New Appleman on Insurance Law Library Edition Volume 12 – Litigation, Arbitration and Settlement Chapter 151 – Responding to Litigation December 2014 Kilpatrick Townsend & Stockton LLP Authors: David L. Cox, Erica J. Dominitz, Virginia R. Duke, Ashley M. Edmonds, Eric M. Gold, Gregory M. Jacobs, Helen K. Michael, Daniel H. Rylaarsdam, and Tyechia L. White. Abstract *** Chapter 151 picks up where Chapter 150, Initiating Litigation, leaves off. Although Chapter 151 addresses some of the same considerations as other chapters in this volume, this chapter focuses on the procedural and strategic considerations of the party that has been sued as it responds to litigation. A response to insurance coverage litigation necessarily involves consideration of the applicable substantive insurance law, and, therefore, the discussion that follows provides a high level review of the substantive insurance law principles affecting the procedural issues associated with responding to litigation. Section 151.01 provides an introduction to the topic and discusses certain strategic considerations that are not necessarily driven by the procedural law of what a party can do in responding to litigation. Rather, these considerations may be based on prudential, financial, or other strategic concerns, such as whether a jury trial in the court where the litigation is filed would provide a better result than an arbitration process agreed by the parties. Section 151.02 discusses what can be the most important procedural battle in insurance coverage litigation – the battle over the forum where the litigation will occur. For the same reasons discussed in Section 150.06, forum selection can provide strategic advantages – e.g., the greater likelihood of a favorable state’s law being applied, or access to judges with greater

familiarity with the issues. The plaintiff has chosen, presumably, a jurisdiction and court that it believes will provide a result favorable to that party. Depending on the circumstances, the defendant may have an opportunity to challenge the plaintiff’s selection. Section 151.02[1] addresses the procedural law that may permit a defendant to change the coverage litigation forum, by filing a competing lawsuit in a different jurisdiction (removal to federal court is discussed in Section 151.02[2], below). The initial consideration is whether the insurance policy at issue contains a “choice of venue” or “choice of forum” provision, and whether that provision is enforceable. If not precluded by the terms of the policy, the competing forum must have an appropriate relationship to the dispute under applicable law, and the defendant should be prepared to support the competing forum’s relationship to the dispute. In addition, timing is key – the “first filed” rule is very difficult to overcome, particularly in federal court, absent exceptional circumstances. It may be easier to overcome a timing issue in state court. Subsection 151.02[1] also discusses what a defendant may do in the action filed against it to stop that lawsuit from proceeding, in favor of the competing action it has filed. The court in the first-filed lawsuit may be convinced by federal abstention or forum non conveniens considerations. Otherwise, most state courts have discretion to stay a concurrent proceeding pending resolution of a parallel state or federal action involving the same parties and subject matter on the grounds of “substantial justice.” Section 151.02[2] addresses the situation in which the litigation has been filed in state court, and the defendant is considering removal of the action to federal court under the federal removal statutes. The most important consideration in this situation is whether there is federal

jurisdiction over the dispute. Insurance coverage disputes typically turn on substantive issues of state and not federal law. Therefore, the usual route to federal court for insurance coverage litigants is diversity jurisdiction. This subsection discusses the diversity jurisdiction considerations, and the timing and right to removal if diversity jurisdiction exists. Contractual forum selection or service of suit clauses may constrain the right to removal as well, and those are also discussed. Finally, because removal typically is a defendant's right if federal jurisdiction exists, this sub-section addresses situations where the defendant can claim that the plaintiff fraudulently joined a non-diverse co-defendant in order to defeat federal diversity jurisdiction. Section 151.02[3] also briefly addresses a very different situation discussed in more detail in Section 151.05[4], and below – where the parties previously have agreed to mediate or arbitrate the dispute, either in the insurance policy or by separate agreement. The next two sections presume that the forum battle, including any motions to dismiss or stay the litigation outright (discussed below and in Section 151.02[5]), has been resolved, and that the defendant is now in a position to file its answer. Section 151.03 addresses the general procedural pleading rules for answers, including the consequences to the defendant of admitting the plaintiff's allegations. More specific to insurance coverage litigation, this section also addresses how a defendant should address insurance policy language when drafting its answer. Section 151.04 addresses the specific affirmative defenses that may be available to an insurance coverage litigant when drafting its answer, which necessitates discussion of certain substantive points of insurance law. This section first, in Section 151.04[1], addresses certain insurance-related defenses that, under Federal Rule of Civil Procedure 8(c)(1) and its state law analogs, are waived if not raised in the responsive pleading. The affirmative defenses of statute of limitations, waiver, estoppel, res judicata (claim preclusion), collateral estoppel (issue

