Legal Lessons: Insurance

Legal Lessons

Choosing an attorney for your building requires a series of steps. First is taking the task at hand and figuring out what legal skills are required to solve your problem. Then comes the hunt, often through word of mouth, for the lawyer possessing those skills. In the past, many boards have used Habitat’s annual attorney survey to identify potential firms and lawyers. This year, to make that resource more valuable, we have increased the scope of what we asked participating lawyers to provide. Besides the basics (fees, size, areas served, etc.), we asked them to write about typical issues or cases they have encountered and then to offer advice and comment. In doing this, we hoped to capture each lawyer’s unique thinking and tone. And we took some additional steps, too, visiting every attorney’s office and taking photos of him or her so you could see who was telling the legal tale. Digesting the advice and legal cautions will take some time, but for board directors who monitor the legal lines, it’s a good investment.

Condominium Exclusions

LaGumina Law Firm

ISSUE Can an insurer properly deny a condominium’s claim for defense and indemnification coverage for a chronic sewage backup lawsuit based on a pollution exclusion and/or a “known condition” exclusion?

BACKSTORY A condominium client that had recently hired my firm informed me that the condo was being sued by unit-owners who had experienced a sewage backup. This was not the first time that the low-lying units had experienced such a problem. As a result, the insurance adjuster who had inspected the damage to the units directed that no repairs be made until the insurer could determine its cause. The unit had experienced sewage backups in the past. Even though such corrective measures as “jetting” the sewer lines and installing check valves had been attempted, no lasting solution had ever been implemented.

We recommended that engineers be retained to address and solve the problem. We also submitted the lawsuit to the condominium’s insurer for coverage and defense. The insurer denied coverage on the grounds that sewage constituted pollution, which was excluded from coverage and also that the policy excluded coverage from what was a “known condition.” We asked the insurer the basis for their “known condition” determination. We learned that it was based on information and allegations that the insurer received in phone calls from the plaintiff’s attorney. My protests to such a one-sided and obviously biased analysis were disregarded, and we were forced to defend the lawsuit and also bring a third-party action against the insurer to obtain coverage and defense under the insurance policy.

We ultimately prevailed in a summary judgment motion against the insurer. The court found that the pollution exclusion did not apply (the leak consisted of mostly water and the pollution exclusion in New York is really aimed at environmental pollution which was not involved here), and that there was no evidence that the condominium had simply ignored a known condition. The court took note of the prior good-faith, but unsuccessful, attempts by the condominium board to address the problem. As a result of the decision, the insurer eventually paid for the defense and ultimate settlement of the lawsuit. The condominium also took measures to prevent future backups.

COMMENT Handling insurance claims and unit repairs caused by water infiltration from the common areas is a frequent and sometimes confusing task for condominium boards and their managing agents. Often the insurance agent and insurance adjuster can be of great assistance in handling the immediate repairs and clarifying the board’s repair responsibilities. Yet, their conclusions and instructions are not always correct and should be scrutinized. In this case, probing and questioning the alleged reasons behind the denial of coverage and then examining the actual insurance policy were crucial factors.

It is also important for the board and managing agent to take measures to address the cause of water infiltration so that the same problem does not repeat itself in the future. While most condominium bylaws do not make a condominium board a guarantor that a unit won’t suffer leaks from the common areas, the board is under a duty to attempt to address the causes or sources of such leaks once they are brought to the board’s attention.

—John J. LaGumina

Late Notice or Not

Rosen Livingston & Cholst

ISSUE Should a board adopt a policy of not reporting threats of a frivolous lawsuit to its insurance carrier in order to prevent future increases in insurance premium coverage?

BACKSTORY A co-op board admissions committee convened to interview a prospective buyer: a 65-year-old father who wished to purchase the apartment for his son to use while the son was in college. The purchaser and his son appeared at the interview, along with the purchaser’s girlfriend, a woman in her 20s. During the course of the interview, the father was asked what his plans were for the apartment once his son graduated college. The father responded, “I’m not sure. Who knows? Perhaps I will let the bimbo” – referring to his girlfriend – “live in the apartment after my son moves out.”

Needless to say, the admissions committee was incensed by these insensitive remarks, and the father’s application to purchase the apartment was rejected. The father did not take rejection well. He wrote a letter to the board indicating that if the seller was ever to sue the cooperative for rejecting him, he would do all in his power to help the seller. The father sent a copy of that letter to the seller’s attorney.

Since the threat seemed remote (i.e., not a direct warning that a lawsuit would ensue but merely a statement that, if the seller were to sue, he would assist), and the board did not believe it had any legal obligation to the seller, it did not report the threat of litigation to its insurance carrier.

About nine months later, the seller produced a second buyer for the apartment. Following the board interview, the apartment was sold, but the selling price was considerably less than the original price. The seller sued the co-op and its board members personally for the difference between the purchase price it would have achieved if the apartment had been sold to the father and the price it ultimately received. The suit also included attorney’s fees for both transactions and reimbursement for the maintenance he paid between sales.

The board, upon receiving the complaint, immediately notified its insurance carrier of this litigation and requested a legal defense and coverage of the claim. The carrier disclaimed coverage and refused to provide a legal defense on the ground of “late notice.” The carrier took the position that the cooperative corporation was on notice of the threat of litigation at the time the father had sent his letter after the initial rejection and its failure to notify the carrier deprived the carrier of an opportunity to promptly investigate the matter at the time of the event.

Thus, the co-op and its individual board members were forced to defend the case without the benefit of insurance coverage. Ultimately, the cooperative was successful and the case was dismissed. However, the litigation was protracted and the co-op incurred substantial expenses for legal fees and disbursements before the claim was ultimately dismissed.

