By: Patricia McHugh Lambert, Esq.
In May 2018, the American Law Institute (ALI) approved the final version of a project initially launched in 2010 to summarize the principles of liability insurance law.
The ALI is a deliberative body established to promote the clarification and simplification of United States common law. The foremost way the ALI has sought to accomplish this goal over its 95-year existence has been through the creation of various Restatements of the Law, Model Codes, and Principles of Law. The ALI drafts Restatements to provide courts with guidance as to common law, corresponding statutes, and regulations so that the legal precedents set forth in the Restatement may be appropriately stated by the courts in their decisions.
At its core, each ALI Restatement project is—or at least has been—an attempt to collect and “re-state” the consensus of the legal community on the law in a manner that is understandable and digestible. While courts are under no formal obligation to adopt ALI Restatements as the law, they often do because such sections attempt to merely “restate” the already-established law. On issues of first impression, Restatements may be viewed by courts as persuasive in terms of demonstrating the current trend(s) jurisdictions are following. Consequently, ALI’s Restatements have become influential because of their reputation for neutrality—the projects are not supposed to reflect a bias for or against any constituency. In the past at least, Restatements have not been viewed as promoting sweeping public policy changes, presumably because those changes have been viewed as being within the purview of elected officials.
The RLLI Project
The Restatement of the Law, Liability Insurance (RLLI), approved on May 22, 2018, is the ALI’s most recently-approved Restatement project. The project is controversial, in part because its passage marks notable firsts for the ALI and Restatement projects. The RLLI is the first Restatement on insurance—a particularly complex and nuanced area of the law, as each state highly regulates it under its own sets of statutes and precedents. It is also viewed by many as the first Restatement that focuses on a particular industry—insurance—as opposed to a generalized legal area such as agency, torts, or property.
Though many modern Restatement projects undertaken by the ALI have been criticized in their own right—this RLLI project has been criticized for both the process used and the substantive determination. First, the RLLI appears to be the first ALI project to be converted, midway through the process, from a Principles aspirational project to a Restatement. Restatements are traditionally viewed as a summary of the current state of the law, while Principles promote and recommend changes in the law. The RLLI is also unique in that a final vote was delayed at the last minute so that an additional year of work and debate could be considered.
The ALI itself also experienced changes during the pendency of this project—a new Director was appointed, the ALI adopted new rules for Restatements that no longer confine Reporters to describing the law as it is, and the ALI has taken on the stance of a more activist law reform organization.
Controversial Response
Many in the insurance industry have questioned the ALI’s neutrality and scholarship in relation to creating the RLLI. The ALI makes clear that while Restatement rules should be based on precedent, the ALI is not bound by precedent that is inappropriate or inconsistent with the law as a whole. The ALI adopted numerous minority rules in the RLLI. This is fundamentally inconsistent with the past stated purposes of a Restatement of Law project, namely to compile and make digestible, already-established law. Many insurance professionals have cautioned that including minority rules has the potential to create litigation impediments not based upon prevailing judicial determinations in their jurisdiction.
Legislators have taken notice of the RLLI’s perceived overreaching conduct which potentially alters the common law and imposes judgments on public policy issues. In Ohio, legislators recently amended the Ohio insurance statute to state the RLLI “does not constitute the public policy of this state and is not an appropriate subject of notice.” Tennessee’s legislature also amended its insurance statute to add provisions addressing plain meaning interpretation of insurance statutes and insurers’ duty to defend obligations. North Dakota approved a bill similar to that of Ohio’s, preventing courts from considering the RLLI. Further, the Kentucky House of Representatives adopted a Resolution officially opposing the RLLI.
Several other states have informally expressed their rejection of the RLLI—Governors of South Carolina, Maine, Texas, Iowa, Nebraska, and Utah submitted a joint letter to the ALI expressing their concerns that the RLLI alters fundamental insurance law principles. In addition, the Insurance Commissioners of Michigan, Idaho, and Illinois have also written to the ALI to express concerns that the RLLI goes beyond the codification of the law and could adversely impact the insurance system.
