When an insurer hires defense counsel to represent an insured, a “tripartite relationship” is born. In some jurisdictions, courts consider both the insured and the insurer to be clients. In other jurisdictions, courts consider the insured to be the primary client but recognize, nevertheless, that defense counsel also owes some secondary duty to the insurer. And in just a handful of jurisdictions, courts consider only the insured to be the client.
Given the tripartite relationship, does the insurer have standing to sue defense counsel for malpractice arising out of representation of the insured?
Last year, at least two courts tackled this question and reached opposite conclusions. In Arch Insurance Company v. Kubicki Draper, the Florida Court of Appeals held that an insurer lacked standing to sue a defense firm hired to represent an insured. Two months later, in Sentry Select Insurance Company v. Maybank Law Firm, the South Carolina Supreme Court held that an insurer could maintain a direct malpractice action against a defense attorney hired to represent an insured.[1]
In Arch, a professional-liability insurer hired a law firm to defend an insured in a separate suit. After the separate suit settled within the insured’s policy limits, the insurer sued the law firm for malpractice. The insurer attributed the large settlement to the law firm’s delay in asserting the insured’s statute-of-limitations defense. The law firm filed a dispositive motion, arguing that the insurer lacked standing to sue the law firm for malpractice. The Florida Court of Appeals agreed. The Court reasoned that although the law firm was in privity with the insured—i.e., the client—the law firm wasn’t in privity with the insurer. The Court also found nothing in the record to suggest that the insurer was an intended third-party beneficiary of the relationship between the law firm and the insured.
In Sentry, as in Arch, a professional-liability insurer hired an attorney to defend an insured in a separate suit. The insurer alleged that the suit settled for a substantial amount after the attorney failed to timely answer requests for admission. The insurer believed, perhaps rightfully so, that the judge would’ve deemed the matters contained in the requests admitted. The South Carolina Supreme Court held that the insurer could sue the attorney for malpractice that proximately caused damages to the insurer—but only if the insurer’s interests aligned with the insured’s interests:
Because of the insurance company’s unique position,[2] we hold . . . [that] an insurer may bring a direct malpractice action against counsel hired to represent its insured. However, we will not place an attorney in a conflict between his client’s interests and the interests of the insurer. Thus, the insurer may recover only for the attorney’s breach of his duty to his client, when the insurer proves the breach is the proximate cause of damages to the insurer. If the interests of the client are the slightest bit inconsistent with the insurer’s interests, there can be no liability of the attorney to the insurer, for we will not permit the attorney’s duty to the client to be affected by the interests of the insurance company.
The majority characterized the decision as “consistent with the rule adopted by the majority of states that have considered the issue.”
The dissent accused the majority of providing the insurer “a windfall at the cost of preserving the attorney-client relationship . . . .” And as to the majority’s characterization of the decision as consistent with the majority rule, the dissent called this characterization “somewhat misleading.” The dissent observed that of the jurisdictions that allow an insurer to sue defense counsel for malpractice, most “do so on the belief that a dual attorney-client relationship exists between the insurer, insured, and counsel, which is a belief the majority does not share.” Other jurisdictions, the dissent continued, do so “using a number of approaches grounded in contract, equity, and tort law.”
A survey of cases across the United States reveals that almost all jurisdictions permit an insurer to sue defense counsel for malpractice, as the majority in Sentry observed. But as the dissent observed, there are some marked doctrinal differences among jurisdictions. A few states, like California, allow the insurer to sue defense counsel on the ground that the insurer, like the insured, has an attorney-client relationship with defense counsel. Some states, like Arizona, allow the insurer to sue defense counsel on the ground that the insurer is a third-party beneficiary of defense counsel’s services to the insured. Other states, like Michigan, allow the insurer to sue defense counsel on the ground of equitable subrogation.
Michigan’s recognition of equitable subrogation as a basis for an insurer to file a malpractice action against defense counsel traces back to Atlanta International Insurance Company v. Bell, which the Michigan Supreme Court decided almost three decades ago. There, the Court observed that under traditional legal doctrine, “only a person in the special privity of the attorney-client relationship may sue an attorney for malpractice.” And the Court agreed that the relationship between an insurer and defense counsel is “something less than a plenary attorney-client relationship.” But the Court held that the doctrine of equitable subrogation permits the insurer to sue defense counsel for malpractice, at least where the interests of the insurer align with the interests of the insured. The Court recognized the competing policies at play. On the one hand, expanding the parameters of the attorney-client relationship could detract from defense counsel’s duty of loyalty to the client in a potentially conflict-ridden situation. On the other hand, giving defense counsel immunity from a malpractice action would place the loss for defense counsel’s misconduct on the insurer. So the Court characterized equitable subrogation as a happy medium―“a less sweeping, less rigid solution than creation of an attorney-client relationship between the insurer and defense counsel, but a more flexible, more equitable solution than absolution from liability for professional malpractice.”
In short, the attorney-malpractice paradigm is evolving. The answer to the question posed in this blog article—whether an insurer has standing to sue defense counsel for malpractice arising out of representation of an insured—isn’t simple, predictable, or easily answered by the concept of privity. Relaxation of the privity requirement in attorney-malpractice cases has opened the courthouse doors to non-clients in general and insurers in particular. You may think that your duty of loyalty, as defense counsel, rests solely with the insured. And you may be right. But that doesn’t necessarily absolve you from liability to the insurer for malpractice.
[1] Shortly after the South Carolina Supreme Court issued Sentry, the Florida Court of Appeals in Arch certified the following question “of great public importance” to the Florida Supreme Court: “whether an insurer has standing to maintain a malpractice action against counsel hired to represent the insured where the insurer has a duty to defend.” The Florida Supreme Court accepted jurisdiction, ordered briefing, and recently entertained oral argument.
[2] “[A]n insurance company that hires an attorney to represent its insured is in a unique position in relation to the resulting attorney-client relationship. Pursuant to the insurance contract, the insurer has a duty to defend its insured, and must compensate the attorney for his time in defense of his client. If the insured settles or has judgment imposed against him, the insurance contract ordinarily requires the insurer to pay the settlement or judgment. Many insurance contracts provide the insurer has a right to investigate and settle claims as a representative of its insured. Finally, the insurer’s right to settle must be exercised in good faith, and that duty of good faith requires the insurer to act reasonably in protecting the insured from liability in excess of the policy limits.”
