Sometimes a phrase is repeated so often that we forget what it meant in the first place. Perhaps that is the case with the phrase “the duty to defend is broader than the duty indemnify.” This statement has been made by courts frequently and repeatedly over at least the past 50 years in virtually every case in which an insurer has sought to avoid defending its policyholder against a lawsuit or other third-party liability. Yet insurers continue to confuse the scope of their duty to defend with the scope of their duty to indemnify. The basic distinction is this—an insurer owes a duty to defend when its policyholder faces allegations that could potentially result in liability covered by the policy; an insurer owes a duty to indemnify when a policyholder’s actual liability falls within the coverage provided by the policy.
While it may seem counterintuitive, an insurer may have to defend its insured against an action that results in a liability that is not covered—because the duty to defend is broader than the duty to indemnify. And an insurer often will have to defend its insured against an action that results in no liability at all, such as when a meritless claim is brought against the insured. In either event, the insurers’ duty to defend does not depend upon the outcome of the case. So long as the allegations against the insured create a potential that the policyholder may face liability covered by the policy, the insurer must defend. To use just one example, if a policyholder is alleged to have assaulted the defendant (an intentional tort), and the insurance policy excludes coverage for bodily injury caused intentionally, the insurer still owes a duty to defend because the policyholder may ultimately be found liable for mere negligence. As two recent cases illustrate, many insurers continue to misunderstand this bedrock principle.
First, in Dowson v. Scottsdale Insurance Company, Montana Pride Builders LLC was sued for construction defects and resulting damage to a home that it had built. Scottsdale Insurance Company issued a policy to Montana Pride that was cancelled the same month that the home was completed. When Montana Pride tendered the construction defects lawsuit to Scottsdale and requested a defense, Scottsdale refused based on an “owned property” exclusion in the policy. A Montana federal district court found that Scottsdale breached its duty to defend and awarded the full amount of defense and settlement costs incurred by Montana Pride, as well as the attorney’s fees incurred to prove that the insurer breached its duty to defend. The Ninth Circuit Court of Appeals upheld the trial court’s ruling, as “the mere existence of the exclusion in Scottsdale’s policy does not establish an unequivocal demonstration that the claim does not fall within the insurance policy’s coverage.” Does an exclusion in the policy that may apply to the underlying claim relieve an insurer of its obligation to defend its insured? No, because the duty to defend is broader than the duty to indemnify.
Second, in Hanover Insurance Company v. Superior Labor Services, Inc., the policyholder, a sandblasting company, sought a defense from Hanover for two personal injury lawsuits filed by residents of a community alleging that the policyholder’s sandblasting activities at a neighboring shipyard caused silica dust to permeate their neighborhood. Hanover refused to defend on the ground that the complaints in the personal injury lawsuits did not specifically allege bodily injury during Hanover’s policy period. However, the complaints alleged that the sandblasting activities occurred continuously over many years, including during the Hanover policy periods. As the Louisiana federal court found, “[a]lthough the state-court [complaints] do not identify a precise time period during which the plaintiffs were exposed to the hazardous substances causing bodily injury and property damage, a review of the [complaints] and the policies does not unambiguously preclude a finding that the exposure occurred during the policy periods. An insurer’s duty to defend arises whenever the pleadings against the insured disclose even a possibility of liability under the policy.” Can an insurer avoid its obligation to defend its insured on the grounds that the complaint does not allege bodily injury or property damage during the insurer’s policy period? Not if the alleged bodily injury or property damage may have taken place during the policy period—because the duty to defend is broader than the duty to indemnify.
The breadth of the duty to defend makes perfect sense. To be sure, companies (and individuals) buy liability insurance to provide coverage when they unexpectedly cause property damage or bodily injury. But companies also buy insurance to provide protection against the enormous costs of defending against lawsuits, including lawsuits that may not result in liability. The risk insured against in these instances is the cost of defense, not the cost of liability. This “litigation insurance” is what the duty to defend provides, and it is at least as important to policyholders as the duty to indemnify. Policyholders expect—and courts require—their insurers to defend them when they face the type of claims for which they bought insurance. The question that insurers must ask when their policyholder seeks a defense is not “could this claim fall outside the coverage of the policy,” but “could this claim possibly result in liability that is covered under the policy?” If the answer is “yes,” the insurer must defend.