Even though the corporation had prevailed in its litigation against its former owner, it was not entitled to be reimbursed by that owner for the sums it spent defending the claim. To recover its losses, the board decided to sue its insurance carrier for breach of contract in failing to defend the corporation, and it also sought to recover the costs of its legal fees and expenses in connection with the lawsuit that was filed against it by the seller.

Once again, the co-op prevailed in its litigation against the insurance company, recovering all expenses associated with its defense of the seller’s lawsuit. However, since the courts have ruled that legal fees incurred in successfully prosecuting a breach of contract claim against an insurance company are not recoverable from the carrier, the co-op had to absorb the costs of suing to collect its defense costs. Thus, the co-op was never made whole for all the monies it had to expend in defending the claim. (Recent court decisions, however, suggest that the prohibition against recovery of legal fees incurred in the successful prosecution of a breach of contract claim against an insurance carrier may in the future be dropped.)

COMMENT All too often co-op and condo boards are loathe to report threats of litigation to their insurance carrier on the theory that the prospective suit seems frivolous, the litigation may never materialize, and the mere notice of possible litigation will result in a premium increase. The lesson to be learned from this experience is that no threat of litigation, however remote or frivolous it might sound, should go unreported to carriers, and the report should be made as soon as the threat is received. It has been our experience that the act of filing a claim does not automatically trigger an insurance premium increase. Moreover, boards have to remember that they purchase insurance for a reason – to insulate the association and its directors/managers from litigation threats. Boards can always consult counsel as to the necessity for reporting a threatened claim to the carrier, but when in doubt, the report should be made immediately, as insurance companies love to use “late notice” as a pretext for avoiding their coverage and defense obligations. Had timely notice of this threat of litigation – as bizarre and remote as it seemed – been communicated to the carrier there would have been no plausible basis for denial of a defense and coverage, and the co-op would not have suffered any out-of-pocket loss.

—Bruce A. Cholst

Abandoned By Your Insurer

Wolf Haldenstein

Adler Freeman & Herz

ISSUE What should a cooperative or condominium board do when, on the one hand, it has an attorney handling a case free of charge courtesy of its insurance company, yet, on the other hand, that same insurance company is unwilling to stand behind the cooperative or condominium if a judgment is obtained against it?

BACKSTORY One of our condominium clients was sued by a unit-owner who claimed that, because of a building system leak, mold formed in a crawl space above her apartment, damaged her furniture and belongings, and caused her to suffer grave personal injuries. After being served with a summons and complaint, the condominium promptly turned the matter over to its insurance company for defense and indemnification.

After waiting what seemed like eons to have the insurance company assign an attorney to handle the case, an insurance defense lawyer was eventually appointed. There was, however, one small problem: although the insurance company was willing to pay an attorney to handle the case, it issued a lengthy reservation of rights letter to the condominium. In other words, while the insurance company agreed to pay the fees for an attorney to defend the case, it wrote a letter to the condominium pointing out various provisions/exclusions in the building’s insurance policy and advising that, if the unit-owner obtained a judgment against the condominium, coverage would only be provided for one out of the five claims asserted by the unit-owner in the suit.

COMMENT Insurance companies issue reservation of rights letters more often than you would think. Unfortunately, insurance doesn’t automatically “kick in” and cover everything when a building is sued. Instead, insurance companies analyze legal complaints and literally pick them apart, usually resulting in coverage for some, but not all of the claims made in the suit. In this particular case, the insurance company relied upon a pollution exclusion (claiming mold is a form of pollution) and other exclusions in the policy to reserve its right to deny coverage for a majority of the claims in the complaint.

A board should not rely solely on its insurance company for an attorney. It should have general counsel monitor the case and advocate on its behalf. How involved should general counsel be? A rule of thumb is that the more claims an insurance company is unwilling to cover, the more involved general counsel should be in the matter.

For example, if an insurance company commits only to indemnify a building for four out of five claims made against it, and it seems likely that the plaintiff may ultimately prevail, general counsel should do everything possible to encourage the insurance company and its appointed counsel to settle the case. Why? Because the building could be exposed to considerable financial risk if a judgment is obtained against it on the uncovered claims and it does not have the backing of an insurance company to satisfy that judgment. These risks can be minimized, however, by having general counsel monitor the case.

When our condominium client received a copy of the reservation of rights letter described above, the board asked our firm to monitor the case to ensure that (1) the insurance defense lawyer would handle it properly; (2) the building’s interests would be protected; and (3) the building would not be exposed to financial risk. In addition, we met with the board regularly to give status reports and assess the level of risk, if any, that the building faced on uncovered claims if the case proceeded to trial.

General counsel’s involvement is also crucial when it comes to contributing to settlements. An insurance company that is disclaiming coverage on a majority of the claims in a suit will often demand that a cooperative or condominium make a significant monetary contribution toward settlement. When that happens, the board needs general counsel to step in and put pressure on the insurance company to pay a larger portion of the settlement. A board simply cannot count on its insurance defense lawyer to apply this kind of pressure on its insurance company. In fact, insurance defense lawyers usually refuse to get involved in any dispute between the insurer and the insured (probably because they don’t want to bite the hand that feeds them).

In the mold case discussed here, the insurance company initially only agreed to contribute 20 percent toward settlement. However, after my firm argued that exposure to the insurance company on the one covered claim far outweighed the exposure to the condominium on the four non-covered claims, the insurance company ended up funding a majority of the settlement. Had the condominium relied solely on its insurance company attorney to negotiate the insurance company’s contribution to settlement, the condominium would have been in a far worse financial position.

—Steven D. Sladkus