CFAFederal Court in Indiana Limits Insurer’s Contractual Right to Select Defense Counsel

By: Charles F. Albrecht

The United States District Court for the Northern District of Indiana recently denied an insurer’s contractual right to select defense counsel and control environmental remediation because of a perceived conflict of interest. Although Indiana does not have a statute or specific state court case law concerning Cumis counsel, this latest case is part of a trend of Indiana implicitly adopting the California concept that an insurer sometimes has to pay for counsel selected by the insured.

Valley Forge Insurance Company v. Hartford Iron & Metal, Inc., 2015 WL 8180104 (N.D. Ind. Dec. 7, 2015) arose from the environmental contamination at a Hartford City, Indiana metal scrap yard and involved a dispute between insurer and insured over handling the defense to the environmental regulatory enforcement. Hartford Iron & Metal, Inc. (“Hartford”) operates the scrap yard and Valley Forge Insurance Company (“Valley Forge”) provides several general liability insurance policies covering it.

In 2006, the Indiana Department of Environmental Management (“IDEM”) declared that the scrap yard was not in compliance with environmental regulations. Valley Forge agreed to defend Hartford, but disputes between the parties forced them to reach a settlement agreement in 2009 allocating responsibility for complying with the IDEM claims. A second settlement agreement reached in December 2012 established that Valley Forge may appoint new defense counsel subject to Hartford’s approval. Since the 2012 settlement agreement, the environmental violations have continued and each side has blamed the other for the failure to comply with the regulations.

In 2014, Valley Forge filed a lawsuit against Hartford. The lawsuit commenced by Valley Forge against Hartford sought damages for breach of contract and declaratory judgment regarding the parties’ rights and obligations under the insurance policies and settlement agreements. In pertinent part, Valley Forge argued that it was entitled to summary judgment on its declaratory relief claims because:

  1. No conflict of interest exists that would prevent Valley Forge from controlling the defense to the environmental claims; and
  2. Even if a conflict exists with regard to the defense, the conflict does not undermine Valley Forge’s right to control the remediation.

Right to Control the Defense

Valley Forge argued it has contractual rights to control the defense to the underlying environmental claims stemming from its 2012 settlement agreement with Hartford. Further, Valley Forge claimed that there is no conflict of interest because it has already agreed to pay the costs of defending against the environmental claims. The Court disagreed and cited to the Indiana Rules of Professional Conduct in support of its ruling.

Indiana Rule of Professional Conduct 1.7 provides that a lawyer may not represent a client if the representation involves a “concurrent conflict of interest.” Under Rule 1.7, a concurrent conflict of interest exists if:

  1. The representation of one client will be directly adverse to another client; or
  2. There is a significant risk that the representation of one or more clients will be materially limited by the lawyer’s responsibilities to another client, a former client or a third person or by a personal interest of the lawyer.

The Court opined that a conflict of interest exists where the attorney defending the underlying claim might have to select a defense that furthers the financial interest of the insured or insurer, rather than both. The Court then stated that the accepted practice under these circumstances has long been for the insurer to pay for independent defense counsel and exercise no control.

The Court held that “any defense counsel appointed for Hartford but controlled by Valley Forge will need to decide which of the two masters to serve when gathering evidence and preparing reports” about the environmental violations. As a result, the Court decided that “this conflict of interest is sufficient to materially limit the attorney’s representation of Hartford.”

Right to Control the Remediation

In the alternative, Valley Forge argued that even if the Court found that a conflict of interest exists with regard to the defense of the environmental claims, this conflict did not impact its absolute right to control the remediation. Valley Forge also insisted that the costs of the remediation were better characterized as settlement costs or damages rather than defense costs. However, the Court found that “many of the same conflict concerns presented by Valley Forge’s control over the defense are also implicated by control of the remediation.” Accordingly, the Court rejected Valley Forge’s claim for declaratory judgment regarding control over the remediation.

Conclusion

Valley Forge v. Hartford Iron is part of a trend that follows an earlier federal court case decided on Indiana law. In Armstrong Cleaners, Inc. v. Erie Ins. Exchange, 364 F. Supp. 2d 797, 805-11 (S.D. Ind. 2005), the court ruled that an insurance policy cannot authorize the insurer to select and employ an attorney who would face a conflict of interest that would put the attorney in violation of the Rules of Professional Conduct. In Armstrong Cleaners, the court did not state that every reservation of rights situation requires the hiring of Cumis counsel, but rather, “if there is a reasonable possibility that the manner in which the insured is defended could affect the outcome of the insurer’s coverage dispute, then the conflict may be sufficient to require the insurer to pay for counsel of the insured’s choice.”

The term “Cumis counsel” stems from San Diego Federal Credit Union v. Cumis Ins. Soc’y, Inc., 162 Cal. App. 3d 358 (1984). Cumis held that when an insurer reserves rights on issues critical to the defense of the case, a conflict of interest arises for the attorney appointed by the insurer to defend and gives rise to the right of an insured to hire independent counsel at the insurer’s expense.

The California law on this subject remains more stringent than that in Indiana. Nevertheless, Valley Forge v. Hartford Iron shows again that Indiana attorneys and insurers must be on the alert for situations that could require hiring of defense counsel selected by the insured.


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