C. Civil Code Section 2860

On January 1, 1988, Civil Code section 2860 took effect. To a certain extent, Civil Code section 2860 adopted the logic of Cumis. In true conflict situations the statute requires insurance companies to pay independent attorneys selected by policyholders to defend third party tort suits. But the statute does not adopt Cumis' more or less automatic approach to the conflict issue. Instead, Civil Code section 2860 says that "when an insurer reserves its rights on a given issue and the outcome of the coverage issue can be controlled by counsel first retained by the insurer for the defense of the claim, a conflict of interest may exist." Cal. Civ. Code § 2860(b) (emphasis added).

In addition to rejecting Cumis' automatic approach to the conflict issue, the so called "Cumis statute" provides that no conflict is deemed to exist merely because a policyholder is sued for punitive damages or amounts exceeding the policy limits. Cal. Civ. Code § 2860(b).

D. Post-Section 2860 Decisions

The Cumis doctrine continued to take shape in Blanchard v. State Farm Fire & Cas. Co., 2 Cal.App.4th 345 (1991). Blanchard was a general contractor who was sued by a homeowners association for alleged construction defects. State Farm accepted the defense but reserved the right to decline coverage based on an exclusion for damage to property caused by Blanchard's faulty workmanship.

The court rejected Blanchard's argument that the reservation of rights created a conflict requiring State Farm to pay Blanchard's independent attorneys. The court in Blanchard reasoned that State Farm's reservation of rights only involved the damages claimed by the third party. Accordingly, the attorney selected by State Farm "had no incentive to attach liability to [Blanchard]." Id. at 350. Instead, both the insurer and Blanchard had an incentive to minimize Blanchard's liability. The court refused to find a Cumis conflict just because there was "an unspecified possibility of a conflict." Id. (original emphasis).

4. THE DYNAMIC CONCEPTS CASE

Dynamic Concepts, Inc. v. Truck Ins. Exchange, 61 Cal.App.4th 999 (1998) is the most recent California decision to address Cumis issues in detail. The decision continues the move toward a more reasoned and careful application of the Cumis doctrine.

The case stemmed from a dispute between two computer software companies involved in a licensing agreement. Dynamic Concepts was eventually sued for breach of contract, fraud, and defamation, among other things. Dynamic Concepts' independent counsel undertook the defense and then requested defense from Dynamic Concepts' liability insurer, Truck Insurance Exchange. Truck accepted the defense under a reservation of rights and appointed a law firm to provide the defense. Dynamic Concepts refused to accept the law firm Truck appointed. Instead, it demanded that Truck withdraw its reservation of rights. Dynamic Concepts' independent attorney argued that the reservation of rights letter itself "necessarily" triggered an obligation to pay Cumis counsel. And he accused the insurer-retained defense firm of serving "no function but to look for a pretext to deny coverage." Id. at 1002.

While refusing to allow the insurer-retained attorney to participate in the defense, Dynamic Concepts' independent attorney secretly negotiated a settlement with the other software company. Id. at 1003. At trial, Dynamic Concepts unsuccessfully argued that Truck had to pay for the settlement because it had failed to acknowledge independent counsel as "Cumis counsel."

In rejecting Dynamic Concepts' contentions on appeal, the court made several significant observations concerning the Cumis doctrine. First, the court observed that "a mere possibility of an unspecified conflict does not require independent counsel." Id. at 1007. Instead, to trigger entitlement to a second, independent attorney, a "conflict must be significant, not merely theoretical, actual, not merely potential." Id.

Second, the court flatly rejected Dynamic Concepts' "proposed per se rule requiring the appointment of an independent counsel whenever a carrier issues a so called 'global reservation of rights' . . . ." Id. Instead, the court pointed out that "the potential for conflict requires a careful analysis of the parties' respective interests to determine whether they can be reconciled (such as by a defense based on total nonliability) or whether an actual conflict of interest precludes insurer-appointed defense counsel from presenting a quality defense for the insured." Id. at 1008.

Finally, the court emphasized that the attorneys Truck appointed to defend Dynamic Concepts "owed their primary obligations to Dynamic [Concepts]." Id. at 1008. The court held that "there is no basis on the record to presume they would have violated their stringent ethical responsibilities to completely defend Dynamic [Concepts] for all allegations of the entire complaint, covered or uncovered." Id. The court rejected the unsupported assumption that the defense attorneys had been "retained to act as 'coverage spies' to generate potential coverage defenses." Id. at 1009.

