Implications to Liability Carriers Where the Insured Files for Bankruptcy
January, 2003
by Steven N. Novosad and
What Happens When The Insured Has A Self-Insured Retention?
Self-insured retention is basically the amount of risk the insured has retained or kept to cover its own liability. It will pay for claims or losses that fall within that specified level. One or more insurance companies will provide specific layers of coverage above the SIR level. The insured can reduce the cost of premiums and control the handling of claims within the SIR. The amount of the SIR can vary greatly. Large corporations may maintain SIRs of up to several million dollars while smaller entities, depending on their business, will have far lower retentions.
Self- insurance is defined as “[a] plan under which a business sets aside money to cover any loss.” Black’s Law Dictionary 807 (7th ed. 1999). Generally, an excess insurer’s obligations arise upon exhaustion of the SIR or the underlying primary insurance. Self-insurance must be exhausted before the liability of the insurer arises. In re Amatex Corp., 107 B.R. 856 (E.D. Penn. 1989). An SIR, as the name implies, involves actually insuring one’s self to a specified level. An SIR, however, is not the same as a deductible. Under an SIR, the tort claimant must look for payment of damages directly from the business up to the level of retention and that level must usually be exhausted before liability insurance is triggered. A deductible is an amount set by the insurance policy that the insured is responsible for but does not prevent the triggering of coverage under the insurance policy.
In Missouri Pacific Railroad Co. v. International Ins. Co., 679 N.E.2d 801 (Ill. App. 1997), the court addressed the question of whether the insured must exhaust the total amount of its SIR for each period of insurance coverage before looking to the excess insurers (excess of the SIR) for coverage. The case involved asbestos-exposure claims which spanned several different coverage years with different SIR amounts. The excess insurers argued that the insured must horizontally exhaust all available underlying primary coverage, including the respective SIRs for each year.
The court stated that “all underlying [primary] coverage must be exhausted before excess coverage may be reached.” Further, the court opined that “horizontal exhaustion,” is required because excess coverage carries a smaller premium than primary coverage due to the lesser risk insured. The risks and amount of risk bargained for is different between primary and excess layers.
Missouri Pacific held that an SIR constitutes primary coverage and must be exhausted before looking to the insurers for coverage. To hold otherwise would allow the insured to avoid the consequences of its decision to become self-insured. The court also held that the SIR constituted “other insurance” for purposes of underlying insurance provisions of the policy. Therefore, the “Retained Limit” provision included the SIR amount. See, Moore v. N. Nayer, 1999 WL 330241 (N.J. Super. A.D.) The “other insurance” provision in the Retained Limit portion of the policy should not be confused with the policy’s “Other Insurance” clause which involves issues of allocation among insurers whose coverage is triggered. The exhaustion of the Retained Limit, on the other hand, is what typically triggers coverage under the insurance policy.
Must There Be Actual Payment Of The SIR By A Debtor / Insured?
The insurer in Home Ins. Co. v. Hooper, 691 N.E.2d 65, (Ill. App. 1998) argued that it had no obligation to indemnify the insured debtor in the underlying lawsuit unless and until actual payment of the SIR was made by the debtor. The language of the insurance policy provided that: “With regard to such insurance as is afforded by this policy, it shall be a condition precedent to the company’s liability under this policy that the Named Insured make actual payment, by way of settlement or judgment of damages, of the amount(s) stated in the declarations and in any endorsements thereto as the Named Insured’s Self-Insured Retention(s).”
In determining whether actual payment of the SIR was a condition precedent, the court considered Section 388 of the Illinois Insurance Code (215 ILCS 5/388 (West 1994) which requires, as a matter of public policy, that all liability policies contain a provision which guarantees that the insolvency or bankruptcy of the insured will not release the insurer from payment of damages from injuries or loss occurring during the term of the policy. Consistent with this public policy, insurance policies generally contain the following language: “...under no circumstances will such bankruptcy, insolvency or inability to pay require us to drop down and replace the Retained Limit or assume any obligation within the Retained Limit area.”
