Actual Conflict Required for Independent Counsel

Reservation of Rights Does Not Always Require Independent Counsel

Third party liability policies authorize insurers to control the defense of a suit against the insured and appoint counsel of the insurer’s choice. As a result of many court decisions if there is a conflict of interest between the insured and the insurer where defense counsel might have the ability to direct evidence so that coverage could be refused – even if doing so was a breach of counsel’s duty to his or her client – the insurer is required to provide independent counsel for the insured.

In DHR International, Inc. v. Travelers, Slip Copy,  United States District Court, N.D. Illinois 2016 WL 561914 (02/12/2016) the United States District Court for the Northern District of Illinois was faced with an suit alleging that the insurer, Travelers, had wrongfully refused independent counsel to DHR.

BACKGROUND

Defendant Travelers Casualty and Surety Company of America issued Plaintiff DHR International, Inc. an insurance policy that included coverage for lawsuits brought against DHR for employment disputes. Three former DHR employees filed complaints against DHR for a number of employment issues.

DHR is an executive search firm. Travelers is an insurance company. DHR was covered by an insurance policy (“Policy”) issued by Travelers. Under the Policy, Travelers has a duty to defend DHR in any claim covered by one or more of the Policy’s Liability Coverages.

DHR filed a lawsuit against Adam Charlson on April 24, 2014 for breach of fiduciary duties to DHR and other claims. Charlson in turn filed a lawsuit on May 28, 2014 for a number of claims including wrongful termination and failure to pay compensation. The two cases were consolidated and removed to the U.S. District Court for the Northern District of California. On June 16, 2014, Angela Torres brought claims in state court against DHR for wrongful termination, retaliation, and owed wages, among other claims, based on Charlson’s termination and her association with him. On January 29, 2015, Kristen Barge filed a Charge of Discrimination against DHR with the California Department of Fair Employment and Housing, which dismissed the Charge and issue a right to sue letter. Barge filed a lawsuit against DHR in the U.S. District Court for the Northern District of California on March 12, 2015, that alleged that she was wrongfully terminated and owed wages.

Travelers agreed to defend and appointed its panel counsel. Travelers’s defense of DHR in the Charlson case was subject to a reservation of rights letter that did not inform DHR about its right to independent counsel.  DHR requested in writing that Travelers appoint independent defense counsel. Travelers denied the requests and appointed its panel counsel to represent DHR in the matter.

Since the filing of the Complaint and Travelers’s motion to dismiss, the two of the lawsuits have resulted in settlement.

DISCUSSION

The settlements made the issue regarding the two suits moot and that part of the suit was dismissed with prejudice.

In Count III, DHR seeks relief for Travelers’s breach of its duty to defend in the Barge case because the reservation of rights letter created a conflict of interest. Specifically, DHR claims Travelers breached its duty to defend under the Policy by failing to appoint independent counsel and advise DHR of its right to independent counsel.

In Illinois, an insurer has a broad duty to defend its insured in any action where the allegations in the complaint are even potentially within the scope of the policy’s coverage while the insured has the right to control and direct the defense. In Barge, the plaintiff filed a nine-count complaint against DHR for sex discrimination, race discrimination, wrongful termination, breach of her employment agreement, breach of the implied covenant of good faith and fair dealing, failure to pay overtime wages and all wages upon separation, failure to provide wage statements, and unfair competition. Barge also alleges wrongful termination and a failure by DHR to pay owed wages, paid time off and commissions. Accordingly, Travelers reserves its right to disclaim liability from any Loss, other than Defense Expenses, excluded from coverage pursuant to Exclusions B.1. and B.2.

Barge’s complaint does not plausibly contain two mutually exclusive theories of liability such that DHR was entitled to independent counsel under Illinois law. The Illinois Supreme Court recognized that a serious conflict arises in this situation where it found that independent counsel is necessary when the insured can be found to have acted either negligently or intentionally in the underlying lawsuit. Under Travelers’s reservation of rights letter in Barge there was no risk of mutually exclusive theories of liability because DHR could be held liable for the discrimination and wrongful termination claims that Travelers reserved the right to disclaim liability for and also held liable for other claims asserted by Barge for which Travelers did not reserve the right to disclaim liability.

The theories of liability for the covered and uncovered claims were not mutually exclusive. Overall, after considering Barge’s complaint, the Policy, and Travelers’s reservation of rights letter, it is implausible that a conflict of interest existed between appointed counsel and DHR as a result of the reservation of rights letter because Travelers’s interest in negating coverage for certain claims alone is not sufficient to create a conflict of interest. The Court accordingly granted Travelers’s motion to dismiss Count III with prejudice only with respect its claims for breach of duty to defend for failure to appoint independent counsel and advise DHR about its right to independent counsel in Barge.

Travelers’s failure to provide independent counsel in Barge was not a breach of its duty to defend and therefore does not constitute vexatious or unreasonable conduct.

ZALMA OPINION

People being sued want to control their defense for reasons that are not necessarily important to resolving a lawsuit but in maintaining the reputation of the insured defendant. Because courts allow independent counsel when there is a true conflict between the insured and the insurer does not deprive the insurer of the right to control the defense when there is no true conflict.

ZALMA-INS-CONSULT                      © 2016 – Barry Zalma

Barry Zalma, Esq., CFE, practiced law in California for more than 43 years as an insurance coverage and claims handling lawyer.  He now limits his practice to service as an insurance consultant and expert witness specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes.

He founded Zalma Insurance Consultants in 2001 and serves as its only consultant.

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About Barry Zalma

An insurance coverage and claims handling author, consultant and expert witness with more than 48 years of practical and court room experience.
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1 Response to Actual Conflict Required for Independent Counsel

  1. Lisa Smith says:

    Great summary, Barry. It is critical that insureds understand what the purpose of their insurance is!

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