Unlike the court that decided Cumis, the Dynamic Concepts court emphasized that if insurer-retained counsel act against the interests of their actual clients in order to benefit the coverage position of the insurer that is paying the bills, the defense attorneys are exposed to "malpractice liability [and disciplinary actions]." Id. And Dynamic Concepts intimated that such misconduct would be likely to result in a loss of coverage defenses on the part of the insurer, if not bad faith liability. Id.

5. THE DEVELOPING DOCTRINE

Dynamic Concepts, Civil Code section 2860, and cases such as McGee, Native Sun, Wilks, and Blanchard suggest a workable standard for assessing whether or not a Cumis-type conflict exists. But the standard is contradictory to the language of the Cumis decision and also to much of its rationale. In particular, Dynamic Concepts and other recent cases make it clear that two basic assumptions that were once often followed by a citation to Cumis are no longer valid.

The first assumption that is no longer valid is that the entitlement to independent counsel can be assessed simply by reviewing the insurance company's reservation of rights letter. The second assumption that is no longer valid is that the defense attorneys appointed by an insurance company are presumed to be willing to violate their ethical duties in any number of ways so as to benefit the insurer that retained them at the direct expense of their actual client.

A. The Nature of The Defense Must Be Analyzed

Policyholder counsel frequently argue that any reservation that includes a right to decline coverage for intentional or willful misconduct (or punitive damages flowing from that conduct) automatically triggers entitlement to independent counsel at the expense of the insurer. But it is now clear that "the potential for conflict requires a careful analysis of the parties' respective interest to determine whether they can be reconciled (such as by a defense based on total non-liability) . . . ." Dynamic Concepts, 61 Cal.App.4th at 1008.

A simple example illustrates the reason why analysis of the underlying litigation, is required, as opposed to an exclusive focus on the insurance company's reservation of rights letter. Assume a policyholder is sued for intentional battery and negligence (say, beating up a Dodger fan who was foolish enough to attend a Giants' game). After receiving the complaint and the request for a defense, the insurer reserves its right to decline coverage based on the policy's intentional act exclusion and Insurance Code section 533 (which excludes coverage for injuries caused by willful misconduct of a policyholder). Now assume the insurer-retained defense attorney meets with the client. The client tells the attorney that at the time of the alleged incident, he acted neither intentionally nor negligently. He wasn't even at the baseball game. He was vacationing in Tahiti. He shows the insurance defense counsel the receipt for his plane tickets, his stamped passport, his hotel receipt, and video footage of himself frolicking on the beach.

In such a situation, there should be no entitlement to independent counsel at the expense of the insurance company. Any reasonable attorney is going to defend based on the evidence showing the defendant was in Tahiti at the time of the incident -- a defense based on total non-liability. It would be ludicrous to assume under those circumstances that any but the most foolhardy attorney would try to concoct a "defense" that would result in the finding of intentional misconduct against his or her own client.

B.The Law Does Not Assume That All Insurance Defense Counsel Are Crooked

When asking an insurance company for independent counsel, many policyholder attorneys suggest that the Cumis decision means that the law assumes insurer-retained counsel will breach ethical obligations and the fiduciary duties they owe to their actual client (the policyholder) in order to enhance their relationship with the insurance company that sends them files. There is language in the Cumis decision which suggests such an assumption. However, California law no longer adopts such a drastic and evil view of insurer-retained counsel. For example, rather than making the assumption that the attorneys appointed by Truck would violate their ethical duties, the court in Dynamic Concepts held that "there is no basis on the record to presume they would have violated their stringent ethical responsibilities . . . ." Dynamic Concepts, 61 Cal.App.4th at 1008.

In fact, several cases decided after Cumis would have reached different conclusions if the court had assumed that insurer-retained counsel would deliberately undermine their actual clients in order to benefit the insurance carrier that sends them work. For example, in McGee such an assumption would have led to a Cumis entitlement. After all, the court could have presumed that the insurance attorney would have wanted to obtain confidential information which established applicability of the resident-relative exclusion. And the court could have presumed that having obtained that confidential information, the insurer-retained counsel would have provided it to the insurance carrier despite the ethical duty to maintain confidences.

The same thing holds true in Native Sun. If the law presumed the insurer-retained counsel would act unethically to benefit the insurer's coverage position, even at the expense of his own client, then the court in Native Sun probably would have found a Cumis conflict. After all, the court could have assumed the attorney would vigorously resist the covered sovereignty claims while relaxing (or at least less vigorously defending) the excluded historic public use claims. The fact that the court made no assumption of unethical conduct, and found that based on the actual evidence the attorney had acted properly, is telling.

