CA Supreme Court Permits Insurers to Bring Direct Actions Seeking Reimbursement of Excessive Fees Against Cumis Counsel Under Limited Circumstances

The California Supreme Court held in Hartford Casualty Insurance Company v. J.R. Marketing, L.L.C. (Squire Sanders) (8/10/2015 – #S211645) that if Cumis counsel, operating under a court order which such counsel drafted and which expressly provided that the insurer would be able to recover excessive fees, sought and received fee payments from the insurer that were fraudulent or otherwise manifestly and objectively useless and wasteful when incurred, Cumis counsel have been unjustly enriched at the insurer’s expense and the insurer will be permitted under such limited circumstances to seek reimbursement directly from Cumis counsel.

Certain Hartford insureds who had been issued commercial general liability policies were sued in multiple proceedings for a variety of claims, including unfair competition, defamation and intentional misrepresentation. Hartford disclaimed a duty to defend or to indemnify the defendants on the grounds that the acts complained of occurred prior to Hartford’s policy, and that some of the defendants were not Hartford insureds. A coverage action was filed by some of the insureds against Hartford; they were represented by the Squire Sanders law firm. Although Hartford subsequently agreed to defend several of the defendants subject to a reservation of rights, it declined to pay defense expenses incurred prior to the date of such agreement. Some months later, the trial court entered a summary adjudication order, finding that Hartford had a duty to have defended the liability action on the date it was originally tendered; the order required Hartford to fund the insured’s defense with independent counsel (i.e., so-called “Cumis” counsel; see San Diego Federal Credit Union v. Cumis Insurance Society, Inc. (1984) 162 Cal.App.3d 358). The insureds retained Squire Sanders as their Cumis counsel.

The trial court in the coverage action then entered an “enforcement order” (drafted by Squire Sanders) which required that Hartford promptly pay all pending defense invoices and to pay future billings within 30 days. The order found that Hartford had breached its defense obligation and was thus precluded from invoking the “rate provisions” of Civil Code section 2860, although the order recognized that Squire Sanders’ fees still had to be “reasonable and necessary.” The order concluded by stating that if Hartford sought to challenge Cumis counsel’s fees and costs as unreasonable and unnecessary, it could do so by seeking reimbursement after the liability action concluded. Both orders were subsequently affirmed by the Court of Appeal.

When the liability action concluded, Hartford brought a cross-complaint in the coverage action (which had been stayed after the Cumis order) seeking reimbursement from Squire Sanders of that portion of the $13.5 million in fees it had been paid to the extent any such services or expenses were “abusive, excessive, unreasonable or unnecessary.” The trial court sustained a demurrer brought by Squire Sanders on the grounds that Hartford could assert no legal or equitable claim directly against Cumis counsel based on the terms of the Hartford policy with its insureds and that recognition of such a reimbursement cause of action would be contrary to public policy. Hartford appealed but the Court of Appeal affirmed. The Supreme Court of California granted review on the narrow question it articulated as follows: May an insurer seek reimbursement directly from counsel when, in satisfaction of its duty to fund its insureds’ defense in a third party action against them, the insurer pays bills submitted by the insureds’ independent counsel for the fees and costs of mounting the defense, and has done so in compliance with a court order expressly preserving the insurer’s post-litigation right to recover ‘unreasonable and unnecessary amounts billed by counsel? The Court concluded that given the facts of the case, such a right of reimbursement should run directly against Cumis counsel.

Importantly, the Court expressly noted that it was not deciding three material and related questions. In light of the existence of the enforcement order’s express authorization of Hartford to seek reimbursement of excessive fees, the Court felt it need not decide whether absent such an order, an insurer that breaches its defense obligations has any right to recover excessive fees paid to Cumis counsel. Second, the Court did not need to decide whether, in general, disputes over allegedly excessive Cumis fees are more appropriately decided through court action or arbitration. And finally, because the enforcement order expressly provided for resolution of the fee dispute after conclusion of the liability action, the Court would not decide when such disputes generally ought to be decided relative to the underlying litigation.

It was apparent that the fact that Squire Sanders had drafted the very order under which Hartford sought to proceed against it carried great weight with the Court. Indeed, the Court stated that it would express no view as to what rights an insurer that breaches its defense obligations might have to seek reimbursement directly from Cumis counsel in situations other than the “unusual one” before it in this case.

Squire Sanders’ arguments that contractual principles and public policy considerations should preclude such a direct action against independent counsel were also rejected by the Court. The Court found that no term of the insurance policy between Hartford and its insureds would be contravened by permitting such a reimbursement claim. The Court also noted that although Cumis counsel must retain the “necessary independence to make reasonable choices” in representing clients, such independence is “not inconsistent with an obligation of counsel to justify their fees.”

The Court concluded by noting that the standard for determining Hartford’s entitlement to reimbursement would be the same as if its challenge of Cumis counsel’s fees were made contemporaneously, i.e., whether the charges were objectively reasonable at the time they were incurred, under the circumstances then known to counsel; the Court also noted that Hartford bore the burden of proof on the issue of the unreasonableness and lack of necessity of Cumis counsel’s fees.

The decision will likely be narrowly construed in connection with future disputes and limited to the unique facts involved. Perhaps the “lesson” to Cumis counsel is to refrain from becoming involved in coverage litigation between the insured clients and their insurer lest an order they craft come back to haunt them later! For insurers, the opinion illustrates the importance of preserving the right to challenge Cumis fees as unnecessary or unreasonable even where the insurer has been found to have breached some aspect of its defense obligation. However, insurers should use caution in such circumstances where Cumis counsel was not involved in the preparation of the order in question.

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