California holds subcontractor owes present duty to defend
July, 2006
"The comedy troupe Monty Python once made the subject of insurance – insurance of all things – the butt of a comedy skit. But we doubt that even comedians of their caliber would try to make ‘indemnity' the topic of comedy. It is a topic so deadly dull that it makes insurance look interesting. That is not to say, however, that the topic is not of vital importance in many commercial contexts, particularly in California's construction industry." - Kirk Crawford v. Weather Shield Mfg. Inc., 2006 WL 233432 (January 31, 2006).
With that wry observation, the California Court of Appeal rendered a decision that is of vital importance not only in California's construction industry, but also for insurance carriers insuring the construction industry.
Prior to Crawford, some interpreted California law to provide that a subcontractor must be found liable for construction defects before it can be liable for a general contractor's defense costs. Therefore, general contractor defense costs were typically reimbursed only at the end of the case, if at all. In Crawford, however, the Court of Appeal concluded that no prior decision established such a rule. On the facts of the case and the language of the indemnification provision before it, the court found that a window subcontractor owed an immediate ("present") duty to defend the general contractor, even though the subcontractor's liability for the defects had not yet been proven, and might never be proven.
The subcontractor had promised to indemnify the general contractor "against all claims for loss, damage, … growing out of the execution of the work, and at his own expense to defend any suit or action brought against Owner founded upon the claim of such damage or loss…." (Italics supplied.) Citing California Civil Code § 2778, the court held that where the subcontract promises a defense in this manner, it creates an independent obligation to presently mount and fund a defense rather than an obligation to later reimburse the costs of defense. The court distinguished cases previously thought to establish that the absence of negligence retroactively excuses a subcontractor's defense obligation.
The subcontractor's present duty to defend is limited, however, to claims within the scope of the specific indemnifying agreement. Therefore, subcontract indemnity terms must be closely examined to determine whether they create an immediate duty to defend the indemnitee. Indemnity agreements that do not create such a duty still require a finding of liability.
Although some prior decisions questioned the fairness of imposing such a defense obligation, the court noted that the subcontractor's obligation is narrower than an insurer's duty to defend. Further, the window subcontractor and the general contractor were large corporations capable of negotiating the indemnity terms, and should be held to the terms upon which they agreed. As for small subcontractors with unequal bargaining power, the court observed that such subcontractors are typically insured for such losses and name the general contractor as an additional insured.
Crawford has significant implications for any California insurer whose policy covers "liability" assumed under an "insured contract." Where the insured has a present duty to defend under an indemnification clause, that duty is an assumed liability, and the insurer incurs a present obligation to indemnify the insured for defense costs as they are submitted by the third party. In contrast, where a policy covers "loss" rather than "liability," then the insurer's duty to indemnify will not arise until the insured actually pays the third party.
As a result of Crawford, more insureds will be required to immediately defend third parties. Insurers should expect to see a corresponding increase in insureds' demands for immediate indemnification of the costs of defending third parties. Carriers should carefully analyze the language of the indemnity agreement at issue, and may wish to confer with coverage counsel regarding their obligations and rights.