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In Amerisure Mut. Ins. Co. v. Arch Specialty Ins Co., No. 14-20239 (5th Cir. April 21, 2015), a case that applied Texas law, the U.S. Court of Appeals for the Fifth Circuit recently held that the word “expenses,” as used in a liability policy, unambiguously applies to attorneys’ fees—and that an endorsement dealing with “expenses” had “transform[ed] the policy in an ‘eroding limits’ policy.” Among other things, the case shows that Texans and New Yorkers don’t use words in the same way.
Eroding Limits Policies
Some liability insurance policies are “eroding limits” policies, under which (i) an insurer’s payments to defense counsel count against policy limits, and (ii) the insurer’s duty to defend terminates when those limits have been paid. An eroding limits policy contrasts with a traditional liability policy, which requires the insurer to indemnify the insured up to the policy limits, and, additionally, to pay defense costs.
Some policies also contain terms providing that “expenses” paid by the insurer will count against policy limits. What has been the subject of some debate is whether “expenses” includes attorney’s fees.
The Endeavor Challenge
Arch Specialty Insurance issued an Owner Controlled Insurance Program (OCIP) policy to the developer of a real estate project called the Endeavor Highrise. The policy insured the developer, its contractors and subcontractors against claims for bodily injury and property damage arising out of construction of the building. Admiral Glass & Mirror Co. was a glass and glazing subcontractor on the project. Admiral was insured under a Texas Commercial Package Policy issued by Amerisure Mutual, which provided coverage in excess of any controlled insurance program.
The OCIP policy imposed a limit on the insurer’s responsibilities:
Our … duty to defend end[s] when we have used up the applicable limit of insurance in the payment of judgment and settlements … .
It also contained a “Supplementary Payments Provision,” under which Arch agreed to make payments on claims that included “[a]ll expenses we incur.” The word “expenses” was not defined.
The Supplementary Payments Provision also provided: “These payments will not reduce the limits of insurance.” However, Endorsement 16 of the policy deleted that sentence and replaced it with this one: “These payments will reduce the limits of insurance.” It further added a term that stated:
All Limits of Insurance are reduced by the payment of those amounts set forth within [the] ‘Supplementary Payments’ [Provision] … .
Arch made several payments under the OCIP, including more than $1.5 million for a wrongful death suit and more than $120,000 for a “toilet leak claim.” In June 2010, Endeavor sued Admiral for faulty work, and Admiral’s excess insurer—Amerisure—tendered the suit to Arch. Arch accepted the defense, but it later withdrew on the ground that prior settlements, together with the attorneys’ fees incurred in the settled cases, had eroded the policy.
What’s It All Mean?
Amerisure took over the defense and incurred attorneys’ fees and costs before settling. It then sued Arch for breach of contract in Texas. Arch removed the case to federal court.
Amerisure argued that the word “expenses,” as used in the Supplementary Payments Provision, did not include attorneys’ fees—and, consequently, that Arch’s payments of attorneys’ fees in earlier cases did not reduce the policy limits. The district court did not agree. The court did find, however, that Arch’s duty to defend was subject to a limit on the “payment of judgment and settlements” only—and so that it was not eroded by the payment of attorneys’ fees.
The Fifth Circuit saw things differently. Because “expenses” was undefined, the court gave the term its “ordinary meaning” and found
it has long been the law in Texas that the term ‘expense’ encompasses attorneys’ fees in a wide variety of contexts.
The court disagreed, however, with the trial court’s ruling that only “payment[s] of judgment and settlements” eroded the limit applicable to the duty to defend. That ruling, the court found, ran afoul of “the rule of contract construction that specific endorsements govern over general language.” In this case, the endorsement provides that “[a]ll Limits … are reduced by payments” that include the “expenses” covered by the Supplementary Payments Provision. Thus:
Applying that rule …, we conclude that the endorsement transforms the policy into an ‘eroding limits’ policy. The district court determined that the proper construction of these clauses is to create two policy limits: one for the indemnity obligation, which is satisfied by payment of settlements, judgments,and ‘supplementary payments’ including defense costs, and one for the defense obligation, which is satisfied only by payment of settlements and judgments. This construction reads the endorsement out of the policy … .
How’s That Again?
While the Fifth Circuit’s decision in Amerisure arguably provides clarity on the interpretation of the term “expenses” in eroding policies, it is in conflict with a recent intermediate appellate decision from New York, In re E. 51st St. Crane Collapse Litig., 103 A.D.3d 401 (2013). In that case, the court interpreted an eroding policy similar to the one at issue in Amerisure, but it determined that the term “expenses” (which the policy did not define) was ambiguous, and it therefore construed it against the insurer—as not including defense costs.
These two cases suggest that the debate regarding the correct interpretation of the word “expenses” will be ongoing, at least when a policy does not explicitly define the meaning of the term.