Contract Provides Effective Transfer of Risk

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Indemnity and Defense Agreement Must be Enforced

Defendants, Fox Mill Limited Partnership and the Kane County Land Company (collectively, FMLP), appealed from a declaratory judgment for defense costs in favor of the Wasco Sanitary District (District) in Wasco Sanitary District v. Fox Mill Limited Partnership, and Kane County Land Company, No. 2-20-0650, 2021 IL App 200650-U, Court of Appeals of Illinois, Second District (December 9, 2021) and the Court of Appeal resolved the issue.

BACKGROUND

In 1994 the District entered into an annexation agreement to provide water and wastewater treatment services for FMLP’s residential development, a subdivision called Fox Mill. This subdivision included about 800 high-end custom homes in the Village of Campton Hills. Under the agreement, FMLP would pay for or construct water facilities for the District and in return FMLP could collect for the connection permits for the Fox Mill subdivision. (The connection permits were sold for around $25,000 for each single-family home. The agreement also provided that FMLP could sell the District’s excess capacity provided that the excess was created by FMLP’s improvements.

In a section of the contracts titled “Hold Harmless and Indemnification,” the 1994 annexation agreement provided that:

“In the event a claim is made against the DISTRICT, its officers, other officials, agents and employees *** or any of them, is made a party-defendant in any proceeding arising out of or in connection with this Agreement, the annexation of the ANNEXATION REALTY, the approval and construction of the WASTEWATER FACILITIES or WATER FACILITIES, or the development of the SUBJECT REALTY, including matters pertaining to hazardous materials and other environmental matters, [FMLP] shall * * * defend and hold the DISTRICT such officers, other officials, agents and employees harmless from all claims, liabilities, losses, taxes, judgments, costs, fees, including expenses and reasonable attorneys’ fees, in connection therewith ***.

On the topic of attorneys, the agreement also provided that:

Any such indemnified person may obtain separate counsel to participate in the defense thereof at his own expense. However, if the Illinois Rules of Professional Conduct, as amended, requires such indemnified person to be separately defended where there is no consent to a conflict of interest, then [FMLP] shall bear such expense. In the event of a conflict of interest, it is agreed that [FMLP] will pay for a Kane County attorney to represent such person. The DISTRICT and such officers, other officials, agents and employees shall cooperate in the defense of such proceedings and be available for any litigation related appearances which may be required.

FMLP’s principals, Jerry Boose and Kenneth Blood, operated other residential real estate ventures in the area, including one known as B&B Enterprises. In subsequent amendments to the 1994 agreement, FMLP assigned its excess capacity rights to B&B Enterprises. As an example of one transaction, in July 2008 B&B sold capacity for 106 single-family detached lots in the Norton Lakes subdivision to developers Hudson T. Harrison and others. At $25,000 per lot, B&B-through FMLP-received $2,650,000 for the transaction.

One of the District’s residents, Ed Fiala and a third-party home developer, Tim Kobler Custom Homes, Inc. (Fiala) filed suit against the District, its trustees, its outside counsel as well as FMLP, B&B, Boose, Blood, B&B and FMLP’s attorney and Harrison. Fiala’s suit was brought as a putative RICO-class action (18 U.S.C. § 1962) alleging a pattern of racketeering activity including bribery, theft, and fraud designed to deprive the District’s residents and builders of their property.

The District notified FMLP that it and its trustees wanted to be defended under the 1994 annexation agreement; FMLP refused. The District began to pay its own defense costs and those of its trustees and the District sued FMLP.

To raise funds for attorney fees for the Fiala litigation, the District added a $20 per month per resident fee. FMLP asserted that the Fiala litigation did not arise from the 1994 agreement because Fiala was not seeking to overturn that agreement; that the District failed to “tender” the Fiala suit to FMLP; that the District failed to hire “a Kane County attorney” to represent them; and, that the District refused to cooperate with FMLP in its defense against Fiala.

The District received an order granting it approximately $1.3 million in attorney fees expended in the Fiala litigation. In January 2021, the trial court modified its order to include approximately $400,000 in additional fees that were not included in the original order or had accrued since the order was entered. FMLP timely appealed from the trial court’s judgment.

ANALYSIS

FMLP’s first contention is that the District was required, but failed, to “formally tender” Fiala’s suit to trigger FMLP’s duty to defend asserting similarities in insurance contracts.

However, FMLP is not an insurer, and the District is not seeking defense and indemnity under the terms of an insurance policy. Nothing in the 1994 annexation agreement or subsequent amendments required the District to “formally tender” a suit to FMLP to trigger its duty to defend and indemnify.

“Tender” language, which would be standard boilerplate in a typical insurance contract, was not in the 1994 annexation agreement, which was categorically not an insurance contract. FMLP’s tender argument, therefore, was irrelevant.

FMLP has never denied that it knew the District was also a named defendant in each version of Fiala’s complaint. FMLP would prefer a contrary result which would ultimately make no sense: having the District jump through meaningless hoops towards an absurd end: telling FMLP something it already knew: that it was being sued by Fiala and wanted to be defended and indemnified under the 1994 agreement.

FMLP could not express bewilderment that the District was a party to the Fiala litigation; both FMLP and the District were represented at counsels’ table in the same suit concerning the 1994 agreement. Therefore, the Court of Appeal, like the trial court, refused to permit FMLP to continue to deny the obvious.

The issue of conflict counsel asserted by FMLP was completely illusory. For example, Boose, in his deposition, testified that even if the District had sought “defense through a Kane County lawyer,” FMLP still would not have agreed to defend the District because FMLP “wouldn’t have been able to *** afford it.” (Boose further testified that FMLP never tendered the Fiala suit to FMLP’s general liability commercial insurance on its own behalf.) The issue raised by FMLP of the need for “a Kane County attorney” was merely another straw man conjured by FMLP to avoid providing the District with its contractually promised defense and indemnification.

FMLP challenged the trial court’s turnover orders, which released nearly $2 million from FMLP’s bond posted with the circuit clerk to cover a decade of the District’s attorneys’ fees. FMLP elected to appeal the trial court’s declaratory judgment separately while matters were still pending in the trial court.

The appellate court rejected FMLP’s contentions. The 1994 annexation agreement plainly obligated FMLP to defend and indemnify the District, and the trial court correctly determined that FMLP had a continuing duty to defend and indemnify the District and its trustees. Therefore, the trial court did not err in granting declaratory judgment on coverage in favor of district and its trustees.

ZALMA OPINION

The essence of insurance is the transfer of a risk from an individual to an insurer. Insurance is not, howeverf, the only risk transfer device. The “hold harmless” agreement was a risk transfer device established by a contract between the District and FMLP. It was an effective risk transfer device and the District – although it took them ten years to do so – they got their attorneys fees paid from a bond posted by FMLP. I can only wonder what took the parties and the courts so long to enforce a clear and unambiguous contract and how much faster an insurance policy would have provided defense and indemnity.


© 2022 – 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 an insurance coverage and claims handling lawyer and more than 54 years in the insurance business.

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