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By: Philip W. Savrin
In many jurisdictions, substantive coverage cannot be expanded by means of waiver or estoppel. An important exception can exist where the insurer provides a defense to the insured in a third party liability action without having first reserved its rights to deny coverage. In general, a reservation of rights letter, sent out at the commencement of the defense, is intended to fairly inform the insured of potential coverage defenses. Theoretically at least, the insured can then make an informed choice to allow the insurer to control the defense or to take steps to protect its own interests. If the insurer does not advise the insured of coverage issues before providing a defense, some courts will allow substantive coverage to be created by waiver or estoppel in that limited circumstance.
Even if this rule applies, ambiguities can arise when facts develop during the liability case that impact defenses to coverage. From a practical perspective, it can be challenging for a claims adjuster who is focused on the defense of the insured to be mindful of coverage issues that may emerge, especially when the defense was provided without a reservation of rights because there was no coverage issue at the outset of the litigation. Most jurisdictions are silent on when rights must be reserved in this circumstance, while other courts allow flexibility by holding that a reservation of rights must be sent in a timely manner. This standard can be rather slippery to apply, which can be perilous for an insurer with the burden to preserve its coverage defenses in a timely and adequate manner.
Regardless of the rules in a particular jurisdiction, insurers are well-advised to evaluate coverage throughout the life of the liability claim, even if a reservation of rights letter has been issued to preserve the issues identified early on in the proceeding. A good rule of thumb is to reiterate the coverage issues in communications with the insured at various intervals, particularly when decisions are being made about the defense strategies, settlement opportunities, and trial. In this manner, the insured will be informed of the decisions being made on its behalf and the insurer for its part will be able to ensure that its coverage defenses are being preserved.
For any questions you may have, please contact Phil Savrin at [email protected].