On June 29, 2015, in responding to a certified question from the U.S. District Court for the District of Hawaii, the Hawaii Supreme Court held in St. Paul Fire & Marine Ins. Co. v. Liberty Mutual Ins. Co., SCCQ-14-0000727, that an excess liability insurer can bring a cause of action, under the doctrine of equitable subrogation, against a primary liability insurer who in bad faith fails to settle a claim within the limits of the primary policy, when the primary insurer has paid its policy limit toward settlement.
The underlying lawsuit, which was defended by the primary insurer, involved an accidental death case against the insured. The lawsuit between the insurers was filed after the excess insurer settled a judgment in excess of the primary insurer’s limits and the primary insurer refused to reimburse the excess insurer. The excess insurer claimed that the primary insurer, in bad faith, rejected multiple pretrial settlement offers within the primary insurer’s $1 million limit, causing the necessity of a trial in which a $4.1 million judgment was entered against the insured. The excess insurer paid the amount in excess of the primary policy and sought reimbursement from the primary insurer under the doctrine of equitable subrogation. The primary insurer asserted that the excess insurer lacked standing to bring a claim for equitable subrogation.
The Hawaii Supreme Court, providing three separate reasons, held that the excess insurer could bring a cause of action for equitable subrogation. First, the court reasoned that Hawaii courts broadly apply the doctrine of equitable subrogation. The court held that, in Hawaii, the doctrine of equitable subrogation is “broad enough to include every instance in which one party pays a debt for which another is primarily answerable, and which, in equity and good conscience, should have been discharged by the latter.” The court rejected the primary insurer’s argument that the excess insurer had not paid a debt for which another was responsible, and that the primary insurer was only required to discharge its own obligations under its insurance contract. Instead, the court held that the primary insurer had an obligation to the insured to pursue settlement based in its duty of good faith and fair dealing, a breach of which included an insurer’s unreasonable refusal to settle a claim on behalf of the insured and that the excess insurer “stood in the shoes” of the insured. It therefore can bring a claim for unreasonable refusal to settle a claim which the insured could have brought. The court further held that equitable subrogation does not require the insured to suffer an actual loss, only that the insured would have suffered loss had the excess insurer not discharged the liability or paid the loss.
The court’s rationale included that if it prohibited an equitable subrogation claim, a primary insurer would be able to “gamble” with the excess insurer’s money. This is because, when faced with a policy limits settlement, if a primary insurer thinks it can do better at trial, it will be incentivized to reject the settlement, knowing that its ultimate exposure would be no more than its policy limits – a perverse result cured by equitable subrogation.
Second, the court noted that the majority of jurisdictions recognize an excess insurer’s right to pursue equitable subrogation. This right is consistent with an insured’s rights when there is no excess insurance.
Third, the court found that allowing the equitable contribution claim would protect Hawaii’s public interest in ensuring equity in insurance matters and encouraging settlement.
The case now proceeds in the District Court, under the cause of action for equitable subrogation, as to whether the primary insurer breached its duty of good faith and fair dealing by unreasonably failing to settle a claim within its primary limits.