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Buss v. Superior Court (1997) 16 Cal. 4th 35

By Dale, Braden & Hinchcliffe

An issue close to the hearts of many general liability insurers in California has been whether an insurer may seek reimbursement of defense costs from an insured. This issue is generally raised when an action against an insured alleges a host of claims that are not covered and only one or sometimes a few stray allegations which may be potentially covered. In this scenario, an insurer is then obligated to defend the insured against the entire action. An often repeated question is can the insurer recover any of the defense costs paid to defend the uncovered claims. Until recently, this issue was unsettled in California. With the ruling by the California Supreme Court in the eagerly awaited Buss v. Superior Court decision, this issue has been resolved.

In Buss, the California Supreme Court was faced with this very issue. When its business relationship went sour, Buss was sued by H&H Sports. The complaint against Buss alleged numerous causes of action relating to the contracts between Buss and H&H Sports. Out of the 27 alleged causes of action, one stray cause of action for defamation was plead. Buss' insurer, Transamercia, agreed to defend Buss based solely on the potentially covered defamation cause of action. Transamerica, however, reserved its rights to deny that any causes of action were covered and reserved its right to seek reimbursement of defense costs. Transamerica also agreed to provide independent counsel for Buss.

Buss ultimately settled the H&H Sports action for $8.5 million. Transamerica refused to contribute to the settlement. Transamerica had paid Buss' independent counsel more than $1,000,000 to defend the suit but claimed that only $21,720 to $55,767 of that amount was allocable to defense of the defamation cause of action.

Buss sued Transamerica for breach of contract and bad faith based on Transamerica's refusal to contribute to the settlement. Transamerica countersued for reimbursement of defense costs. On motions for summary judgment, the trial court ruled Transamerica had no obligation to contribute to the settlement and could seek reimbursement of defense costs if it proved by a "preponderance of evidence" that certain costs could be allocated solely to claims that were not even potentially covered. On Buss' petition for writ of mandate, the Court of Appeal agreed with the trial court. The Supreme Court affirmed.

The Supreme Court held that when an insurer provides a defense to its insured under a reservation of rights in an action which contains both claims which are potentially covered and claims which are not, the insurer may seek reimbursement from its insured for defense costs allocable solely to those claims for which there never was a potential for coverage.

In its decision, the Supreme Court relied upon long standing rules concerning an insurer's duty to defend. Standard general liability policies, such as the one at issue in Buss, provide that an insurer has a duty to defend the insured in any action brought against the insured seeking damages for any covered claim. Where an action contains both potentially covered claims mixed with claims that are not covered (a "mixed" action), California courts have consistently held that an insurer has a duty to defend the action in its entirety. In these "mixed"actions, the court recognized the distinction between two different types of non-covered claims. The first variety were those claims where a potential for coverage existed but which were ultimately determined not to be covered. The second category of claims existed when there was never any potential for coverage under the terms of the policy but the insurer was nonetheless required to defend because the uncovered claims were joined with claims for which a potential for coverage did exist. It was for the defense of the second category of non-covered claims that the Supreme Court held an insurer's right to reimbursement.

The court held that under the law of restitution, the insured had been "enriched" by the insurer's payment of unbargained-for defense costs. In recognition of this "unjust enrichment," the Supreme Court ruled in Buss that the insurer may seek reimbursement for defense costs for claims that were never potentially covered. In reaching its decision, the Supreme Court relied upon a long line of cases, federal and state, which generally held that California law allows reimbursement for defense costs paid by an insurer in defending insureds against claims for which there was no obligation to defend.

What does Buss mean to the liability insurance industry? The answer to this question largely depends upon the type of claim involved. This is because in order to recover defense costs under Buss, the claims which are not covered must be readily ascertainable and separable from the claims that are potentially covered.

Thus, for instance, Buss will generally not be particularly useful in construction defect matters. This is because the cost to defend covered claims, such as consequential property damage, will be difficult to separate from the cost to defend non-covered claims, such as damage to an insured's own work. However, in the business litigation and employment context, Buss may prove to be a valuable asset in both negotiations with insureds in settlement and in actual recovery actions after a matter is concluded.

One draw back is that Buss specifically requires an insurer to defend at the outset and seek reimbursement after a matter is concluded or a determination of no coverage for the entire action has been entered. Therefore, if an insurer has no assets, an insurer may be out of luck.

Further, any defense costs which are allocable to both potentially covered and non-covered claims is not recoverable. Moreover, only defense costs of claims for which there never was a potential for coverage are recoverable. To the extent there is an issue or a potential that a claim is covered which is later adjudicated to be uncovered, defense costs are not recoverable.