In a world of uncertainty, few things in life are more guaranteed than liability insurers reflexively rejecting claims for pre-notice defense costs, even where there is no legitimate or principled basis to do so. In a perfect world, insureds would immediately notify their insurers as soon as a claim or suit arises to avoid insurers refusing to pay or credit pre-notice defense costs. But companies operating in the real world for various reasons sometimes investigate and defend claims or suits before formally notifying their insurers.  In that circumstance, insurers should not be permitted to avoid their coverage obligations for so-called “pre-tender” defense costs for each of the following reasons.

Many courts only require notice to the insurer – not “magic words” or a formal “tender” – to trigger an insurer’s defense obligations

Insurers often argue their defense obligations only arise after the insured formally “tenders” or specifically requests a defense of a claim or suit, even though many courts have flatly rejected this premise. E.g., White Mountain Cable Constr. Corp. v. Transamerica Ins. Co., 631 A.2d 907, 910 (N.H. 1993) (“in order for an insured to tender the defense to the insurer, it need only put the insurer on notice of the claim”). Indeed, many courts correctly have held that the insurer’s defense obligations are triggered upon receipt of “actual notice” from any source – even if not directly from the insured seeking coverage. E.g., Cincinnati Cos. v. West Am. Ins. Co., 701 N.E.2d 499, 505 (Ill. 1998) (“the insurer’s duty to defend is triggered by actual notice of the underlying suit”).  Absent specific policy language or legal precedent to the contrary, insureds should not be required to formally “tender” or request a defense to obtain the benefit of its coverage once the insurer is on notice of the claim or suit – particularly where the insurance policy delegates the duty to defend to the policyholder rather than the insurer.

As courts increasingly recognize, pre-notice defense costs should be recoverable in the absence of demonstrable prejudice from delayed notice.

Whether pre-notice defense costs are recoverable under a liability policy depends on the specific policy language and the jurisdiction hearing the claim.If a policy expressly excludes pre-notice defense costs, many courts will not require the insurer to pay for any defense costs incurred before the insurer is notified of the claim or suit.More commonly, however, liability policies do not expressly exclude pre-notice defense costs, but instead contain conditions mandating notice of suits or claims “as soon as practicable” and prohibiting policyholders from incurring payments voluntarily or without insurer “consent.”

For example, the “voluntary payment” provision in the standard form commercial general liability policy provides, “No insureds will, except at their own cost, voluntarily make a payment, assume any obligation, or incur any expense, other than for first aid, without [insurer’s] consent.” Although insurers often rely on this and similar conditions to deny coverage for pre-notice defense costs, courts increasingly have held that such amounts are recoverable if the insurer was not prejudiced by the delay in notice of the claim or suit.

This was the case in Sherwood Brands v. Hartford Accident & Indemnity Company, 698 A.2d 1078, 1085 (Md. Ct. App. 1997). There, the court ruled that when an insurer breaches its duty to defend by wrongfully refusing to provide a defense, or if it assumes the defense after a delay in notice, it may be held liable for pre-notice defense costs unless it can demonstrate that it was prejudiced by the delay. The Maryland Supreme Court rightfully reasoned that an insurer undertaking its duty to defend after a delay in notice or tender likely is not prejudiced, because “[h]ad notice been given earlier, the insurer would have undertaken the defense at the earlier time and therefore would have incurred all, part, or perhaps even more of the expenses incurred by the [policyholder].” Id. at 1086.

More recently, the Delaware Superior Court – currently a favored forum for significant D&O coverage disputes – ruled that an implied prejudice requirement precluded an insurer from automatically escaping its obligations to reimburse its insured’s pre-notice defense expenses. See Solera Holdings, Inc. v. XL Specialty Ins. Co., 213 A.3d 1249 (Del. Super. Ct. 2019), rev’d on other grounds In re Solera Ins. Coverage Appeals, 2020 Del. LEXIS 360 (Del. Oct. 23, 2020). Like many D&O policies, the policy at issue in Solera placed the duty to defend on the insured, not the insurer, and provided that the insured was not to incur any defense expenses without its insurer’s “consent, such consent not to be unreasonably delayed or withheld[.]” The Delaware Superior Court ruled that this language implied a rebuttable presumption that the insurer would be prejudiced by paying pre-notice defense costs, which the insured could try to rebut – a “factual question that generally cannot be resolved on a motion for summary judgment.”  In so ruling, the Delaware court correctly reasoned that “a strict interpretation” of the “consent” provision “would lead to forfeiture of coverage.”

Similarly, a New Jersey state trial court in The Lewis Clinic for Education Therapy v. McCarter & English, LLP, et al., No. MER-L-747-19 (N.J. Super. Ct. Jan. 13, 2020) (Mercer County) granted summary judgment to the insured and held that it could recover its pre-notice defense costs where the insurer was unable to demonstrate that it suffered appreciable prejudice as a result of the insured’s delayed notice of the claim.

Other courts confronted with disputes over coverage for pre-notice expenses should follow the approach taken by the Delaware trial court in Solera. The reasoning applied in Solera makes particular sense where the policy language imposes a duty to reimburse defense costs on the insurer, rather than a duty to defend the underlying claim or suit, which typically requires the insurer to appoint defense counsel and manage its insured’s defense. Insurers almost always will be hard pressed to demonstrate “prejudice” in reimbursing pre-notice defense costs where the liability policy at issue delegates the duty to defend the underlying claim or suit to the policyholder.

Policyholder takeaways

Although some courts have held that pre-notice defense costs are not recoverable, it remains in dispute in other jurisdictions, and courts increasingly are taking a more thoughtful approach to addressing the issue by requiring prejudice to the insurer so as to avoid pointless forfeitures of coverage. As a result, policyholders should bear in mind a few key considerations: (1) to avoid insurer’s resistance to covering “pre-tender” defense costs, insureds should give notice of a claim as soon as possible, regardless of the uncertainty of coverage; and (2) where notice to the insurer may not be timely, a thorough review of the insurance policy is essential to determine if pre-notice defense costs might be covered, and policyholders should promptly consult with experienced insurance recovery counsel who can assess the availability of coverage for pre-notice defense costs and perform a careful choice-of-law analysis to determine the best forum to pursue and maximize recovery if necessary.

If you have any questions about the content of this article, please contact the author or any member of Reed Smith’s Insurance Recovery Group.