The court opined that the unambiguous language of the self-insured provision requiring “actual payment” would release the insurer from the obligation of payment under the policy due to the insured’s bankruptcy. However, the Home court found that the effect of the language was “directly contrary to the public policy” as evidenced in Section 388 and held that “[i]rrespective of the language contained in the subject policy, section 388 prevents [the insurer] from avoiding making payment of that portion of a judgment in excess of [the SIR].”
Home then held that the insurer was obligated to indemnify the insured for that portion of the judgment or settlement exceeding the $250,000 SIR. The inability of the insured to make “actual payment” of the SIR was irrelevant. The Home court held that the insurer was still not obligated to pay the amount of any judgment that fell below the “underlying limits” contained in the policy. Also, absent a “drop down” provision in the insurance policy, the insurer was not obligated to drop down and provide payments for any claim that fell within the SIR level.
The court in Keck Mahin & Cate, 241 B.R. 583 (1999), concluded that an obligation is satisfied when something of value is given and accepted in full discharge of that obligation. In that instance, including the claims as a general unsecured claim in the debtor’s plan of reorganization to the extent of the SIR constituted satisfaction or “payment” of the SIR condition to insurance coverage. Although the claimant will be a general unsecured creditor, and likely be paid pennies on the dollar, its claim will be considered satisfied. The claimant would only be able to collect against the insurer for the amount of liability above the SIR.
How Does An Insured’s Bankruptcy Affect The Insurer’s Duty To Defend?
An insurer’s duty to defend is determined by a comparison of the allegations contained in the underlying complaint to the policy language. Outboard Marine v. Liberty Mut. Ins., 607 N.E.2d 1204 (Ill.1992). If any of the allegations fall within, or potentially within, coverage under the policy, the insurer will have a duty to defend the insured in the underlying action. Id. The duty to defend is a matter of law for the court to decide and is broader than the duty of an insurer to indemnify.
Applying Pennsylvania law in conjunction with the duty to defend provision contained in the insurer’s policy, the court in Amatex, supra, held that the duty to defend arises when a lawsuit, claim or other action is filed that may submit the insurer to liability. The court found that the filing of a proof of claim in the debtor’s bankruptcy by the claimant was sufficient to constitute a claim and an actual civil judgment was not needed to involve the insurer’s duty to defend.
11 U.S.C. § 101(5) defines “claim” as:
(A) right to payment, whether or not such right is reduced to judgment, liquidated, unliquidated, fixed, contingent, matured, unmatured, disputed, undisputed, legal, equitable, secured, or unsecured: or
(B) right to an equitable remedy for breach of performance if such breach gives rise to a right to payment, whether or not such right to an equitable remedy is reduced to judgment, fixed, contingent, matured, unmatured, disputed, undisputed, secured, or unsecured.
Congress intended to adopt the broadest available definition of the term “claim.” Matter of Udell, 18 F.3d 403 (7th Cir. 1994). A claimant need not have obtained a judgment in order to assert its claim in the bankruptcy proceeding. While a proof of claim may trigger coverage, a duty to defend, under the terms of many general liability policies, is not triggered until there is a “suit” as that term is defined in the policy.
In contrast, one court has held that the excess insurer is not obligated to defend an action brought by a claimant “until the SIR is satisfied.” See, Keck, supra. Under Keck, arguably, an excess insurer may not have a duty to defend until the claim is liquidated and reaches into the excess level of coverage. The debtor would remain obligated to defend itself until the SIR was deemed exhausted. However, a debtor left to defend these claims has little incentive to aggressively defend because of the minimal pecuniary repercussions. A claimant whose claim falls within the SIR is relegated to the position of general unsecured creditor. Therefore, it may be in the insurer’s best interest to participate in the defense of these actions in order to protect its own interests and aggressively defend to try to keep liability within the SIR.
If you are interested in having a presentation targeting the specific needs of your department, please contact Mr. Novosad or Ms. Gummow at (312) 855-1010.
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