April 6, 2010
Written By Attorneys: John M. Clark and Erin Nulty
This article is an interpretation of current law and is offered for informational purposes only. This material is not legal advice and should not be construed or used as a substitute for the advice of an attorney.
When an insured submits a claim for defense and indemnification under the liability portion of a policy, insurers routinely issue Reservation of Rights letters when coverage for the claim is questionable. Many adjusters, third-party administrators, and lawyers that issue these letters rely on certain boilerplate language to reserve the insurer's rights, and then add details specific to the individual claim. In essence, the insurer creates a generic form letter that can be used by its personnel in multiple jurisdictions when the need arises. However, New Jersey insurers should be aware that these generic form letters do not always withstand legal challenge. When a New Jersey court finds a Reservation of Right letter legally insufficient, the insurer is forced to provide a defense and indemnification to the insured, even when no coverage exists under the policy.
Under New Jersey law, insurers wishing to control the defense of an insured while simultaneously reserving the right to dispute liability can do so only with the consent of the insured. Merchants Indemnity Corp. v. Eggleston, 27 N.J. 114, 127 (1962) The insured's consent can be inferred from the insured's failure to reject an offer to defend, but if the insured consents by silence, the Reservation of Rights letter "must fairly inform the insured that the offer may be accepted or rejected." Id. at 127-128. When an insurer fails to inform an insured of the ability to accept or reject the terms of the defense, the insurer is estopped from later denying coverage.
Insurers should be aware that New Jersey courts continue to strictly enforce the consent requirement set forth in Eggleston. Recently, in Gomez v. First Jersey Cas. Ins. Co., No. A-3928-08T1 (N.J. Super. Ct. App. Div. April 1, 2010)(unpublished decision), the insurer provided a defense to the insured under a reservation of rights to deny coverage based on late notice and the intentional act exclusion. The Reservation of Rights letter informed the insured of the coverage issues and advised that the insured may want to retain personal counsel, as coverage may be disclaimed in the future. The letter did not inform the insured that the offer of defense could be accepted or rejected. The insured did not respond to the letter.
After a verdict was entered against the insured, the insurer advised that it would not indemnify him because the intentional act provision of the policy excluded coverage. A declaratory judgment action was brought to challenge the denial. The Appellate Division held that the insured's silence in response to the Reservation of Rights letter could not be deemed consent to the defense under Eggleston because the insurer failed to inform the insured that he could reject the offer. Thus, the insurer was precluded from disclaiming coverage for a claim that could have been excluded under the policy.
To avoid having to unnecessarily defend and indemnify insureds for claims that are not covered under the policy, insurers should make certain that Reservation of Rights letters issued in New Jersey specifically advise insureds of their ability to accept or reject the offer of defense. Otherwise, insurers run the risk of losing the ability to assert coverage defenses.
