By Matthew R. King

Insurance policies usually provide for an insurer to defend and indemnify the insured for a loss that is covered by the policy. The insurer’s duty to defend and indemnify is triggered where a complaint alleges some facts that would invoke the policy’s protections.1 If, however, there is some question as to whether the policy covers the loss, an insurer can still satisfy its contractual obligations, and reserve the right to challenge its duty to indemnify. This is called a reservation of rights.

In making the determination of whether the alleged loss is covered, the insurer looks to the allegations in the complaint. If the insurer asserts a reservation of rights, “the insured receives the defense promised and, if coverage is found not to exist, the insurer will not be obligated to pay.”2

Notice to the Insured
No specific format or procedure is required for notifying the insured that their insurer is asserting a reservation of rights. However, Washington case law requires “notice to the insured that the insurer will defend under a reservation of rights.”3 This means that the insured must have actual notice of the reservation of rights before it will be considered valid.4

Not only must the insured have actual notice of the reservation, the reservation must have a “specific and clearly stated” reservation.5 Failing to specifically describe the basis for the reservation estops the insurer from asserting that coverage defense.6 The reservation should contain the relevant policy language, the nature of the reservation and any known facts supporting the reservation.7 In fact, a general reservation of rights may constitute bad faith.8

Further, the reservation of rights must be asserted in a timely manner. No specific time period has been established by statute or case law, but courts have held that ten months is too long,9 but two months may not be too long.10 In cases where a question of fact exists as to whether the insured is prejudiced by the late issuance of a reservation, the insured must show prejudice with substantial proof.11

Effect of Reservation of Rights
When an insurer asserts a reservation of rights, an enhanced duty of fairness to the insured arises.12 This duty includes:

• A thorough investigation of all liability and damages issues involved in the claim;
• The insurer must retain competent defense counsel, which must understand that only the insured is the client;
• The insurer must fully inform the insured, “not only of the reservation of rights defense itself, but of all developments relevant to his policy coverage and the progress of his lawsuit”; and
• The insurer must not do anything that would demonstrate a “greater concern for the insurer’s monetary interest that for the insured’s financial risk.”13

Note, however, that a reservation of rights does not impact an insurer’s right to control the litigation.14 In the reservation of rights context, the insured’s sole entitlement is to a fair and coverage-neutral defense.15

Settlement of Claims after Reservation
In a reservation of rights context, the insured make the ultimate choice regarding settlement, not the insurer. However, most cases are settled where (1) the insurer agrees to pay to settle the claim, (2) the insurer and insured negotiate to jointly pay the settlement or (3) the insured pays to settle the claim.

An insured can expose his insurer to risk and escape financial exposure.16 This procedure occurs when the insured settles with the third party claimant for a set amount and assigns any bad faith claims to the third party claimant. This allows the third party claimant to pursue the insurer directly.17

It is important to understand the rights of all the parties when a reservation of rights is asserted. For the plaintiff’s counsel it is important to realize that a reservation of rights changes the obligations between the insured and the insurer, thereby effecting negotiation strategies. For the defense counsel, a reservation of rights triggers heightened duties. To satisfy these duties the defense counsel needs to understand the insured’s rights.

1. Overton v. Consolidated Ins. Co., 145 Wn.2d 417, 38 P.3d 322 (2002).
2. Truck Ins. Exch. v. VanPort Homes, Inc., 147 Wn.2d 751, 761, 58 P.3d 276 (2002).
3. Van Dyke v. White, 55 Wn.2d 601, 349 P.2d 430 (1960).
4. Id.
5. Tank v. State Farm Fire and Cas. Ins. Co., 105 Wn.2d 381, 715 P.2d 1133 (1986).
6. Id. at 384,
7. Weber v. Biddle, 4 Wn. App. 519, 483 P.2d 155 (1971).
8. Id.
9. Transamerica Ins. Grop v. Chubb & Son, Inc., 16 Wn. App. 247, 554 P.2d 1080 (1976).
10. Safeco Ins. Co. of Am. v. Butler, 118 Wn.2d 383, 823 P.2d 499 (1992)(note, however, the insurer’s involvement prior to the issuance of the reservation seems to be minimal).
11. R.A. Hanson Co., Inc. v. Aetna Cas. & Sur. Co., 15 Wn. App. 608, 550 P.2d 701 (1976).
12. Tank v. State Farm Fire and Cas. Ins. Co., 105 Wn.2d 381, 715 P.2d 1133 (1986).
13. Id. at 388.
14. Johnson v. Continental Cas. Co., 57 Wn. App. 359, 788 P.2d 470 (1990).
15. Evans v. Continental Cas. Co., 40 Wn.2d 614, 245 P.2d 470 (1952).
16. Safeco Ins. Co. of Am. v. Butler, 118 Wn.2d 383, 823 P.2d 499 (1992).
17. Chaussee v. Maryland Cas. Co., 60 Wn. App. 504, 803 P.2d 1339 (1991).