Made Whole Doctrine Does Not Apply to a Self-Insured-Retention

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The Made-Whole Doctrine Does Not Apply To First-Dollar Risk in New Jersey

A self-insured retention or deductible is an amount of risk that the insured has agreed to assume in exchange for a lower premium cost for the insurance policy. Where the award from a subrogation action against a third party is insufficient to reimburse both the insured’s self-insured retention and the carrier’s loss in excess of the self-insured retention, to place priority of recovery with the insured would, in effect, convert the policy into one without a self-insured retention. In City of Asbury Park v. Star Insurance Company, A-20 083371, Supreme Court Of New Jersey (June 29, 2020) the United States Court of Appeals for the Third Circuit asked the Supreme Court of New Jersey whether,  the made-whole doctrine applies to first-dollar risk that is allocated to an insured under an insurance policy, i.e., a self-insured retention or deductible.

FACTS

From February 2010 to February 2011, the City of Asbury Park (the City) had an insurance policy with Star Insurance Company (Star) that provided coverage for workers’ compensation claims against the City. The policy included a “self-insured limit retention for workers’ compensation” losses against the City in the amount of $400,000 per occurrence. In turn, Star agreed to indemnify the City for its workers’ compensation losses that exceeded the self-insured retention.

In January 2011, John Fazio, an employee of the Asbury Park Fire Department, suffered injuries while fighting a fire. He filed a workers’ compensation claim against the City, which in turn paid him $400,000, the full amount of its self-insured retention limit; Star paid $2,607,227.50, the amount exceeding the self-insured retention limit.

Fazio later filed suit against a third party for the injuries he suffered in the 2011 fire. Fazio and the third party reached a settlement agreement for $2,700,000. Subsequently, Fazio, the City, and Star agreed that $935,968.25 of the settlement proceeds would be set aside to partially reimburse the City and Star.

Star issued a demand to recover the entire $935,968.25, contending that it was entitled to be reimbursed in full before the City could recover amounts paid on the self-insured retention. The City asserted that under the made-whole doctrine, it was entitled to be reimbursed in full before Star could assert its subrogation right. Star responded that the made-whole doctrine does not apply to self-insured retentions to avoid unjustly enrich the City.

The City filed a declaratory judgment action against Star.

ANSWER TO THE THIRD CIRCUIT

The Court answered the certified question in the negative. Under equitable principles of New Jersey law, the made-whole doctrine does not apply to first-dollar risk, such as a self-insured retention or deductible, that is allocated to an insured under an insurance policy.

In the insurance context, subrogation is a doctrine allowing the insurer to seek recovery from the party at fault, exercised after the insurer has indemnified its insured under the terms of an insurance policy. Subrogation rights are created in one of three ways: (1) an agreement between the insurer and the insured, (2) a right created by statute, or (3) a judicial device of equity to compel the ultimate discharge of an obligation by the one who in good conscience ought to pay it.

The Made Whole Doctrine

Under the make-whole doctrine, an insurer cannot assert a subrogation right until the insured has been fully compensated for his or her injuries.

A self-insured retention or deductible is an amount of risk that the insured has agreed to assume in exchange for a lower premium cost for the insurance policy. Where the award from a subrogation action against a third party is insufficient to reimburse both the insured’s self-insured retention and the carrier’s loss in excess of the self-insured retention, to place priority of recovery with the insured would, in effect, convert the policy into one without a self-insured retention. Such interference with the contract would essentially write a better policy for the insured than the one purchased.

In the insurance context, subrogation is a doctrine allowing the insurer to seek recovery from the party at fault, exercised after the insurer has indemnified its insured under the terms of an insurance policy. The doctrine is based on the principle that a benefit has been conferred upon the insured at the expense of the insurer and vests in the latter any rights the former may have had against a third party who is liable for the damages. In subrogation cases, the insured’s right to recovery against a third party tortfeasor vests in the insurer, and the insurer steps into the shoes of the insured, and files suit against the tortfeasor subject to any defenses which would defeat recovery by the insured.

When an insurance carrier which has satisfied a loss it was paid to cover, seeks to recoup by asserting a claim its insured has against another with respect to that loss, the final question must be whether justice would be furthered by that course. While the made-whole doctrine generally applies in New Jersey, its courts have never addressed the question of whether the doctrine applies to first-dollar risk, such as deductibles and self-insured retentions, borne by insureds.

Considering the equitable principles that guide the doctrine of subrogation alongside insurance policies that allocate first-dollar risk to the insured, the Supreme Court found  that the made-whole doctrine does not apply to first-dollar risk allocated to the insured. A self-insured retention or deductible is an amount of risk that the insured has agreed to assume in exchange for a lower premium cost for the insurance policy. Where the award from a subrogation action against a third party is insufficient to reimburse both the insured’s self-insured retention and the carrier’s loss in excess of the self-insured retention, to place priority of recovery with the insured would, in effect, convert the policy into one without a self-insured retention. Such interference with the contract would essentially write a better policy for the insured than the one purchased.

Read together, if the Policy unambiguously provides Star with all of the City’s rights to recovery against third-party tortfeasors in the event that Star makes a payment under the Policy, that conclusion means that the made-whole doctrine would not apply.

Under equitable principles of New Jersey law, the made-whole doctrine does not apply to first-dollar risk, such as a self-insured retention or deductible, that is allocated to an insured under an insurance policy.

ZALMA OPINION

When a person or entity buys a policy with a self-insured retention he or it agrees to accept full responsibility – as if uninsured – for all losses up to the self-insured retention. A deal made with an insurer to only pay for losses over the amount of the self-insured retention coupled with an agreement to subrogate the insurer to the rights of the insured against third party tortfeasors allows the insurer to take what it can from the third party up to the amount paid before the insured is allowed to recover part or all of its self-insured retention. If the City had no insurance at all and paid the full amount of the firefighter’s workers’ compensation claim it could take the full amount from the tortfeasor, a right it gave to the insurer when it agreed to provide it with a right of subrogation.


© 2020 – Barry Zalma

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant  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 practiced law in California for more than 44 years as a

n insurance coverage and claims handling lawyer and more than 52 years in the insurance business. He is available at http://www.zalma.com and zalma@zalma.com.

Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.

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