Can Express Policy Language Help Insurers Recover Defense Costs for Uncovered Claims?

Sara Nau and Scott Keffer | Phelps Dunbar

Over the last several years, courts have signaled that insurers may face greater difficulty obtaining reimbursement of defense costs for uncovered claims. Now, courts are more split than ever. The previous majority view was that carriers have an equitable right to reimbursement of defense costs for uncovered claims; however, a growing number of courts have held that recovery is unavailable unless the policy contains language expressly providing for it. Many courts also disagree on whether, and how, an insurer may establish the right to reimbursement without this express policy language.

We break down these trends and look at the best ways for insurers to protect their rights. Spoiler alert—including express policy terms providing for the reimbursement of defense costs for uncovered claims will be the best option to establish that right.

Can Insurers Have Reimbursement Rights Without Express Policy Language?

Implied Contracts via Reservation of Rights Letters

Some courts have found an insured’s acceptance of a defense from the insurer pursuant to a reservation of rights creates an implied-in-fact contract in which a reimbursement right may be included. For example, a federal court in Michigan found a right to reimbursement in the absence of policy language allowing reimbursement of defense costs because an implied-in-fact contract existed between the parties. In another case, the Sixth Circuit ruled “[w]hen an insurer conditions payment of defense costs on the condition of reimbursement if the insurer had no duty to defend, the condition becomes part of an implied in fact contract when the insured accepts payment.” The Appeals Court of Massachusetts confirmed “whether an insurer may seek to recoup costs of a defense undertaken pursuant to a unilateral reservation of rights is an open issue under Massachusetts law…. Other jurisdictions are closely split on the issue.”

In Florida, an appellate court found that because the insured accepted the insurer’s “offer of a defense with a reservation of the right to seek reimbursement, [the insured] ought in fairness make [the insurer] whole … [as] acceptance of the defense [the insurer] offered to finance manifested acceptance of the terms ….” Another Florida appeals court in Jim Black & Associates, Inc., v. Transcontinental Insurance Company also held that the insurer was entitled to reimbursement of defense costs for uncovered claims based on similar reasoning.

Courts in Texas have generally found that an insurer has a right to recoup defense costs if its reservation of rights letter provides fair notice of its intent to recover those costs. In Matagorda County v. TAC, for example, a Texas appellate court confirmed “[w]ith regard to defense costs, we have found no Texas cases that would recognize such a right to reimbursement. However, those state and federal courts that have examined the issue have generally denied the right of an insurer to seek reimbursement of defense costs for uncovered claims unless the insurer’s reservation of rights letter specifically notified the insured that reimbursement of defense costs would later be sought and thus created a quasi-contractual duty to reimburse.”

Following Matagorda’s reasoning, a Texas federal court noted “[m]ost, if not all, of the cases permitting an insurer to be reimbursed for the expenses it paid for the defense of the insured require the insurer to clearly state that the carrier reserved its right to recover [defense costs] upon a judicial determination of no coverage.” Soon thereafter, the Fifth Circuit, applying Texas law, similarly held “[a]n insurance company may also reserve its rights to recoup its costs of defense as long as the insurer specifically notifies the insured of its intent to collect the defense costs in a reservation of rights letter.”

Interestingly, regarding the separate duty to indemnify, the Texas Supreme Court refused in Excess Underwriters at Lloyd’s, London v. Frank’s Casing Crew & Rental Tools, Inc., to “recognize an equitable right to reimbursement [of a settlement payment because that] would require [the Court] to rewrite the parties’ contract [or] add to its language, … which we decline to do.”

It is unclear if the Frank’s Casing reasoning impacts the above-cited Texas rulings, which previously found a right to reimbursement of defense costs if the insurer reserves the right to do so. But at least one Texas federal court limited Frank’s Casing to duty to indemnify situations and did not disturb the prior rule that an insurer may be entitled to reimbursement of defense costs if this right is properly raised in a reservation of rights letter. This court held that “[d]espite the Texas Supreme Court’s silence on the precise issue at hand, this Court concludes that, under Texas law, an insurer has the implied right to recoup defense costs in certain circumstances. . . . [wherein the] predicate for reimbursement appears to be a reservation of rights by the insurer that fairly notifies the insured of its intention to seek reimbursement for defense costs.”

Anticipating the result under Tennessee law, a federal court concluded that “the Supreme Court of Tennessee would follow the majority position and recognize reimbursement is available to an insurer when an adequate reservation of rights has been made even if the policy contains no express reimbursement provision…. by providing a timely, specific and adequate notice to the insured that the insurer would seek reimbursement and it was subsequently determined the insurer had no duty to defend.”

Unjust Enrichment / Restitution Theories

The implied-in-fact contract issue is not the only area where courts have disagreed on an insurer’s ability to recover defense costs for uncovered claims. Another disagreement is whether an insurer can recover such uncovered defense costs based on an unjust enrichment or restitution theory.