preclusion) and fraud are all frequently raised in insurance coverage disputes, and are required to be asserted in the responsive pleading. Section 151.04[2] addresses affirmative defenses that assert time limitations on insurance coverage actions. Some types of insurance policies typically contain contractual limitations provisions. Whether such a provision is a valid affirmative defense may turn on the trigger for when the limitation period begins. For example, some contractual limitations periods do not trigger until the insured submits a proof of loss. Therefore, a contractual limitations period may not be valid, if the insured has not submitted a proof of loss. Contractual limitations periods may also not be enforceable under the applicable state’s law. This subsection also addresses statutory limitations periods in the context of an insurance coverage dispute. Statutory limitations can vary by state, and by cause of action. It may also be crucial to evaluate when the statutory limitations period begins to run, and whether more than one limitations period can apply to different claims asserted by a party. Moreover, depending on the jurisdiction and the circumstances, tolling rules may apply to limit the validity of a statutory limitations defense. The next section, 151.05, addresses the various procedural motions available to the parties in the early stages of litigation. For a discussion of discovery motions, see Chapter 152. For a discussion of motions related to expert witnesses, see Chapter 153. For a discussion of motions for summary judgment, see Chapter 154. For a discussion of motions in limine and other pre-trial motions, see Chapter 155. For a discussion of post-trial motions, see Chapter 156. Section 151.05[1] covers motions to dismiss under the various grounds provided in Federal Rule of Civil Procedure 12(b) and its state law analogs, as well as those that may be

available as a result of substantive insurance law. The section first addresses a motion to dismiss for lack of jurisdiction. Because state courts are courts of general subject-matter jurisdiction, these jurisdictional motions most often arise in federal court, challenging federal subject-matter jurisdiction, although a challenge to personal jurisdiction is possible in state courts. Next, the section addresses a motion to dismiss for failure to state a claim for which relief may be granted. In insurance coverage litigation, such motions most commonly are filed in response to a declaratory judgment cause of action, or in response to a bad faith cause of action, e.g., when the applicable jurisdiction does not recognize a tortious bad faith cause of action. The section also cross-references the previous section, and discusses motions to dismiss for limitations of actions. Next, Section 151.05[1] turns to insurance-specific grounds to dismiss a coverage action. Occasionally, a plaintiff insured alleges facts that, if true, would support a motion to dismiss for failure to state a claim due to the operation of certain policy provisions. While this situation occasionally arises in the context of exclusions, a more common situation would be a motion to dismiss due to allegations that a claim was noticed after the policy period of a claims-made policy. ADR, service of suit, or forum selection clauses, often contained in insurance policies, may provide another ground for a motion to dismiss. Finally, some policies contain “No Action” clauses, which, though not typically enforced as written, could purport to prevent an insured from bringing an action against the insurer until its liability “has been finally established.” Finally, Section 151.05[1] addresses less common motions to dismiss on the grounds of justiciability or the failure to join an indispensable party. The former motion typically would be asserted by the insurer, on ripeness grounds, e.g., when the insurer is an excess insurer and there is no reasonable likelihood that the insured’s loss will reach the insurer’s layer. Either insurers

or insureds may move to dismiss for failure to join an indispensable party, e.g. underlying plaintiff, co-insureds, additional insureds, or insurance brokers. Sections 151.05[2] and [3] address less common motions in insurance coverage disputes – those for judgment on the pleadings, or to strike all or a portion of a pleading. These motions have become less common, in part because of the liberal pleading rules employed by the federal courts and most states. However, it may be appropriate to raise a motion for judgment on the pleadings to raise certain procedural or substantive defenses, such as lack of subject-matter jurisdiction. Motions to strike are less common still, and infrequently granted. Section 151.05[4] covers the procedural aspects of either party moving to stay, or to bifurca te, all or portions of the coverage litigation on a number of grounds. This relief may be sought when, as discussed in Section 151.02[3], the parties previously have agreed to submit the dispute to an alternative dispute resolution procedure. Generally, unless stipulated, such motions are filed when the plaintiff disputes the enforceability of an ADR provision in the insurance policy and has filed a lawsuit instead. Motions to stay or bifurcate my be filed when one of the parties believes that all or a portion of the coverage dispute should be stayed while the underlying action, or a related coverage action, is pending, either because the other action should take priority for prudential reasons, or because of the risk of collateral estoppel. Section 151.09 discusses these rationales in more detail in relation to the underlying action. This subsection also addresses the relatively common motion to bifurcate an insured’s bad faith claim against its insurer. Depending on the applicable laws, bad faith claims raise factual issues that may be distinct from the issues necessary to decide breach of contract or a declaratory judgment cause of action. Such claims also can involve broader ranging discovery,

