The Connecticut Supreme Court rejected an exception to the American rule governing the award of litigation costs and reversed an award of attorney’s fees to a prevailing policyholder in a coverage dispute on the ground that there was no finding that the carrier engaged in bad faith conduct. ACMAT Corp. v. Greater New York Mut. Ins. Co., SC 17740, (Conn. May 29, 2007).

In ACMAT, the Connecticut Supreme Court reversed the appellate court’s affirmation of the trial court’s decision to adopt an exception to the American rule and to award litigation costs to a prevailing policyholder. The general American rule governing litigation costs is that each side bears its own costs, including attorney’s fees, for litigating a case except under special circumstances, such as a contract provision or statute. A few states, either by statute or under common law, permit an award of costs to a prevailing policyholder even where the carrier has not acted in bad faith. Under the ACMAT decision, Connecticut is not one of those jurisdictions and a policyholder is required to demonstrate the carrier acted in bad faith in order for the policyholder to recover its litigation costs in a coverage dispute.

Factual and Procedural Background

Acoustical Materials Corporation and its successor, ACMAT Corporation, sold and installed acoustical ceiling tiles in commercial buildings. ACMAT has been repeatedly sued by individuals claiming asbestos-related injuries due to their exposure to asbestos-laden acoustical ceiling tiles. In this lost policy coverage case, ACMAT filed a declaratory judgment action based on a certificate of insurance. ACMAT contended that the certificate meant Greater New York insured ACMAT’s predecessor, Acoustical Materials, under a products liability and comprehensive general liability policy for the relevant time periods. The trial court agreed with ACMAT and declared, as a matter of law, that Greater New York issued a products and general liability policy to Acoustical Materials. Greater New York appealed this ruling, but the appellate court affirmed the existence of the policy.

During the pendency of the lost policy appeal, the policyholder also moved for its attorney’s fees under Connecticut law, inviting the court to adopt an exception to the general American rule recognized in certain jurisdictions other than Connecticut. The policyholder argued that the court should adopt this growing exception to the general American rule because of the “special relationship between insured and insurer arising from the uniquely unequal bargaining positions of the parties.” The trial court agreed and awarded the policyholder its attorney’s fees, reasoning that the policyholder’s litigation costs in “prosecuting the declaratory judgment action amounted to damages caused by [Greater New York’s] breach of its duty under the policy to defend [ACMAT].” The trial court did not, however, make a specific finding of bad faith. Greater New York also appealed this decision, arguing that the trial court’s award violated the well-established American rule and that there was no finding by the trial court that any of the exceptions recognized by Connecticut courts were present.

Holding

The Supreme Court started from the premise that Connecticut follows the general American rule concerning litigation costs. It then noted that Connecticut recognizes some exceptions: (1) a specific clause in a contract may permit the award of litigation costs to the prevailing party; (2) a statute may specifically provide for costs to the prevailing party; and (3) bad faith on the part of one of the parties to the contract may be grounds for an award of fees. The Supreme Court then surveyed other jurisdictions, finding that the decisions essentially fall into three camps. First, the Supreme Court stated that seven states (Alabama, California, Kentucky, Louisiana, Michigan, New Mexico, and Tennessee) strictly adhere to the American rule with no common law exceptions. Second, seven other states (Arkansas, Kansas, Maryland, Montana, South Carolina, Washington, and West Virginia) awarded attorney’s fees to a prevailing policyholder even without a finding of bad faith. The Supreme Court explained that the rationale for this exception was that a policyholder that litigates to establish coverage under a policy, has effectively paid money in addition to the contract premium to achieve the benefit of its initial bargain.

Therefore, courts in this camp rule the policyholder is entitled to a reimbursement of those litigation costs. (The Supreme Court also noted variations on this exception under New York and Minnesota law.) Third, nine other states (Indiana, Iowa, Maine, Mississippi, North Carolina, Pennsylvania, Utah, Vermont and Wisconsin) permit a prevailing policyholder to recover its costs, but only where there is bad faith conduct by the carrier.

In ACMAT, the Connecticut Supreme Court held that “a trial court may award attorney’s fees to a policyholder that has prevailed in a declaratory judgment action against its insurance company only if the policyholder can prove that the insurer has engaged in bad faith conduct prior to or in the course of litigation.” The court reasoned that this holding “reflects an appropriate accommodation between the policy underlying the American rule of permitting parties, including insurance companies, to litigate claims in good faith, but still provides protection to those policyholders that might confront ‘stubbornly litigious’ insurance companies that take specious positions in order to attempt to avoid paying legitimate claims.”

Implications

The ACMAT decision from the Connecticut Supreme Court confirms that an insurance company that denies coverage in good faith should not be liable for the policyholder’s costs, including attorney’s fees, even if the policyholder prevails in the coverage litigation. The ACMAT ruling makes it clear that in Connecticut, absent special circumstances, the policyholder must prove that the carrier engaged in bad faith conduct in order to recover its litigation costs. That said, however, the ACMAT opinion suggests that should the Connecticut legislature disagree with its common law ruling, a statute could provide for a prevailing policyholder to recover its litigation costs without demonstrating bad faith conduct. Therefore, insurance companies doing business in Connecticut may wish to monitor the Connecticut legislature to see if such legislation is proposed.