Coverage Action Stay Reversed Because Duty to Defend a Legal Determination

The Illinois Appellate Court for the Fourth District, in an opinion written by Justice Cavanagh, applying Illinois law, found that the lower court abused its discretion in granting a motion for a stay in coverage determination. According to the Appellate Court, determining whether the insurer has a duty to defend did not need to be stayed until the underlying lawsuit was decided because the determination is based on comparing the allegations in the underlying complaint and the policy at issue, not deciding the ultimate facts at issue in the underlying action.

Minerva Sportswear, Inc. (“Minerva”) had an exclusive contract with the Illinois High School Association to advertise and provide merchandise for the state’s high school track finals. Kirby C. Johnson allegedly produced sportswear that infringed on Minerva’s exclusive rights, and Minerva sued Johnson in federal court in February 2019.

Johnson tendered the suit to his insurer, Pekin Insurance Company (“Pekin”), who promptly filed a declaratory judgement action in state circuit court seeking a determination that Pekin had no duty to defend Johnson due to, among other things, policy exclusions that it alleged applied to the allegations made by Minerva against Johnson.

In the coverage dispute, Pekin relied on policy language that excludes coverage for injuries caused by the insured with the knowledge that the action would violate the rights of another and would inflict the alleged injury. Johnson moved to stay the state court’s decision in the coverage dispute, claiming that the facts at issue in the declaratory judgement action were the same facts at issue in the underlying lawsuit, and the court should wait for the determination of the federal court in the underlying suit before making a coverage determination. The circuit court agreed with Johnson and granted Johnson’s motion for the stay.

Pekin appealed, and the Appellate Court overturned the lower court’s holding. According to the Appellate Court, Johnson’s fundamental error was that the declaratory judgement does not ask the court to determine an ultimate fact. Rather, a declaratory judgement action for a determination on the duty to defend requires the court to compare the facts alleged in the underlying lawsuit to the language in the insurance policy (the “eight corners” rule). Thus, the court did not need to decide whether the facts alleged in the underlying lawsuit are true, because the insurer is still obligated to defend the insured even if the allegations are untrue. The only question at issue in ruling on a declaratory judgment regarding an insurers duty to defend is whether the underlying lawsuit is making a claim that is covered under the policy.

In light of this reasoning, the Appellate Court found that the lower court had abused its discretion in granting the stay and remanded the case for a determination on the duty to defend. Pekin Insurance Co. v. KCJ Consulting Inc., 2020 Ill. App. (4th) 190831-U (May 21, 2020).