e.g., into the insurer’s claims communications. Finally, depending on the jurisdiction, the validity of a bad faith claim may depend on whether the insurer’s coverage determination was correct. In most jurisdictions, the ultimate decision to bifurcate bad faith claims is left to the discretion of the trial court. In its responsive pleading, the defendant has an opportunity to raise counterclaims against the plaintiff, as well as cross-claims against other parties. Section 151.06 addresses the assertion of counterclaims and cross-claims by the defendant responding to litigation. The section discusses typical permissible counterclaims and cross-claims in insurance coverage actions. Insurers, for example, often assert counterclaims for declaratory judgment when sued by an insured for declaratory judgment or breach of contract. Insurers also may assert cross-claims against other insurers that they contend should provide coverage for the insured’s loss. Similarly, Section 151.07 covers both permissive and necessary joinder of additional parties. Joinder issues can arise in insurance coverage litigation with a variety of such additional parties. For its part, an insured may seek to join other insurers, reinsurers, or brokers, and occasionally, a state insurance guaranty association. Insurers may seek to join some of the same parties, and other interested parties, including additional insureds, or the third-party claimants. Courts have split on whether it is permissible, or necessary, to join these parties. In addition, if federal jurisdiction is an issue, parties should be aware of claims of fraudulent joinder, as discussed in more detail in Section 151.02[2]. Section 151.08 addresses the crucial, yet often overlooked, steps a defendant must take to preserve its right to a jury trial. Although the plaintiff often requests a jury trial when filing its

complaint, this is not universal, and the defendant may need to demand a jury trial in its responsive pleading. The remainder of the chapter covers other thorny issues that arise when there are concurrent underlying and coverage actions. Section 151.09 focuses on both the insured's and the insurer's considerations in managing the underlying case notwithstanding their insurance coverage dispute. Underlying all of these issues are the procedural, substantive, or equitable considerations affecting whether a party may argue that one or the other case should take "priority" over the other, in terms of timing or allocation of the parties, or judicial resources. Section 151.09[1] provides an overview of these considerations, and their potential impact on a litigant's strategic and tactical approach to either case. Section 151.09[2] takes a step back, and addresses the ongoing duties that insureds and insurers may owe to one another under the policy or under statute, even though embroiled in coverage litigation. Even though an insurer has raised coverage defenses, it may nevertheless be required to investigate, provide a defense, and, potentially, negotiate or approve an insured's settlement. The insurer may also be required to indemnify the insured for part of settlements and judgments while the parties litigate the availability of coverage for other loss. For the insured's part, if the insurer has agreed to defend but has raised potential coverage defenses under a reservation of rights, the insured has a duty to reasonably cooperate with the insurer's investigation or adjustment process, and invite the insured's participation in its defense of the underlying matter. Usually, the insured must also seek the insured's consent to settle. Even when the insurer has denied coverage, and is determined to have breached its contract, the insurer still generally will be liable only for reasonable, and covered, defense costs

and settlements. The contractual or statutory duty of good faith applies to every step of the insurer's handling and resolution of the claim, even to its denial of coverage or if coverage litigation is pending. However, the insurer typically cannot be held liable for bad faith for its litigation conduct, itself. Finally, Section 151.09[3] discusses how the respective postures of the parties, and the cases, can (a) affect the insured's protection of attorney-client privilege and attorney work product, and/or (b) result in a litigant being collaterally estoppel from re-litigating legal or factual issues common between the two cases. Courts in different jurisdictions have split on the first issue, which turns on the relationship between the insured's duty to cooperate and the existence (or not) of a common interest or joint defense privilege between the insured and insurer that would prevent waiver as to third parties. On the second issue, as a practical matter, due to the underlying considerations discussed in Section 151.09[1], determination of common legal and factual issues likely will proceed first in the underlying case. An insurer can be bound by issues decided in the underlying action even if not a party to the case. Therefore, the most common situation where this issue arises is when a party to the coverage action is prevented from re-litigating a common legal or factual issue that has been determined already in the underlying action. The section, and the chapter, closes with certain practical and strategic suggestions to manage a party's collateral estoppel exposure.