St. Paul Fire and Marine Insurance Company v. Bodell Construction Company

538 P.3d 1049, 153 Haw. 381

• Court: Hawaii Supreme Court
• Decided: November 14, 2023
• Docket: SCCQ-22-0000658
• Status: Published

Opinion

*** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

Electronically Filed Supreme Court SCCQ-XX-XXXXXXX 14-NOV-2023 09:16 AM Dkt. 112 OP

IN THE SUPREME COURT OF THE STATE OF HAWAIʻI

---o0o---

ST. PAUL FIRE AND MARINE INSURANCE COMPANY, THE TRAVELERS INDEMNITY COMPANY OF AMERICA, THE PHOENIX INSURANCE COMPANY, TRAVELERS PROPERTY CASUALTY COMPANY OF AMERICA, Plaintiffs-Appellants,

vs.

BODELL CONSTRUCTION COMPANY, SUNSTONE REALTY PARTNERS X, LLC, STEADFAST INSURANCE COMPANY, Defendants-Appellees.

SCCQ-XX-XXXXXXX

CERTIFIED QUESTIONS FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF HAWAIʻI (CASE NO. 20-cv-00288-DKW-WRP)

NOVEMBER 14, 2023

RECKTENWALD, C.J., McKENNA, AND EDDINS, JJ., CIRCUIT JUDGE TONAKI AND CIRCUIT JUDGE CATALDO, ASSIGNED BY REASON OF VACANCIES

OPINION OF THE COURT BY EDDINS, J. *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

I.

The United States District Court for the District of Hawaiʻi

certified two questions to this court. We accepted those

questions per Hawaiʻi Rules of Appellate Procedure Rule 13.

The federal court’s order frames the issue: “[W]hether the

State of Hawaiʻi authorizes the equitable reimbursement of

defense fees and costs incurred by an insurer in litigating on

behalf of its insured.” The court asks:

(1) Under Hawaiʻi law, may an insurer seek equitable reimbursement from an insured for defense fees and costs when the applicable insurance policy contains no express provision for such reimbursement, but the insurer agrees to defend the insured subject to a reservation of rights, including reimbursement of defense fees and costs?

(2) If an insurer may seek equitable reimbursement of defense fees and costs under Hawaiʻi law, (A) for what specific fees and costs may the insurer obtain reimbursement, (B) which party carries the burden of proof, and (C) what is the burden of proof?

We answer question 1 No.

We do not answer question 2.

We hold that an insurer may not recover defense costs for

defended claims unless the insurance policy contains an express

reimbursement provision. A reservation of rights letter will

not do.

II.

If there’s the possibility of coverage, there’s a duty to

defend. See Dairy Rd. Partners v. Island Ins. Co., Ltd., 92

Hawaiʻi 398, 412, 992 P.2d 93, 107 (2000). The “possibility may

2 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

be remote, but if it exists the [insurer] owes the insured a

defense.” Standard Oil Co. of Cal. v. Hawaiian Ins. & Guaranty

Co., Ltd., 65 Haw. 521, 526, 654 P.2d 1345, 1349 (1982) (cleaned

up).

As long as a complaint alleges one claim that the policy

possibly covers, the duty to defend absorbs all claims. Finley

v. Home Ins. Co., 90 Hawaiʻi 25, 29, 975 P.2d 1145, 1149 (1998).

Some jurisdictions allow insurers to recoup defense costs

for defending uncovered claims. See, e.g., Buss v. Superior

Court, 939 P.2d 766 (Cal. 1997).

Other jurisdictions do not. See, e.g., Am. & Foreign Ins.

Co. v. Jerry’s Sport Ctr., Inc., 2 A.3d 526, 543 (Pa. 2010).

Neither this court, nor Hawaiʻi’s federal district court has

decided the repayment issue. Scottsdale Ins. Co. v. Sullivan

Properties, Inc. came close, predicting this court would find a

right to reimbursement. No. 04-00550 HG-BMK, 2007 WL 2247795,

at *3 (D. Haw. Aug. 2, 2007). Other cases from our federal

district court have dampened that forecast. See Exec. Risk

Indem., Inc. v. Pac. Educ. Servs., Inc., 451 F. Supp. 2d 1147,

1163 (D. Haw. 2006); Choy v. Cont’l Cas. Co., No. 15-00281

SOM/KSC, 2015 WL 7588233, at *10 (D. Haw. Nov. 25, 2015); GGA,

Inc. v. Kiewit Infrastructure W. Co., 611 F. Supp. 3d 1000, 1031

(D. Haw. 2020).

3 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

We reject a putative right to reimbursement for defense

fees and costs. Hawaiʻi’s stout duty to defend clashes with

repayment. So we side with policyholders and hold that insurers

do not have a right to reimbursement of defense costs.

