Practically every business and homeowner obtains insurance to protect themselves against losses to their property or business caused by an unforeseen event. However, sometimes when these events happen, both the insurers and insureds alike find themselves faced with the seminal question of whether such an event is covered by the insurance policy. Two most important aspects of an insurance policy when determining what is covered are: (i) The insurers duty to defend; and (ii) The insurers duty to indemnify. The duty to indemnify is the most common and known aspect of an insurance policy. This duty requires the insurer to pay for any judgment awarded to the third party against its insured, or any settlement that the parties may reach in lieu of judgment.
However, it is the duty to defend that is usually causes alarms bulbs to go off as the law on this issue has been evolving. The duty to defend can, in some cases, also end up costing more to an insurer than actual indemnification. This article is an attempt at demystifying some of the questions and principles that insurers’ should keep in mind when making this critical decision of whether or not to defend a claim that arises in Canada.
I. What is the duty to defend?
An insurer’s duty to defend is triggered when a claim is filed against an insured which alleges acts or omissions that fall within the coverage set out in the insured’s policy. The mere possibility that a claim covered under the policy may succeed is sufficient to impose the duty to defend. As such, the duty to defend is quite broad and arises even if the claim is eventually dismissed.
While connected to the duty to defend, the duty to indemnify is much narrower in scope. The duty to indemnify is only engaged when the claimant’s allegations are proven at trial. Accordingly, an insurer only has a duty to indemnify for settlement or judgment amounts that fall within the coverage set out in the insured’s policy. As such, an insurer’s duty to indemnify is triggered far less frequently than the duty to defend.1
II. Who has a duty to defend?
If the duty to defend is triggered, both the primary and excess insurer may have a duty to defend. Where an excess insurance policy provides for a duty to defend and it is evident that the potential judgment against the insured may be substantially larger than the amount covered by the primary policy, the excess insurer may be obligated to defend the claim.2
III. When is the duty to defend triggered?
The determination of whether an insurer has a duty to defend is a contextual inquiry that will depend on: (i) the provisions of the insured’s policy; and (ii) the facts as pleaded by the claimant.
Step #1: Does the policy stipulate a duty to defend?
The first step in determining whether a duty to defend arises is to look to the provisions of the insured’s policy. While many insurance liability policies set out an insurer’s duty to defend against claims, not all policies contain this language. As such, the duty to defend must be specifically stated in the insured’s policy.3 It cannot simply be inferred from the duty to indemnify. Moreover, courts will interpret the language of the policy that triggers the duty to defend in the context of the entire insurance agreement.4 However, it is important to note that any ambiguity in the policy will be resolved in the insured’s favour.5
Step #2: Are the acts and omissions alleged in the pleadings covered under the policy?
a. The “pleadings rule”
The second step in determining whether a duty is owed is to assess whether the pleadings allege an act or omission which falls within the coverage of the insured’s policy.6 The “pleadings rule”, as it is called, was recently articulated by the Supreme Court of Canada in Monenco Ltd. v. Commonwealth Insurance Co.7The Court stated:
“If the claim alleges a state of facts which, if proven, would fall within the coverage of the policy, the insurer is obligated to defend the suit regardless of the truth or falsity of such allegations.”8
Accordingly, it is not necessary for the pleadings to definitively establish that the acts or omissions alleged will succeed.9 The “mere possibility” that a claim within the policy may succeed is sufficient to trigger the duty to defend.10
b. True nature” of the claim
While the courts will look to the pleadings in order to assess whether the claim falls within the insured’s policy, they are cognizant that claimants may draft the pleadings to intentionally include the alleged acts or omissions in the scope of the insurer’s policy. To curb manipulation of claims in this manner, courts will determine whether claims actually fall within the insured’s coverage by assessing the “true nature” or the substance of the claim.11Therefore, the courts will not necessarily stay bound to the plaintiff’s potentially arbitrary characterization of the claim in determining whether the insurer has a duty to defend.12
Step #3: Is the claim derivative?
The third step in determining whether the duty to defend is triggered is to assess whether any claims pleaded are entirely derivative in nature.13 For example, the duty to defend will not be triggered if a claim is characterized in terms of both negligence and an intentional tort. If both the negligence and intentional tort arise from the same set of factual circumstances, the negligence claim is derivative and will be subsumed into the intentional tort.14 However, a claim for negligence will not be entirely derivative if the factual circumstances are sufficiently distinct such that the two claims are unrelated. In this case, the insurer would be obligated to defend against both claims.
IV. Can the duty to indemnify arise when there is no duty to defend?
The duty to defend is often linked to the duty to indemnify. However, a duty to indemnify may arise, in limited circumstances, where there is no duty to defend. For example, in British Columbia v. Surrey District School Board No 3615, the British Columbia Court of Appeal held that the insurer, the British Columbia Ministry of Education, had a duty to indemnify the Surrey District School Board (the “Board”) for legal fees and costs it was ordered to pay to intervenors in a separate litigation under which the Board was deemed to have passed unconstitutional resolutions. The Ministry of Education argued that it did not have a duty to indemnify because while the pleadings alleged a violation of constitutional rights, , there was no allegation of economic loss. However, the Court concluded that the language of the policy was intended to indemnify school boards for the costs of other parties in litigation which they were ordered to pay on behalf of the school district as a result of their duties . While Justice Newbury acknowledged that it was unusual for the duty to defend coverage not to be co-extensive with the duty to indemnify, he noted that if the duty to defend could be broader than the duty to indemnify, “…I see no reason in principle why the converse may not be true where the plain meaning of the policy so indicates.”16
VI. Comment
On a practical note, insurers should ensure that policies are drafted carefully to clearly set out the scope of the duty to defend or the duty to indemnify, as any ambiguity in the language of the policy will be decided in favour of coverage for the insured. As such, if an insurer wishes to exclude certain claims from the duty to defend or indemnify, express policy language should be used to exclude coverage. Finally, insurers should take note that while the duty to defend is generally linked to the duty to indemnify, there may be cases where the duty to indemnify exists without the duty to defend, and vice versa. Accordingly, it is prudent to conduct a thorough assessment of the potential for either duty to arise when claims are filed against any insured.
1. Heather A. Sanderson et al., Commercial General Liability Insurance, (Toronto and Vancouver: Butterworths, 2000) at pp. 215-219. ↩
2. Alie at para 175. ↩
3. Alie v. Bertrand & Frere Construction Co (2002), 62 OR (3d) 345 (Ont. C.A.) para 174 [Alie].↩
4. Alie at para 184.↩
5. W.(T.) v. (W.(K.R.J.) (1996), 29 O.R. (3d) 277 (Ont. Gen. Div.) at para 30. ↩
6. Non-Marine Underwriters, Lloyd’s of London v. Scalera, 2000 SCC 24, [2000] 1 SCR 551 (SCC) at para 50 [Scalera].↩
7. Monenco Ltd. v. Commonwealth Insurance Co [ 2001] 2 SCR 699 (SCC). ↩
8. Ibid at para 28.↩
9. Nichols v. American Home Assurance Co., [1990] 1 SCR 801. ↩
10. Ibid at para ↩
11. Progressive Homes Ltd. v. Lombard General Insurance Co. of Canada, 2010 SCC 33, 2010 CarswellBC 2501. ↩
12. Ibid at para 20.↩
13. Scalera at para 52. ↩
14. Ibid at 85. ↩
15. 2005 BCCA 106. ↩
16. Ibid at para 28.↩
