It is well-settled law that attorneys can only be responsible—and potentially liable—to their clients for errors or issues arising out of a representation. This simple premise is invaluable for risk-avoidance issues, in that attorneys typically only ever have to defend a claim for malpractice or breach of fiduciary duty by a client.

Some question whether that rule changes in situations where someone other than the client is paying the attorney's fee. For the most part, an attorney has no legal obligations to an entity or person who is simply paying the bills. For example, a parent who hires an attorney for a child may not enjoy an attorney-client relationship directly with that attorney, even if the parent is paying all the costs.

Another area involving a third-party payer in which the rules can be complicated is where an insurance company is involved. If a defendant to a third-party claim has insurance that might provide coverage for the defense of that claim, the insurance company may be obligated to provide a defense, typically through hiring and paying defense counsel.

But is the insurance company a "client" of the defense counsel firm?

The answer is: it depends. In some situations, such as where the insurance company and the insured agree on the bounds of coverage, the insurer, insured and counsel may enjoy a 'tripartite' relationship. In such a relationship, in several states, the attorney or law practice may have duties to both the insurer and insured (although the primary duty is usually to the insured).

What happens, then, if there is a conflict between the insured and the insurer providing a defense? Such a conflict typically arises if the insured and insurer disagree about the scope of coverage for the defense. In that situation, the insured may be entitled to "independent counsel" (called Cumis counsel in some jurisdictions, after San Diego Federal Credit Union v. Cumis Ins. Society Inc., 162 Cal. App. 3d 358 (1984)). The insurer generally has a responsibility to pay for independent counsel to represent the insured. In those situations, the insurer pays the fees for the defense, and the independent counsel can only withhold information from the insurer to the extent that the information bears on coverage. Information related to key issues regarding the defense, such as issues that relate to settlement or trial strategy, must be shared with the insurer.

This is because, once a conflict arises, courts and legislatures have concluded that independent counsel cannot serve two masters on the issue related to the conflict. If the attorney provides information to the insurance company that affects the availability of coverage, it may harm the insured. Thus, independent counsel generally are considered to be truly independent in that they are paid by the insurer, owe duties of disclosure to the insurer, and enjoy a traditional attorney-client relationship with the insured.

California Supreme Court Rules

Although this relationship is well-defined, it often begs the question of what other obligations the independent counsel owes to the insurer. Can the insurer sue independent counsel for issues arising out of the representation?

On Aug. 10, 2015, the Supreme Court of California addressed this in its decision in Hartford Casualty Insurance Co. v. JR Marketing. In that case, the insurer and insured disputed whether there was coverage for a third-party claim. Then, under the California obligation to provide defense counsel for a claim that could even potentially be covered, the insurer provided independent counsel.

In the time since the representation, the insurer alleged that independent counsel padded their bills to the insurer, charging fees that were excessive, unreasonable or even fraudulent. The insurer sought to bring a direct action against the law firm independent counsel, who argued that any rights the insurer had ran solely against its insured. That is, if the insurer overpaid for independent counsel, it should bring that claim against a party with whom it had a direct relationship: the insured. Under independent counsel's theory, the insured could then have a right of indemnity from the independent counsel.

The California Supreme Court rejected that argument and found that the insurer could directly sue and recover from the independent counsel for any irregularities in the billing. The court focused on the following:

"If [independent] counsel, operating under a court order that expressly provided that the insurer would be able to recover payments of excessive fees, sought and received from the insurer payment for time and costs that were fraudulent, or were otherwise manifestly and objectively useless and wasteful when incurred, [independent] counsel have been unjustly enriched at the insurer's expense."

Although the independent counsel may not have a traditional attorney-client relationship with the insurer, it does have certain obligations tied to reasonable billing that could give rise to a direct claim by the insurer against the independent counsel under a theory of restitution and unjust enrichment. In addition, in that case, there was a court order prepared by independent counsel and providing that the insurer would be able to recover any fees that were excessive.

Attorneys and law practices who serve as independent counsel can learn some valuable lessons from this decision.

The Insurer Is Not a Blank Check

Independent counsel would do well to be conscientious and accurate in its billing to insurers for work performed for an insured. Just because an insurer has agreed to provide a defense does not mean that the defense costs can be unreasonable or that the independent counsel does not have to comply with budgeting or other requests. In the wake of this decision, it is likely that insurers will review bills more carefully to ensure that they are not being charged for "useless and wasteful" expenses.

Even before this decision, many insurers have required independent counsel to comply with litigation billing guidelines. Courts routinely uphold the use of litigation billing guidelines, even with independent counsel, as a way to ensure reasonable and efficient billing. If questions arise about the litigation guidelines, ask. Compliance with the guidelines is the best way to ensure that bills are reasonable and that bills get paid.

Duties to Insurer and Insured

The independent counsel's primary duties—including the duty of loyalty, duty of candor, and duty of confidentiality—are to the insured, particularly in situations where a coverage dispute arises (which is the circumstance that gives rise to the use of independent counsel). However, that does not mean that independent counsel can completely cut off the insurer.

Many jurisdictions require that the independent counsel disclose information to the insurer to allow it to make reasonable and informed assessments regarding the case, including potential exposure and likelihood of success. Although the independent counsel should take care to protect information that bears on the issue of coverage in most jurisdictions, it cannot wall the insurer off from information simply because there is a coverage dispute.

In light of the California Supreme Court decision, attorneys handling matters involving insurance company retention and payment should be aware that now there is an additional group of potential plaintiffs for a claim arising out of a legal representation. However, there are tools to defend against or prevent such a claim, largely within the independent counsel's control.

As published by American Lawyer Media