With respect to another recent Restatement project of the ALI, the late Justice Scalia cautioned that “modern Restatements . . . are of questionable value, and must be used with caution. The object of the original Restatements was ‘to present an orderly statement of the general common law.’ Restatement of Conflict of Laws, Introduction, p. viii (1934). Over time, the Restatements’ authors have abandoned the mission of describing the law, and have chosen instead to set forth their aspirations for what the law ought to be.” Kansas v. Nebraska , 135 S. Ct. 1042, 1062 (2015). Justice Scalia went on to state that “Restatement sections such as that should be given no weight whatever as to the current state of the law, and no more weight regarding what the law ought to be than the recommendations of any respected lawyer or scholar. And it cannot safely be assumed, without further inquiry, that a Restatement provision describes rather than revises current law.”
To date, the ALI’s public response to Justice Scalia’s powerful warning has been silence. Restatement Reporters still control the drafting of Restatements, leaving them with the sole discretion to accept or ignore the comments they receive that a particular proposed rule has no or minimal common-law support and does not reflect an emerging trend in the law.
Several trial courts across the nation have been rightly hesitant to rely on the RLLI to decide pending cases since it was approved in May 2018. In at least three cases last year, courts have correctly refused to adopt the positions urged by policyholder counsels citing to provisions of the RLLI.
Controversial Provisions
Insurers argue that many sections of the RLLI lack legal support such that part or all of the section is not supported with citations of on-point cases and appear to represent an innovation rather a “restatement” of existing law. In addition, they suggest that many sections lack transparency in that important contrary case law and viewpoints are not cited or expressed. They also express concern that other sections misstate or mischaracterize case law, and the material accompanying the section “black letter” rules does not accurately describe the holding of cited cases or the weight of authority on the topic. The approved RLLI has four chapters covering a range of liability insurance law topics.[1] Below are some of the more controversial provisions of the RLLI.
The first of these provision is Section 3, addressing how policy language should be interpreted and when courts may refer to “extrinsic” evidence, including documents related to drafting and policy negotiations, to determine whether a term is ambiguous and subject to more than one reasonable interpretation. The RLLI adopts a position in Comment b that courts may construe generally accepted sources of meaning, including treatises and law review articles, and that such external sources are not treated as extrinsic evidence. Comment c also invites a court to consider “custom, practice and usage” evidence in determining plain meaning. Many in the insurance industry are concerned that this provision of the RLLI turns what was a legal question as to policy interpretation into an inquiry that requires the consideration of evidence outside of the policy. Traditionalists fear that this will cause relatively straight forward policy language disputes into more complicated and lengthy litigation.
Section 15 requires that an insurer undertaking the defense of an insured must give timely notice to the insured of any and all grounds for contesting coverage of which it knows or should know. See RLLI §15(1) (Am. Law. Inst. 2018). Section 15 also requires insurers to update reservations of rights within a reasonable time, after learning of facts that provide another basis to contest coverage, or risk losing that potential defense. Some opposing this provision believe that this increased burden could distract insurers from focusing on their policyholders’ defense by forcing them to spend time scrutinizing each piece of information they receive to determine whether it contains other potential grounds to disclaim coverage. Costly, time-consuming disputes concerning the facts which were known (or should have been known) by an insurer and when the insurer learned of them could also be expected.
Another controversial provision involves damages for an insurer’s duty to defend. Section 12 of the RLLI contemplates that insurers may be held liable in some circumstances for harm caused by errors (i.e. malpractice) made by appointed defense counsel; for example, an insurer could be liable under some circumstances based on “negligent selection” of counsel (i.e. where counsel does not have “adequate skill and experience in relation to the claim in question” or “adequate professional liability insurance”). The RLLI also endorses insurer liability where the insurer overrides counsel’s independent professional judgment and causes a breach of professional standards of care (See RLLI §12 cmts. b-d). Nevertheless, the ALI acknowledges the “dearth” of support in reported cases for holding insurers directly or vicariously liable.
Several sections of the Restatement addressing underlying claim settlements are also controversial. For example, Section 24 imposes a broad duty on insurers to make “reasonable settlement decisions” when the potential exists for an excess judgment. Section 25 adds that a reservation of rights does not relieve the insurer of that obligation and, subject to certain procedural requirements, authorizes an insured in that situation to settle a claim without the insurer’s consent. The comments suggest this is a modified version of what is “perhaps not yet the majority rule.”
