When is a Claim For Reimbursement of Defense Costs Ripe?

The California Court of Appeals recently considered the question of when an insurer’s claim for reimbursement of defense costs is ripe. In Centex Homes v. St. Paul Fire and Marine Ins. Co., 237 Cal.App.4th 23, 187 Cal.Rptr.3d 542 (4th Dist., Div. 2, 2015), an insurance coverage dispute arose out of construction defect litigation in which homeowners sued the developer Centex Homes for work improperly performed by Centex’s subcontractors. One of the subcontractors, Oak Leaf Landscape, Inc. (Oak Leaf), was insured by St. Paul Fire and Marine Insurance Company and St. Paul Mercury Insurance Company (hereinafter Travelers). Centex was named as an additional insured on the Travelers’ policy.

Under the facts of this case, Centex brought a lawsuit against 57 subcontractors alleging six causes of action for breach of contract to indemnify, defend, obtain insurance, equitable indemnity, and for contribution and repayment. It was alleged that Centex incurred, and was incurring, and would continue to incur defense fees and costs to defend the homeowner claims. It was also alleged that the defense fees and costs were recoverable from the subcontractors through defense and indemnity provisions in the subcontract agreements and was collectible from various insurers who had named Centex as an additional insured under the subcontractor general liability policies. In the seventh cause of action, Centex sought declaratory relief against Travelers alleging that the homeowners were suing for construction defects caused by subcontractors insured by Travelers and that Centex was a named additional insured under the Travelers policies. Therefore, Centex asserted that Travelers was obligated to defend and indemnify Centex against the homeowners’ claims, that Travelers breached its duty to defend by requiring a reservation of rights and seeking to obtain full reimbursement from Centex. In an eighth cause of action, Centex alleged that Travelers breached its duty to provide Centex with a full, complete, immediate and conflict free defense which, in turn, caused Centex to incur its own defense costs. Centex alleged that Travelers, by defending Centex under a reservation of rights which utilized Travelers’ own panel defense counsel that Travelers had created a conflict of interest with Centex triggering Centex’s right to independent counsel.

Travelers issued a demurrer to the Centex Complaint indicating that Centex had not alleged any specific facts which demonstrated that Travelers was manipulating the defense which would permit Centex to retain independent counsel. Additionally, Travelers argued that the allocation of defense fees and costs was premature because the amount of fees, the parties involved, and the relevant facts were still unknown regarding the claims. The trial court found that the seventh cause of action was not ripe and therefore no cause of action was stated. Regarding the eighth cause of action, the trial court found that there was no actual present conflict of interest requiring independent counsel.

Centex argued that to the extent Travelers was controlling the defense of both the subcontractors and Centex that Travelers could manipulate the litigation against Centex’s interest thereby creating an ethical conflict requiring independent counsel. Additionally, Centex argued that when Travelers sought reimbursement of defense costs its right to reimbursement and the issue of allocation had to be resolved as part of the action against the subcontractors. Because of this, Centex argued that the trial court’s sustaining of Travelers’ demurrer and finding that Centex could not amend its complaint to state a cause of action directly against Travelers was in error.

Turning to the seventh cause of action, the California Court of Appeals for the Fourth District found that all of Centex’s claims were anticipatory and were not actual or ripe. It was still unknown whether Oak Leaf’s work caused the property damage claim by the homeowners. The proportionate liability of all the subcontractors had not been adjudicated. The amount of defense fees had not been established in an ongoing underlying litigation. Simply put, there were not enough facts about liability, damages, or the cost of defense for the trial court to offer any declaration as to the rights and obligations of the parties. Because of this, the trial court had correctly determined that the seventh cause of action was not ripe.

Turning to the eighth cause of action, the Court noted that Civil Code § 2860, supported by California case law, provided Centex, as an insured, with the right to obtain independent counsel paid for by Travelers whenever there are competing interests creating an ethical conflict for counsel. The Court also noted that where the insurer asserts a reimbursement claim for defense costs, the potential for conflict requires a careful analysis of the parties respective interests to determine whether they can be reconciled or whether an actual conflict of interest precluded the insurer’s appointed defense counsel from presenting a quality defense to the insured. Responding to these observations, the Court noted that a mere reservation of rights by the insurer, alone, did not necessarily constitute a conflict of interest requiring the appointment of independent counsel. In order to require the appointment of independent counsel the conflict had to be significant, not merely theoretical, actual, and merely potential. Additionally, a general reservation of rights was insufficient to trigger the right to independent counsel.

Centex alleged that the interests of Centex, Travelers, and Oak Leaf were irreconcilably adverse because Travelers was instructing defense counsel to sue Oak Leaf, the subcontractor insured by Travelers, that Travelers was directing the retention and work of experts, and that Travelers was evaluating the contracts between Centex and Oak Leaf to determine what Oak Leaf should contribute toward any settlement with the homeowners, that Travelers was allocating Centex’s defense fees and costs among the subcontractors, that Travelers was negotiating settlements between Centex and the subcontractors, and that Travelers was seeking to ascertain whether the work performed by Oak Leaf caused property damage. Thus, Centex asserted that, to the extent panel counsel could challenge the liability of Oak Leaf, it created a direct conflict of interest by enhancing Travelers’ reimbursement claims against Centex. However, the Court noted that those anticipated circumstances had not occurred yet in the underlying litigation.