Excess Insurance and Equitable Subrogation: Oklahoma Clarifies its Equitable Subrogation Rule

Most jurisdictions have held that an insurance company with the primary policy owes a duty of good faith and fair dealing to the insurance company with the excess policy requiring a settlement of claims within the primary carrier’s policy limits where the equality of consideration rule would require a settlement. The logic which underpins the doctrine of equitable subrogation is based on the idea that when an insured purchases excess insurance, the insured has in effect substituted the excess insurer for himself. When no excess insurance is purchased, the insured is, in essence, his own excess insurance and the primary insurer owes the insured a duty of good faith to protect the insured from an excess judgment of personal liability. Steven Plitt and Jordan R. Plitt, Practical Tools for Handling Insurance Cases, § 7:7 at p. 7-40 (Thomson Reuters 2011).

Under the doctrine of equitable subrogation it follows that an excess insurer should assume the rights as well as the obligations of the insured in that situation. In that regard, the excess insurer steps into the shoes of the insured. The duty the primary insurer owed to the insured flows to the excess insurer. Thus, under the doctrine of equitable subrogation in many jurisdictions, an excess liability insurer has the right to assert a claim against a primary insurer for bad faith failure to settle within policy limits when an excess judgment is rendered. At least 27 states have adopted some form of equitable subrogation. See, Practical Tools, § 7:7 at pp. 7-43 to 7-44 listing those jurisdictions. Only a small minority of states have rejected equitable subrogation (Alabama, Connecticut, Delaware, Idaho, Kentucky and Wisconsin).

Recently, the Supreme Court of Oklahoma clarified the doctrine of equitable subrogation under Oklahoma law involving second level excess insurance. In Steadfast Ins. Co. v. Agricultural Ins. Co., 2013 OK 63, 304 P.3d 747, (Okla. 2013), a certified question was presented to the Supreme Court of Oklahoma by the Tenth Circuit U.S. Court of Appeals. The Supreme Court of Oklahoma was asked to answer the following question: “Whether a second-level excess insurer can assert a claim for equitable subrogation against a first-level excess insurer even though the insured has agreed with the first-level insurer that the first-level insurer has exhausted its coverage limits and thus released the first-level insurer from any further obligation under the policy?” The Court answered this question by holding that the second-level excess insurer was permitted to invoke equitable subrogation to assert a claim against the first-level excess insurer.

The Steadfast case involved various flood claims brought against the insured, Grand River Dam Authority (GRDA) from 1993 through 2002. The flooding in question had spanned the entire nine year period of coverage under Steadfast’s policy. Nevertheless, Steadfast and GRDA agreed that the amount Steadfast paid on the claims would be allocated to one policy, the 1993-1994 Steadfast policy. This agreement shifted the costs of defense to Agricultural Insurance Company (Agricultural). Agricultural asserted that the defense costs which had been shifted by the agreement should have been borne by Steadfast in the absence of the agreement. Agricultural sought to recover those costs from Steadfast by equitable subrogation.

The Supreme Court of Oklahoma began its analysis by recognizing there were two viewpoints on the issue of whether equitable subrogation was available to a second-level excess insurer. One viewpoint was represented by the case of Fireman’s Fund Ins. Co. v. Maryland Casualty Co., 65 Cal.App.4th 1279, 77 Cal.Rptr.2d 296 (1998). In the viewpoint represented by the Fireman’s Fund case, Agricultural could not seek equitable subrogation from Steadfast because the agreement reached between the insured and Steadfast consequently extinguished any duty that Steadfast owed.

A second viewpoint was reflected by the Court’s decision in Sharon Steel Corp. v. Aetna Cas. & Sur. Co., 931 P.2d 127 (Utah 1997). This viewpoint recognizes that equitable subrogation can be pursued in spite of a release by an insured. The Court in Sharon Steel refused to allow a release given by an insured to bar equitable subrogation where the insurer that obtained the release did so with notice of its unfair impact upon another insurer.

Under prior Oklahoma case precedent, the equitable subrogation doctrine did not depend upon a specific contractual relationship but arose by implication in equity to prevent an injustice and was based on the relationship of the parties. See, e.g., United States Fidelity & Guar. Co. v. Federated Rural Elec. Ins. Corp., 2001 OK 81, 37 P.3d 828, 831 (2001) (equitable subrogation “does not depend upon a contract but arises by implication in equity to prevent an injustice [and] is based on the relationship of the parties.”); Lawyers’ Title Guar. Fund v. Sanders, 1977 OK 210, 571 P.2d 454, 456 (1977) (equitable subrogation “is a creature of equity, not depending upon contract [nor] upon assignment, privity, or strict suretyship.”).

Prior Oklahoma case law declared that the equitable subrogation principle was “a fluid concept depending upon the particular facts and circumstances based on [the] natural justice of placing the burden of bearing a loss where it ought to be, and without the form of a rigid rule of law.” Steadfast Ins. Co., 304 P.3d at 749; *2, Lawyers’ Title Guar. Fund, 571 P.2d at 456; see also Republic Underwriters Ins. Co. v. Fire Ins., 1982 OK 67, 655 P.2d 544, 547 (1982). Against this backdrop, the Supreme Court of Oklahoma found that GRDA’s agreement with Steadfast, which included a release of further claims, was “the form of a rigid rule of law” that could not ipso facto defeat a claim of equitable subrogation by Agricultural under Oklahoma law.

According to the Oklahoma Court, the GRDA/Steadfast agreement and release was one of the relevant facts and circumstances to be considered in determining the “superior equity as between the parties” and in placing the burden of bearing the loss where it should be under Oklahoma law. A second factor was Steadfast’s notice, if any, of any impact that the settlement and release would have had on Agricultural’s coverage. A third relevant factor was whether the GRDA/Steadfast agreement was consistent with GRDA’s implied duty of good faith and fair dealing with Agricultural which was an implied covenant applicable to all contracting parties. The Court stated: “An excess insurer has a reasonable economic expectation that it will not be responsible on its policy until the insurance at the level lower to the excess insurer has been exhausted in accordance with the express provisions and obligations in the insurance contract.” The Court then held that the foregoing considerations demonstrated that the derivative right rule found in Fireman’s Fund and its progeny was inconsistent with Oklahoma’s broad view of equitable subrogation. Application of the derivative right rule would give undue emphasis to only one aspect of the relationship between GRDA, Steadfast and Agricultural. As such, it represented a “rigid rule of law” that would permit GRDA and Steadfast to alter Agricultural’s reasonable expectations concerning exhaustion and Agricultural’s liability on its excess policy. Application of the derivative right rule also did not take into consideration whether Steadfast’s pursuit of the settlement agreement was done with Steadfast’s knowledge of the potential detriment to, or unfair impact upon, Agricultural’s excess coverage. According to the Oklahoma Court, “there is nothing ‘equitable’ about a strict derivative right rule of equitable subrogation” and therefore the derivative right rule was rejected.