In a recently decided California of Appeals case, Housing Group v. PMA Capital Ins. Co., 193 Cal. App. 4th 1150 (2011),  the court examined the issue of whether a carrier breaches its duty to defend by stating it is “investigating” the claim (rather than unambiguously accepting the defense) and then failing to pay defense costs until after the underlying matter is over.  The court in Housing Group held such conduct did not satisfy the duty to defend, and held the insurer therefore could not invoke the right under Civil Code § 2860 to limit the rates paid to independent counsel.

Under California law, where there is a conflict of interest between the insurer and policyholder because the insurer has reserved its rights under the policy, the insured is entitled to select counsel.   San Diego Navy Federal Credit Union v. Cumis Ins. Society, Inc., 162 Cal. App. 3d 358 (1984).  Under Cumis, the carrier must pay the fees of this independent “Cumis counsel.”  Civil Code Section 2860 limits the rates payable to independent counsel, stating the “obligation to pay fees to the independent counsel … is limited to the rates which are actually paid by the insurer to attorneys retained by it in the ordinary course of business in the defense of similar actions ….”  Civil Code § 2860 (c).

In Housing Group, the California Court of Appeal held that the Section 2860 fee cap did not apply where the insurer’s reservation of rights letter merely stated the insurer would “investigate the duty to defend ….”  193 Cal. App. 4th at 1154.  The insureds argued that the insurer could not invoke Section 2860(c) because the insurer had not agreed to defend.  The insurer argued that it satisfied its duty to defend because it sent two reservation of rights letters, acknowledging receipt of the insureds’ tender of the defense and stating that the insurer would “investigate” coverage.  Id. 

The Court of Appeal held that this was “not an actual acceptance or agreement to provide a defense or to appoint plaintiffs’ chosen counsel as Cumis counsel.” Id. at 1156.  The insurer also noted that it had paid defense fees of approximately $36,000, after the insured settled the underlying claims.  The Court of Appeal held that Section 2860(c) requires that the insurer pay defense costs during the underlying litigation, and its decision to withhold payment of defense fees until the end of the litigation was “the equivalent of a defense denial.”  Id. at 1157.

The Housing Group case is important in establishing that insurers must accept the duty to defend promptly and unambiguously, and perform it fully, and that failure to do precludes the insurer from invoking Civil Code Section 2860.  Insureds can use this case to obtain recovery of full rates in many cases where they would otherwise be reimbursed only at capped rates.