Commercial general liability policies often include additional insured endorsements that afford coverage to entities that are not named insureds, but who are covered under the policy for specific liability. For example, many general contractors in New York require their subcontractors to provide additional insured coverage both to them and to the project owner as part of the standard construction contract. If the general contractor and/or owner are later sued for bodily injury or property damage that has a connection to the subcontractor’s work, the subcontractor’s insurer will provide coverage.
New York’s Labor Law creates strict liability for owners and general contractors, making it a breeding ground for additional insured coverage issues. In an oft-repeated scenario, an employee of Subcontractor (“John Doe”) falls from a scaffold and suffers bodily injury. John Doe sues Owner and General Contractor for strict liability, but he cannot sue Subcontractor, in most cases, because the Workers’ Compensation Law prevents him from suing his own employer. Owner and General Contractor then demand a defense and indemnification from Subcontractor’s insurer, as additional insureds, because their liability was caused, in whole or in part, by Subcontractor’s work.
Assuming Owner and General Contractor qualify as additional insureds under Subcontractor’s policy, Subcontractor’s insurer will agree to provide a defense but typically under a reservation of rights. Although they are being defended by the Subcontractor’s insurer, Owner and General Contractor will often file a third-party action against the Subcontractor anyway, for common law and/or contractual indemnification. This places Subcontractor’s insurer in a very difficult position. On one hand, Subcontractor’s insurer is paying to defend Owner and General Contractor against John Doe’s injury claim. Now, Subcontractor’s insurer must also pay another law firm to defend Subcontractor against the third-party action (called an “action-over”).
In our coverage practice, insurers ask us two questions: 1) why are Owner and General Contractor suing my insured when I’ve agreed to defend them?; and 2) Do I really have to pay two law firms?
As to the first question, Owner and General Contractor likely are suing Subcontractor because they are concerned that Subcontractor’s insurance will not indemnify them for their ultimate liability to John Doe. Owner and General Contractor will point to the reservation of rights, and argue that they are not receiving the full protection envisioned in their contracts without a commitment to indemnity. Or, in cases involving serious injuries, Owner and General Contractor may argue that the limits of insurance will be insufficient to indemnify them against the asserted claims. Many times, this first question can be resolved by asking the Owner and General Contractor to dismiss the third-party action without prejudice when the tender is accepted.
The second question is a bit more complicated. The short answer is, yes, the insurer does need to pay for two law firms. Subcontractor’s insurer owes Owner and General Contractor a defense against John Doe’s allegations as potential additional insureds. If Owner and General Contractor will not dismiss the third-party action, Subcontractor’s insurer also owes its own named insured, Subcontractor, a defense against the contract indemnification cause of action (assuming, of course, the policy does not have an action-over exclusion and does have an insured contract exception to the contractual liability exclusion). What Subcontractor’s insurer may not need to pay for, however, is the Owner and General Contractor’s cost to pursue the third-party action against Subcontractor.
The duty to “defend” is just that; a duty to defend against claims brought against an insured. It does not encompass an obligation to fund the pursuit of affirmative claims that the insured would like to bring against others. Of course, there are some times where an insurer might elect to pay for an affirmative claim for strategic reasons. In the scenario outlined above, if the scaffold from which John Doe fell was faulty, the insurer may want to pay to file a claim against the scaffold company to try to transfer the risk to the scaffold company and its insurers. In this scenario, the affirmative claim against the scaffold company inures to the benefit of the insurer.
However, the insurer does not need to pay one set of retained defense counsel to pursue claims against its very own insured – and may actually be prohibited from doing so by the anti-subrogation rule. See Goldberg v. American Home Assur. Co., 80 A.D.2d 409, 411 (1st Dep’t 1981) (“[P]laintiff, albeit entitled to be furnished with or reimbursed for the cost of a legal defense, had no right to reimbursement for legal fees on his affirmative claims against his former partner.”); Nat’l City Bank v. New York Cent. Mut. Fire Ins. Co., 6 A.D.3d 1116, 1117 (4th Dep’t 2004) (“[W]here, as here, an insurer fulfills its duty under the policy to provide a defense for an insured, hiring separate counsel to pursue an insured’s affirmative cross claims is the insured’s responsibility.”); P.J.P. Mech. Corp. v. Commerce & Indus. Ins. Co., 65 A.D.3d 195, 199 (1st Dep’t 2009) (“[T]he policy, when read as a whole, clearly states that defendant has the duty to defend a suit, which means a proceeding brought against the insured, not by the insured. ‘Defend,’ by its clear import, does not envision affirmative litigation.”).
Additional insureds seeking coverage for their affirmative claims have argued that the third-party action against the named insured is defensive in nature, and therefore part of the defense of the underlying action. In support of this argument, there are cases in New York, outside the insurance coverage context, that have held that an indemnitor may owe legal fees to an indemnitee, including costs to pursue a related third-party action against another party if the contract allows for it and if it was a necessary part of the defense. See, e.g., Springstead v. Ciba-Geigy Corp., 27 A.D.3d 720, 722, 815 N.Y.S.2d 624 (2d Dep’t 2006). This line of reasoning has not been extended to require an insurer to pay for an additional insured to pursue its named insured. See Sucrest Corp. v. Fisher Governor Co., 83 Misc. 2d 394, 408, 371 N.Y.S.2d 927 (Sup. Ct. 1975) (additional insured entitled to a defense only; insurer not required to pay for prosecuting fourth-party action).
New York’s anti-subrogation rule means that an insurer has no right of subrogation against its own insured for a claim arising from the very risk for which the insured was covered. This applies to prohibit an insurer from paying for an additional insured to pursue a named insured. See Pennsylvania General Ins. Co. v. Austin Powder Co., 68 N.Y.2d 465, 502 N.E.2d 982, 510 N.Y.S.2d 67 (N.Y. 1986) (third-party claims by an additional insured against a named insured are barred).
Of course, while the insurer may not be obligated to fund a claim against its own insured, nothing prevents the additional insured from pursuing any valid claim it may have and the additional insured may incur these costs as it sees fit. So what does this mean in practice? While the insurer may have to pay for a firm to defend the additional insured and a separate firm to defend the named insured, it does not have to pay for the affirmative claims against the named insured. In such scenarios, the additional insured can retain separate counsel to pursue the third-party action, or defense counsel can split its file between the defense of the main action and the third-party action.