7th Cir. – Insurer Estopped from Asserting Policy Defenses Due to Breach of Duty to Defend

Insurer Failed to Timely File a Declaratory Judgment Action

The Seventh Circuit, applying Illinois law, upheld the district court’s ruling that an insurer which unjustifiably declined to provide a defense when a claim was first asserted, and did not file a timely declaratory judgment action to determine the scope of its coverage, had breached its duty to defend.   Due to the breach of the duty to defend, the insurer was estopped from relying on any policy defenses to coverage.

Chicago Abstract Title Agency LLC (“Chicago Abstract”), a title insurance agency, was sued in state court in three separate cases by a title insurance company and two financial firms.  Title Industry Assurance Company, R.R.G. (“TIAC”) insured Chicago Abstract under an errors and omissions policy for the relevant time period.  Chicago Abstract tendered the lawsuits to TIAC.  The lawsuits contained various allegations including breach of contract, breach of fiduciary duty, negligence, and conversion by misappropriating funds.

According to the Seventh Circuit, TIAC was faced with four choices once it received the tender from Chicago Abstract: (1) defend without a reservation of rights; (2) defend while reserving its rights; (3) seek a declaratory judgment concerning the scope of coverage; or (4) decline to defend (which the court stated is only advisable if the allegations in the complaints clearly fell outside the scope of the insurance policy).  TIAC chose not to defend Chicago Abstract.  In its letter denying coverage, TIAC cited two policy exclusions.  The suits proceeded, and years passed without further communication between TIAC and Chicago Abstract.  Eight years later, in response to a fourth amended complaint against Chicago Abstract, an attorney appointed by TIAC made a belated appearance in the case.  Subsequently, TIAC filed an action in federal court seeking a declaration that coverage was unavailable because of the two policy exclusions detailed in its original denial.  Chicago Abstract had been involuntarily dissolved, but two of the underlying plaintiffs appeared as defendants in the coverage case (referred to herein as the “Claimants”).  One of the Claimants filed a counterclaim in the coverage case seeking a declaration that TIAC breached its duty to defend.  TIAC and the Claimants filed cross-motions for summary judgment.  The district court granted summary judgment in favor of the Claimants.  TIAC appealed.

The Seventh Circuit found that TIAC breached its duty to defend.  Under Illinois law, a duty to defend arises when the allegations of the underlying complaint may potentially come within the coverage of the policy.  In deciding whether an insurer breached its duty, Illinois courts apply the “eight-corners” rule:  the court compares the four corners of the underlying complaint with the four corners of the insurance policy to determine whether facts alleged in the underlying complaint fall within or potentially within coverage.  According to the Seventh Circuit:  “[t]he rule of Illinois law most important here is that if the underlying complaint alleges several theories of recovery, the insurer’s duty to defend arises ‘even if only one such theory is within the potential coverage of the policy.’”  The Seventh Circuit found that the underlying complaints did not demonstrate that the claims fell within the policy exclusions relied on by TIAC: “The presence of a theory excluded from coverage simply does not excuse an insurer from its duty to defend its insured.”

TIAC argued that an exception to the general rule should apply, because any claims that were potentially covered under the policy were not “wholly independent” of excluded claims.  The Seventh Circuit disagreed and found that, based on the underlying complaints, the primary cause of injury was unknown and, therefore, it was impossible to determine whether the potentially covered claims were “wholly independent” of any excluded claims.  Thus, because the complaints alleged potentially covered claims, there was no sufficient basis for TIAC to deny its duty to defend.

The Seventh Circuit found the declaratory action filed by TIAC years after the original denial was not sufficient to excuse its breach of the duty to defend.  Therefore, the Seventh Circuit held that TIAC was estopped from invoking any policy defenses that might have otherwise applied: “In the end, TIAC’s hasty abandonment of its Insured may cost it far more than it would have spent if it had simply honored its duty to defend.”  Title Industry Assurance Co. v. First American Title Insurance Co., No. 15-3310 (7th Cir. Apr.  10, 2017).