Pennsylvania Supreme Court Holds that an Insurer’s Consent to Settle is Not Required if Insurer Is Defending Under Reservation of Rights

The Pennsylvania appellate courts have kept insurance coverage lawyers on their toes this summer. Weeks after the Pennsylvania Superior Court’s decision in Selective Way Insurance Co. v. Hospitality Group Services, Inc. provided guidance on when the statute of limitations for an insurance coverage declaratory judgment action accrues, on July 21, 2015, the state’s Supreme Court issued its much anticipated decision in Babcock & Wilcox Company v. American Nuclear Insurers. In Babcock & Wilcox, the Supreme Court held that when an insurer is defending its insured in a liability claim subject to a reservation of rights because coverage is in doubt, the insured may settle the claim without the insurer’s consent, and recover the settlement amount from the insurer as long as coverage is found to exist and the settlement is fair and reasonable and made without collusion. In so holding, the Supreme Court rejected the insurer’s argument for applying Pennsylvania’s long-standing Cowden bad faith standard, under which the insurer would be required to pay the settlement only if the insurer acted in bad faith in refusing to settle. The Supreme Court also rejected the Superior Court’s decision in Babcock & Wilcox, 76 A.3d 1 (Pa. Super. 2013), to adopt Florida’s “Insured’s Choice Test,” under which an insured can elect to reject a defense offered subject to reservation of rights, defend the case at its own expense, and then, if coverage exists, recover the amount of a judgement or any fair, reasonable and non-collusive settlement. Neither party had advocated for the Insured’s Choice Test before the Superior Court and both parties argued against its adoption by the Supreme Court. The Supreme Court’s decision makes the issue decided earlier this month in Selective Way all the more important because, as a result of Babcock & Wilcox, it may be more critical than ever for insurers to seek a declaratory judgment on their coverage obligations before insureds exercise their newly established right to settle cases without the insurer’s consent when the insurer is defending subject to a reservation of rights. The Babcock & Wilcox fair, reasonable and non-collusive standard, will make it easier for insureds to require their insurers to fund settlements made without the insurer’s consent, but only if the claim is actually covered. Therefore, obtaining a declaratory judgment of no coverage will be the insurer’s best defense against payment of a settlement made by the insured without the insurer’s consent.

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