Three main reasons shape our decision. First, the initial

contract governs. See Dairy Rd. Partners, 92 Hawaiʻi at 411–12,

992 P.2d at 106-07. Second, reimbursement erodes the duty to

defend. See First Ins. Co. of Haw., Inc. v. State, by Minami,

66 Haw. 413, 416, 665 P.2d 648, 651 (1983). Third, the insured

is not unjustly enriched. See Small v. Badenhop, 67 Haw. 626,

635-36, 701 P.2d 647, 654 (1985).

A.

The initial contract governs.

Mutual understanding and consent animate a contract’s

terms. See Moss v. Am. Int’l Adjustment Co., Inc., 86 Hawaiʻi

59, 63, 947 P.2d 371, 375 (1997). An insurance policy is a

contract. “[I]nsurance policies are subject to the general

rules of contract construction.” Dairy Rd. Partners, 92 Hawaiʻi

at 411, 992 P.2d at 106 (cleaned up).

When a court interprets an insurance policy it reads the

contract to the policyholder’s advantage. A while ago this

court – talking about insurance policies - said it had “long

subscribed to the principle that they must be construed

liberally in favor of the insured and any ambiguities must be

4 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

resolved against the insurer.” Tri-S Corp. v. W. World Ins.

Co., 110 Hawaiʻi 473, 489, 135 P.3d 82, 98 (2006).

The possibility of coverage typically depends on the

policy’s language. The contract’s words. Or its missing words.

See Hawaiian Holiday Macadamia Nut Co., Inc. v. Indus. Indem.

Co., 76 Hawaiʻi 166, 169, 872 P.2d 230, 233 (1994) (“Because the

insurer’s duty to defend its insured is contractual in nature,

we must look to the language of the policy involved to determine

the scope of that duty.”).

Here, the federal district court - in a declaratory

judgment action - found a duty to defend. Like most standard

insurance policies, the words called for defense. And no words

called for pay back.

A reservation of rights letter reinforces defenses and

exclusions placed in the contract. “[A]ffording an insured a

defense under a reservation of rights agreement merely retains

any defenses the insurer has under its policy.” First Ins., 66

Haw. at 422, 665 P.2d at 654.

Insurers may reserve contractual rights, not create new

ones. “[P]ermitting reimbursement by reservation of rights,

absent an insurance policy provision authorizing the right in

the first place, is tantamount to allowing the insurer to

extract a unilateral amendment to the insurance contract.”

Jerry’s Sport, 2 A.3d at 544. A reservation of rights letter

5 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

does not alter policy coverage or remake a contract. It “does

not relieve the insurer of the costs incurred in defending its

insured where the insurer was obligated, in the first instance,

to provide such a defense.” First Ins., 66 Haw. at 422, 665

P.2d at 654.

Hawaiʻi statutory law favors the policyholder and supports

the primacy of the contract. Hawaiʻi Revised Statutes (HRS)

§ 431:10-220(a) reads: “No agreement in conflict with,

modifying, or extending any contract of insurance shall be valid

unless in writing and made a part of the policy.” And HRS

§ 431:10-220(b) instructs: “No insurer or its representatives

shall make any insurance contract or agreement relative thereto

that is not plainly expressed in the policy.”

Most policies call for a duty to defend. If an insurance

contract has no express right to reimbursement, there’s no

reimbursement.

B.

Reimbursement erodes the duty to defend.

The duty to defend and the duty to indemnify differ.

“[T]he obligation of an insurer to defend its insured is

separate and distinct from an insurer’s obligation to pay a

judgment entered against its insured.” First Ins., 66 Haw. at

416, 665 P.2d at 651.

6 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

The duty to defend is broader than the duty to indemnify.

Hawaiian Holiday, 76 Hawaiʻi at 169, 872 P.2d at 233. An insurer

only indemnifies covered claims. Tri-S Corp., 110 Hawaiʻi at

488, 135 P.3d at 97. But an insurer must defend when there is

possible coverage, even “groundless, false, or fraudulent”

claims. First Ins., 66 Haw. at 417, 665 P.2d at 652. And the

insurer has to defend mixed actions: some claims covered, others

not. Finley, 90 Hawaiʻi at 29, 975 P.2d at 1149. “[T]he insurer

is obligated to provide a defense against the allegations of

covered as well as the noncovered claims.” First Ins., 66 Haw.

at 418, 665 P.2d at 652.

Hawaiʻi’s duty to defend is determined up front, at the

start. Not the end. See Nautilus Ins. Co. v. Lexington Ins.

Co., 132 Hawaiʻi 283, 303, 321 P.3d 634, 654 (2014). “Although

an insurer’s duty to indemnify arises only after damages are

fixed, the duty to defend arises as soon as damages are sought.”

Gen. Agents Ins. Co. of Am., Inc. v. Midwest Sporting Goods Co.,

828 N.E.2d 1092, 1103 (Ill. 2005). When a claim may fit a

contract’s confines, “the insurance company’s refusal to defend

at the outset of the controversy is a decision it makes at its

own peril.” Jerry’s Sport, 2 A.3d at 542.