On one side of this issue, the Supreme Court of Pennsylvania rejected an insurer’s unjust enrichment theory as a basis to seek reimbursement of defense costs for uncovered claims. The court stated that it “would be unjust to require [the insured] to reimburse [its insurer] for the cost of defense where [the insurer] invoked its right to defend in part to protect its own interest.” The Supreme Court of Illinois agreed “that when an insurer tenders a defense or pays defense costs pursuant to a reservation of rights, the insurer is protecting itself at least as much as it is protecting its insured.” A federal court in New York also noted “[i]t is also relevant to the Court’s consideration of equity and good conscience that an insurer receives some benefit from undertaking a defense, even if it believes the claims are excluded.”

On the other side, nearly 30 years ago, the Supreme Court of California in Buss v. Superior Court found an equitable right to reimbursement for uncovered claims. It held that 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.’” An Ohio appeals court also found a right to restitution of defense costs incurred related to uncovered claims.

The Shift Toward Reliance on Policy Provisions

Recently, several state and federal courts have shifted to favoring strict application of policy provisions to guide them on whether an insurer may claim reimbursement for defense costs. For example, late last year, the Supreme Court of Hawaii answered a certified question on this issue. It declared that “an insurer may not recover defense costs for defended claims unless the insurance policy contains an express reimbursement provision.” The court rejected the contention that a reservation of rights letter, which reserved the insurer’s right to recoup defense costs, could provide a right to reimbursement if there was no express reimbursement provision in the underlying policy. It emphasized that “[i]nsurers may reserve contractual rights, [but] not create new ones.”

A prime example of this shift occurred in Georgia, where a federal court in Atlanta concluded that the majority Buss approach was consistent with Georgia law. It found that a “right of reimbursement is justified under either an unjust enrichment or implied in fact contract theory.” Yet, just a few years later, a different federal court in Georgia set the stage for the emerging contrasting opinion. It held that “absent a provision in the insurance policy—or some other express agreement—an insurer who issued an otherwise valid, unilateral reservation of rights cannot recoup its defense fees or costs…. [reasoning that to allow such a unilateral modification of the policy’s terms] would transform the insurer’s shield into a sword.”

The Eleventh Circuit recently confirmed this shift in Continental Casualty Company v. Winder Laboratories. It found that a series of reservation of rights letters (which similarly reserved the right to seek reimbursement of defense costs) failed to include new consideration. Therefore, the letters could not be considered a new contract establishing a contractual right to reimbursement. The court reasoned that “the insurers did not have the explicit right to choose counsel for the insureds under the original contract, [thus,] the insurers did not give anything up to reach the new arrangement wherein the insureds have the option of selecting their own counsel.”

Thus, what was once considered the majority view has eroded over the years. Indeed, a growing number of courts reject an unjust enrichment theory and instead favor a broad defense duty and traditional tenets of contract law that policies be strictly construed against the drafter. A federal court in Arizona noted “[t]hose courts have concluded that the Buss approach suffers from fundamental flaws regarding the duty to defend as well as basic contract law.” Consequently, what was once the minority view established by the Third Circuit that “a declaration that there was no duty to defend will not entitle [an insurer] to recover any costs it has expended” has found growing support to challenge what was once the majority rule.

This trend away from the majority approach cannot be explained by an emphasis on contract law alone, as such rules of insurance contract construction have remained unchanged for years. Instead, some courts have taken action to prevent a situation one might perceive as allowing insurers to “have their cake and eat it too.”

The Supreme Court of Washington, among others, expressed a similar sentiment. It rejected the “view that an insurer can have the best of both options: protection from claims of bad faith or breach without any responsibility for the costs of defense if a court later determines there is no duty to defend.” The Washington Supreme Court continued by stating: “This ‘all reward, no risk’ proposition renders the defense portion of a reservation of rights defense illusory… [as the] insured receives no greater benefit than if its insurer had refused to defend outright.” A federal court in Massachusetts agreed that “while the question whether a claim is covered may be difficult, it is the insurer’s duty to make the decision.”

Nevertheless, some courts have maintained the Buss majority view despite this opposing trend. For example, the Nevada Supreme Court recently held “that when a court finally determines that the insurer had no contractual duty to defend, the insurer may ordinarily recover in restitution if it has clearly reserved its right to do so in writing.” Yet, the Nevada Supreme Court conceded that while its holding “accords with the approach in California, which has historically been the majority approach,” other courts have drifted toward the minority view by refusing to find a right to reimbursement unless included in the underlying policy.

Even courts where insureds have often prevailed adhere to the clear language of the policy. If the policy contains express defense cost reimbursement language, then the right to reimbursement is clearly established. For example, a federal court in Washington found “no basis for invalidating the endorsement on public policy grounds and [concluded] that [the insurer] is entitled to recoup the defense costs it paid in the Underlying Lawsuit.”

Despite these vacillations between majority and minority views, a growing trend against insurers’ ability to seek reimbursement of defense costs for uncovered claims is evident. Insurers can only benefit from including express policy language that confers a right to reimbursement of uncovered defense costs. This language removes any doubt whether reimbursement of defense costs is owed. Overall, clear policy language will always be the best indication of an insurer’s reimbursement right and should be included whenever necessary.

When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email

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