Why it matters

A recent opinion from the Illinois Appellate Court held that an insurer that failed to defend under a reservation of rights or file a declaratory judgment action was estopped to deny a duty to indemnify based upon an argument that the party seeking coverage did not qualify as an additional insured. The court held that Illinois law mandates that an insurer may not simply refuse to defend an insured, but must either defend the suit under a reservation of rights or seek a declaratory judgment that no coverage exists. The insurer chose neither of these options, the court stated, leaving the insurer estopped from raising policy defenses to coverage.

Detailed Discussion

Certain Underwriters at Lloyd’s, London (Underwriters) issued a commercial general liability policy to Toji Engineering, Ltd. (Toji).

311 Builders, Inc., a general contractor, hired Toji as a subcontractor on a construction project at property owned by 311 Lincolnway Properties, LLC (collectively with 311 Builders, Inc., the “311 Entities”).

Underwriters’ policy named the 311 Entities as additional insureds. Mt. Hawley Insurance Company (Mt. Hawley) issued separate commercial general liability coverage to the 311 Entities.

Following an accident at the site of the construction project, the underlying plaintiff sued the 311 Entities, Toji and others. The 311 Entities tendered the lawsuit to Underwriters for defense and indemnity. Underwriters denied the claim on the basis that the underlying complaint did not trigger additional insured coverage because it did not allege that the 311 Entities were vicariously liable for the acts or omissions of Toji.

Underwriters did not institute a declaratory judgment action. After Toji was dismissed from the underlying case, the 311 Entities asked Underwriters to reconsider its denial of coverage. Underwriters again denied coverage.

Mt. Hawley then paid $325,000 to settle the underlying claims against the 311 Entities and sought to recoup those funds from Underwriters in a declaratory judgment action.

While Underwriters agreed to pay defense costs, they continued to maintain that they had no indemnification obligation. Mt. Hawley argued, and the trial court held, that Underwriters was estopped from relying on its additional insured defense to indemnification as a result of its wrongful refusal to defend the 311 Entities.

The appellate court affirmed the trial court decision, rejecting Underwriters’ argument that its proposed defense should not be considered a “policy defense” and held that the defense was subject to the “well-established estoppel doctrine.”

“[T]he reason Underwriters is estopped from asserting policy defenses to coverage under the Toji policy is that it did not fulfill its duty to defend the 311 entities,” the court wrote. “In light of Underwriters’ wrongful conduct in this case, the doctrine of unclean hands precludes Underwriters from asserting its own equitable argument.”

To read the opinion in Mt. Hawley Insurance Company v. Certain Underwriters at Lloyd’s, London, click here.