If insurers recover for defending uncovered claims, our law

flips: the duty to defend may be determined after the insurer

tenders a defense. Not only does this sequence narrow the broad

7 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

duty to defend, it dilutes an insurer’s good faith duty to take

on a defense; worse it may bring on bad faith. “[A]llowing an

insurer to exercise an independent right to reimbursement . . .

before it obtains a declaratory judgment would be wholly

inconsistent with and likely constitute a breach of, its duty

under established law to undertake the defense in good faith.”

Burlington Ins. Co. v. Panacorp. Inc., 758 F. Supp. 2d 1121,

1141 (D. Haw. 2010).

Reimbursement for defense costs undercuts the duty to

defend. “It would amount to a retroactive erosion of the broad

duty to defend . . . by making the right and duty to defend

contingent upon a court’s determination that a complaint alleged

covered claims.” Jerry’s Sport, 2 A.3d at 544. Letting the

insurer recoup costs “would effectively require that insurers

only defend to the same extent that they must ultimately

indemnify.” Gen. Star Indem. Co. v. Driven Sports, Inc., 80 F.

Supp. 3d 442, 463 (E.D.N.Y. 2015). As far as an insured, rather

than protection for all possible claims, they are only protected

from repaying costs for claims eventually deemed covered.

Insurers though are not out of luck. As part of doing

business, insurers assess claims for potential coverage. If

insurers are unsure, they can go to court. Jerry’s Sport, 2

A.3d at 542.

8 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

C.

Last, the insurers say that when they defend uncovered

claims, policyholders are unjustly enriched. We disagree.

Defense is part of the deal.

By nature, contracts benefit both sides. Though it owes a

duty to defend, the insurer benefits. It retains the premiums.

It directs litigation. It runs the case, decision-making-wise.

Why? Money. Since the insurer faces indemnity exposure,

it deserves what it bargained for – near total control over a

case. “Normally, an insurer’s duty to defend is coupled with

the right to control the defense of the litigation. . . .

Giving the insurer exclusive control over litigation against the

insured safeguards the orderly and proper disbursement of the

large sums of money involved in the insurance business.”

Finley, 90 Hawaiʻi at 34 n.11, 975 P.2d at 1154 n.11.

An insurance company that tenders a defense protects

itself, at least as much as it protects its insured. See

General Agents, 828 N.E.2d at 1103. No scrubs, say the

insurers. An insurer has the right to defend its own way to

avoid the risks of “an inept or lackadaisical defense of the

underlying action.” Terra Nova Ins. Co., Ltd. v. 900 Bar, Inc.,

887 F.2d 1213, 1219 (3d Cir. 1989).

If we allowed reimbursement, the unjustly enriched party

may very well be the insurer. When the insured pays back

9 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

defense costs to the insurer, it pays for the insurer to protect

itself. Id. If a court later determines that there is no duty

to defend, then reimbursement protects the insurer from bad

faith or breach of contract actions - without any responsibility

for defense costs. See Nat’l Sur. Corp. v. Immunex Corp., 297

P.3d 688, 694 (Wash. 2013). An “all reward, no risk”

proposition creates a win-win situation for the insurer:

buffered from bad faith, it defends all claims, yet has no

obligation to pay for the whole defense. Meanwhile, the insured

“receives no greater benefit than if its insurer had refused to

defend outright.” Id.

What does the policyholder get for ceding control?

Defense. The insured receives a benefit. But it’s not unjust.

Both sides benefit.

The insurance companies argue that the sky will fall and a

world without a right to reimbursement is “rife with temptation

to deny . . . costly and questionable claims.” But insurers are

seasoned, skilled, and well positioned to evaluate whether they

need to defend. And bad faith or breach actions motivate them

to honor contractual obligations. See Best Place, Inc. v. Penn

Am. Ins. Co., 82 Hawaiʻi 120, 131-32, 920 P.2d 334, 345-46

(1996).

10 *** FOR PUBLICATION IN WEST’S HAWAI‘I REPORTS AND PACIFIC REPORTER ***

III.

An insurer may not seek reimbursement from an insured for

defending claims when an insurance policy contains no express

provision for reimbursement.

We answer No to question 1. We do not answer question 2.

Raymond E. Brown /s/ Mark E. Recktenwald (Matt A. Tsukazaki, Tyler A. /s/ Sabrina S. McKenna Tsukazaki, Lindsee B. Falcone on the briefs) /s/ Todd W. Eddins for appellants /s/ John M. Tonaki Tred R. Eyerly /s/ Lisa W. Cataldo (Casey T. Miyashiro, Jonathan N. Marchuk on the briefs) for appellee Bodell Construction Company

Cid H. Inouye (Kelvin H. Kaneshiro, Katherine B. Hughes on the briefs) for appellee Sunstone Realty Partners X, LLC

Alan Van Etten and Tristan S.D. Andres for Amicus Curiae United Policyholders