Moreover, Section 27 discusses how an insurer that breaches its duty may be liable for any resulting foreseeable harm, including an excess judgment against the insured. If an unreasonable failure to settle also results in a punitive damages award, Section 27 would require the insurer to indemnify its insured for the award even if punitive damages are excluded from coverage or are uninsurable as a matter of public policy. As the ALI acknowledges, this rule is based on two dissenting opinions and a legal malpractice case from 1990. Those that oppose such liability note that this section of the RLLI cannot fairly be described as a clarification of insurance common law.
In addition, the Restatement’s confidentiality rules may actively stymie insurer settlement efforts. Section 11 provides that “an insurer does not have the right to receive any information of the insured that is protected by attorney-client privilege, work-product immunity, or a defense lawyer’s duty of confidentiality under the rules of professional conduct, if that information could be used to benefit the insurer at the expense of the insured.” According to Comment d, an insurer’s “right to defend does not include the right to receive confidential information from the defense lawyer that could harm the insured with regard to a matter that is in dispute, or potentially in dispute, between the insurer and insured.” Which actions or omissions that “could harm the insured” and what is “potentially in dispute” are subject to a myriad of interpretations. Consequently, insurers may thus find defense counsel less willing to provide candid reports regarding their handling of claims. This provision may ultimately impede the ability of insurers to make timely, appropriately informed settlement decisions with insureds.
Section 21 again adopts a default rule regarding recovery of defense costs. Section 21 states that an insurer cannot recover its defense costs following a determination of no duty to defend, unless the insurance policy authorizes it or the insured agrees. A unilateral statement in a reservation of rights letter alone is, therefore, insufficient to create a right of reimbursement on the insurer’s part. The rule purports to derive from an “emerging state-court majority rule,” but the comments acknowledge that “about half of the state courts that have considered this issue, and a majority of the federal courts making Erie predictions, have held to the contrary, based on a theory of unjust enrichment.”
Section 49 of the Restatement provides that an insurer can be liable for bad faith when it fails to perform under a liability policy “without a reasonable basis for its conduct;” and “with knowledge of its obligation to perform or in reckless disregard of whether it had an obligation to perform.” This section combines both objective and subjective elements. Thus, “an insurance company is not acting in bad faith when it employs a rigorous claims-handling process, but only when its actions evince a conscious or reckless disregard of a policyholder’s rights and a deliberate choice to promote the insurance company’s interests at the policyholder’s expense.”
Finally, under Section 50, the ALI again states a minority position on remedies that is not the rule in the majority of jurisdictions. Section 50 provides that damages for “bad faith” include compensatory damages, punitive damages if available under applicable state law, and “other remedies as justice requires.” Comment c notes an insurer may also be estopped from asserting coverage defenses in some circumstances. It adds that this is “particularly appropriate when an insurer refuses to defend in bad faith.” This forfeiture penalty draws from a minority position on breaches of the duty to defend generally and, in the case of a bad faith breach, a rule that “unequivocally applies only in Washington.”
Conclusion
It is unclear how the RLLI will be received by Courts and legislatures nationwide. It certainly creates controversy and debate which might be precisely what was intended. Consequently, it is important that those relying on the RLLI—and even those opposing it—be aware of the history of this Restatement and the controversies behind certain provisions.
[1] Chapter 1 addresses basic contract-law doctrines that have special application in the insurance-law context: interpretation, waiver, estoppel, and misrepresentation. Chapter 2 addresses insurance-law doctrines relating to duties of insurers and insureds in the management of potentially insured liability actions: defense, settlement, and cooperation. Chapter 3 addresses general principles relating to the risks insured that are common to most forms of liability insurance, including coverage provisions, conditions, and the application of limits, retentions, and deductibles. Chapter 4 addresses enforceability and remedies. American Law Institute Approves Restatement of the Law, Liability Insurance, American Law Institute, May 22, 2018, https://www.ali.org/news/articles/american-law-institute-approves-liability-insurance/.
Ms. Lambert has over 25 years of experience in handling complex commercial litigation and insurance matters. Ms. Lambert has worked on national class actions, significant litigation and regulatory matters for Fortune 500 companies. She has also assisted small and mid-sized companies and business executives with contract, real estate and commercial disputes that needed to be resolved quickly and efficiently. Ms. Lambert is best known as an attorney who knows the field of insurance. She has represented insurers, policyholders, and insurance producers in disputes both in court and before the Maryland Insurance Administration. She can be contacted by phone at 410-339-6759 or email at mailto:plambert@pklaw.com.
