Standard liability policies typically contain an exhaustion clause that establishes that the primary insurer’s duty to defend terminates upon the payment of the insurer’s policy limits through a formal settlement or satisfaction of judgment of claims asserted against the insured. To pass the defense obligation to the excess insurer the majority of courts require that the primary’s policy be exhausted by actual payment. Once the primary insurer exhausts its full policy limit in a good faith settlement or payment of a judgment, then it will no longer have an obligation to defend even if one of its insureds may still face liability for the claim. The duty to defend will also end if, after the full payment of policy limits, it does not entirely extinguish the claims against the insured/policyholder.
A tender of the primary policy limits without a release in favor of the insured is not an actual settlement and, therefore, an exhaustion provision will be ineffective to discharge the duty to defend. Absent a release being obtained and exchanged for the policy limits the primary insurer may still pass its obligation to defend on to the excess carrier if it obtains a covenant not to execute on the insured’s behalf. Although a covenant not to execute is not a complete release, in view of the existence of excess coverage, a covenant not to execute may be as complete a release as the primary insurer can obtain under the circumstances.
The issue of whether a primary insurer can compel an excess insurer to participate in defending insureds came before the New Hampshire Supreme Court in Old Republic Ins. Co. v. Stratford Ins. Co., 2016 WL 302212 (N.H., Jan. 26, 2016). In Old Republic the Court held, as a matter of first impression, that an excess liability insurer’s duty to defend is triggered only when the primary insurer’s coverage is exhausted. The Court adopted the majority rule. In adopting the majority rule, the Court noted that the majority rule reflected how the insurance system operated, how insurance companies managed risk and how insurers marketed and priced their policies. In that regard, the primary insurer, given its primary obligation to defend, controlled the defense of a claim and its costs. The primary insurer had a vital interest in supervising the defense against the claim because its money was primarily riding on the outcome. A rule which allowed primary insurers to assume exclusive control of the litigation enabled them to protect their financial interest in the outcome of litigation and to minimize unwarranted liability claims. The majority rule also safeguarded the orderly and proper disbursement of large sums of money involved in the insurance business. Therefore, until the excess insurer had indemnity exposure, there was no reason that the excess insurer should have a role in making strategic decisions regarding the defense of an insured nor should the excess carrier be required to pay a share of the defense costs. Moreover, the Court found that requiring an excess insurer to share defense costs equally with the primary insurer, irrespective of whether the excess insurer’s indemnity obligation had been triggered, would undermine the pricing structure in the excess insurance marketplace. Excess insurers priced their policies to reflect the reduced expenditures that excess insurers were likely to incur because the excess insurers did not have a primary obligation to defend.
Based upon these principles and recognizing that the majority rule did not require the excess insurer’s participation in defense until the primary exhausted its limits, the New Hampshire Supreme Court held that the excess insurer’s duty to defend was triggered only when the primary insurer’s coverage was exhausted.
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