6. ASSESSING THE ENTITLEMENT TO INDEPENDENT COUNSEL

We can now sketch the outlines of a basic approach toward assessing the question of whether or not an insurer must provide a policyholder with a second, independent counsel at the expense of the insurance company. First, counsel and insurer must undertake careful analysis of the tort litigation and the nature of the defense to be asserted on behalf of the policyholder. That analysis should be compared to the insurer's coverage reservation in order to determine whether insurer-retained counsel would be in a position to shape the defense in such a way as to favor the insurer's coverage position at the possible expense of the client.

But in performing this analysis, no one should lightly assume that the insurer retained counsel would breach ethical obligations, duties of loyalty, fiduciary duties, or duties of confidentiality. What this means is that there should be no assumption that the insurer-retained attorney will undertake an outrageous course of action designed to harm his or her actual clients in order to promote the interests of the insurance company. Instead, entitlement to a second, independent counsel should exist only in those situations where the insurer-retained counsel could ethically and reasonably adopt one or more of several possible defense strategies that could control the outcome of a given coverage dispute.

Recall our policyholder who was vacationing in Tahiti when he allegedly committed a battery at a baseball game in San Francisco. If we assumed the insurer retained counsel was unethical and motivated by a desire to develop liability that would not be covered by the insurance policy, we could probably stretch far enough to create an entitlement to independent counsel. We might theorize, for example, in order to increase the likelihood of a finding of battery that the defense attorney might not present the evidence that the policyholder was vacationing. Or we might theorize that the defense attorney could use the evidence that the policyholder was vacationing at the time of the alleged incident to move for summary adjudication of the negligence cause of action. Conceivably, this would leave the battery cause of action in place, and eliminate the insurance company's obligation to defend the case.

But unless we assume that the attorney has no sense of ethics, and no sense of loyalty to his or her actual client, our theories make little sense (and they actually sound outlandish). Would any attorney want to be the defendant in the malpractice suit that inevitably followed such shenanigans?

So a second, independent counsel should be required only in those situations where a reasonable and ethical defense attorney could still be in a position to develop defense strategies that could be decisive of coverage. In that situation, a policyholder may well need an independent attorney to assess the facts of the underlying litigation, assess the coverage issues, and consult with the policyholder in developing and implementing an acceptable defense plan.

An example helps illustrate situations that can give rise to a "Cumis counsel" entitlement. Let's assume our policyholder is driving a car occupied by a few of his friends. The policyholder collides with a delivery truck, and one of his friends is killed. Let's also assume that there is evidence our policyholder was drinking at the time of the accident, and intentionally drove dangerously at the prodding of his friends, such that a finding of willful misconduct is possible. The liability insurer for our policyholder accepts the defense but reserves the right to decline coverage for punitive damages and liability based on willful or intentional misconduct.

After analyzing the underlying situation, our insurer-retained defense attorney believes there are two potential ways to defend the case. First, the policyholder could try to escape liability by pinning as much of the blame as possible on the driver of the delivery truck -- a comparative negligence defense. Alternatively, the policyholder could argue that his friend who died assumed the risk of injury because he knew the policyholder had been drinking, bought the policyholder drinks, and even encouraged the policyholder to drive recklessly while knowing he was under the influence of alcohol.

In this situation, a reasonable defense attorney arguably could proceed in one of two ways. The defense based on comparative negligence of the delivery truck driver is likely to result in an assessment of some percentage of negligence against the delivery truck driver, but also liability against the policyholder based on comparative negligence. In contrast, the defense based on the friend's assumption of risk may be more likely to result in a complete defense verdict for the policyholder. But if it fails, a finding of liability based on uncovered willful misconduct is also much more likely.

In this situation, reasonable defense attorneys might make different judgment calls about how best to proceed. Without acting unethically or within an intent to harm the actual client, the insurer-retained counsel could still be in a position to develop a defense strategy that ultimately decides the fate of the coverage issue. It is in this type of situation that the policyholder can legitimately claim an entitlement to an independent attorney who has no ongoing relationship with the insurance company to provide advice and make decisions as to the best defense strategy.

7. CONCLUSION

For the last fifteen years, courts, insurance companies, policyholders, and attorneys have struggled to develop a workable framework for analyzing the right of a policyholder to demand independent counsel at the expense of a liability insurer. Insurance coverage reservations and conflict issues raise difficult challenges for insurers, policyholders, and their counsel. But this developing area of law seems to be taking shape in a way that provides a sensible and workable approach to resolve these difficult issues.

This article is necessarily general in nature and is not a substitute for legal advice with respect to any particular case. Readers should consult with an attorney before taking any action affecting their interests.

© 1999 The Recorder

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