Off the Reservation (of Rights): South Carolina Speaks on CGL Insurer Notification Requirements
November 30, 2017
Lawsuits over defective construction are common in South Carolina. So, when a construction company covered by a CGL insurance policy is sued over an alleged construction defect, the insurance company may agree to defend the construction company in the construction defect lawsuit. But what happens when the lawsuit is over and there is a conflict between the insurance company and contractor about which losses are covered by the policy and which are not?
That question was answered by the Supreme Court of South Carolina in its 2017 decision in Harleysville Grp. Ins. v. Heritage Comm., Inc. Insurance companies operating in South Carolina must notify the company to whom they provide CGL coverage ("insured") about dividing money received in a lawsuit between covered and non-covered losses. In the Harleysville case, the Supreme Court explained that CGL insurers owe their insureds a "high fiduciary duty" when the insurer takes on defense of a lawsuit related to a loss covered by the CGL policy. This means that insurance companies must be very careful to explain to their insureds the specific reasons that the insurance company may have to dispute coverage in a detailed, written "reservation of rights" letter.
The Harleysville lawsuit involved a dispute between an insurance carrier and its insured concerning the extent of the insurer's obligation to indemnify the insured for approximately $11 million in compensatory damages from jury verdicts based on defectively constructed condominiums in Myrtle Beach. The verdicts in the underlying suits, however, did not distinguish between covered and non-covered losses. Additionally, the insurer had issued a generic reservation of rights letter concerning compensatory damages that simply, through a copy-and-paste method, provided the insured with copies of relevant insurance policy provisions.
The Supreme Court of South Carolina called attention to the insurer's failure to notify the insured of the need to allocate damages between covered and non-covered losses and "non-specific—'we will let you know later'—purported reservation of rights" when the insurer took control of the underlying litigation. The Court stated that "[t]he right to control the litigation carries with it certain duties, including the duty not to prejudice the insured's rights by failing to request special interrogatories or a special verdict in order to clarify coverage of damages." The Court also indicated that the insurer's reservation of rights letter must state the specific bases upon which the insurer might dispute coverage, reasoning that without such an identification "the insured has no reason to act to protect its rights because it is unaware that a conflict of interest exists between itself and the insurer." Therefore, the Court held that the insurer failed to properly reserve its right to contest coverage of the compensatory damages award.
The Harleysville decision is important to both South Carolina insurers and insureds alike. For insurers, Harleysville highlights the importance of a carefully worded reservation of rights letter that specifically identifies the potential bases for contesting coverage. Further, insurers that take on defense of an insured must notify the insured that any potential damages award should be divided between covered and non-covered losses. Otherwise, the insurer will have forfeited its right to contest coverage of an otherwise non-covered portion of an award.
For insureds, Harleysville demonstrates problems that can occur when insurance companies do not provide enough information to their insureds about conflicting positions between the insurer and insured. To avoid negative outcomes caused by such a conflict, insureds may wish to (and insurers may argue insureds are now obligated to) hire independent defense counsel to protect their interests in the underlying litigation. Insureds also may want their own lawyer to pursue reimbursement from the insurance company instead of relying on insurer-appointed counsel, who may not be as diligent. If a situation arises where the insurance defense company does end up controlling the defense of a case, insureds should carefully review the policy and every communication from the insurer to guarantee that their rights are being protected as the case moves forward. At the first sign that the lawyer hired by the insurance company is not acting in the insureds best interests, the insured needs to quickly advise the insurance company of the conflict and ask to hire its own lawyer.