In its recent decision in Temple Insurance Company v. Sazwan, the Court of Queen’s Bench of Alberta (Court) considered the scope of, and exceptions to, an insurer’s right and duty to defend. This is the first decision in Alberta to conclude that, in an appropriate case, an insurer may have to surrender its right and duty to defend to its insured, thereby permitting the insured to control his or her own defence and to appoint defence counsel of his or her own choosing, at the insurer’s cost.

BACKGROUND

Clark and Denise Sazwan (Insureds) made a claim on a directors’ and officers’ policy (Policy) in relation to three actions against them by, among others, corporations for which they had previously served as directors and officers (Underlying Actions). The Policy had a limit of C$12-million. In a reservation of rights letter, the insurers of the Policy denied any duty to indemnify the Insureds, except with respect to defence costs incurred in connection with the Underlying Actions. The Insureds disputed the insurers’ interpretation of the Policy. In a second reservation of rights letter, the insurers acknowledged a possible limited duty to indemnify the Insureds for certain damages and for defence costs, but pointed to the nature of the allegations in the Underlying Actions as a possible basis for refusing to indemnify the Insureds under the Policy.

Also in the second reservation of rights letter, the insurers demanded that the Insureds relinquish control of their defence in the Underlying Actions to a law firm of the insurers’ choosing. The Insureds refused to do so and the insurers applied to the Court for a declaration that they had the right to appoint defence counsel and to control the defence. The Insureds cross-applied for a declaration that they had the right to control their defence and appoint defence counsel of their choosing, at the insurers’ cost.

DECISION

The Court acknowledged that the insurers had the right and duty under the Policy to defend the Insureds in the Underlying Actions but noted that where “there is a divergence of interests between the insurer and the insured, the court may in effect rewrite the terms of the policy to permit the insured to assume responsibility for the defence of the action, at the expense of the insurer.”

The Court went on to conclude that because a “reasonable apprehension of conflict” existed between the insurers and the Insureds, the Insureds were permitted to control their defence and to appoint defence counsel of their choosing to defend them in the Underlying Actions, at the expense of the insurers. The Court concluded that a reasonable apprehension of a conflict of interest existed between the insurers and the Insureds for three reasons, namely:

  1. The conduct of the Insureds is squarely at issue in the pleadings in the Underlying Actions, and thus squarely at issue in terms of claims for which they may or may not be entitled to receive indemnity under the Policy
  2. The claims being advanced by the plaintiffs in the Underlying Actions against the Insureds are “grossly in excess of the policy limits” leaving the Insureds “exposed personally to enormous claims”
  3. Based on the evidentiary record before the Court, the relationship between the insurers and the Insureds “is at best extremely strained and at worst, irretrievably broken.” As a result, there is “no reasonable prospect” that the insurers and the Insureds will ever trust each other.

The Court noted that neither the insurers nor the Insured were responsible for the breakdown in the relationship. Rather, the Court simply identified the “reality of the dispute” and concluded that the prospect for further conflict was not in the best interests of the insurers, the Insureds, or the administration of justice.

CONCLUSION

The scope of, and exceptions to, an insurer’s right and duty to defend its insured is an issue of first impression in Alberta. It has been previously considered by courts in Ontario and the Court effectively adopted the Ontario law.

This decision provides a roadmap for insureds who perceive there to be a possible divergence of interest with their insurer to depart from the strict words of a policy of insurance and to choose defence counsel who are independent of the insurer, and thus less likely to “steer” the defence in a manner that might limit the available coverage under a policy of insurance.

Based on this decision, Alberta courts will likely permit insureds to do so when the conduct of the insured is squarely at issue in the underlying litigation, when the value of the claims in the underlying litigation is grossly in excess of the policy limits, and when the relationship between the insured and insurer is strained or broken.

Blakes acted for the Insureds in this matter.