No. 1, and we strongly oppose federal regulation and we have concerns that this will lead to federal regulation."

The bill does seem to point to inevitable federal regulation of some kind.  But which is worse?  Federal insurance regulation or uninformed federal regulation?