Narrowly Construing “Voluntary Payments” Provisions as a Limitation on Coverage

By David A. Gauntlett*

Introduction

Standard Commercial General Liability (“CGL”) policies contain a “Voluntary Payments” clause, which states the insurer must not “voluntarily make a payment, assume any obligation, or incur any expense for damages [or] loss[.]”[1] Courts have recognized that this language cannot be enforced literally as it is written.[2] Litigation over these provisions typically focuses on the actions of the policyholder, but, interpreted broadly, these provisions could allow insurers to bypass state laws requiring prejudice for late notice. Furthermore, they may incentivize insurers to delay their decisions of whether to defend in the hope that the underlying lawsuit will resolve itself. Neither of these practices should be tolerated by the courts.

Policy Provisions Should Not Override State Laws Requiring Prejudice

In states where an insurer’s duty to defend is triggered the moment a Complaint is filed, the provision is generally only enforced if the insurer is prejudiced.[3] New York appears to be the only potential exception among the Complaint-trigger jurisdictions[4] that may allow enforcement without prejudice. A federal judge noted in dicta that a “Voluntary Payments” provision would create a “narrow exception to this [Complaint-trigger] rule” that would allow an insurer to effectively side-step the state’s prejudice requirement.[5] To support this conclusion, the judge cited Smart Style,[6] but such reliance is problematic for three reasons.

First, Smart Style predated New York’s passage of a statute preventing insurers from denying claims based on late notice absent prejudice to the insurer.[7] In passing that statute, the New York legislature was clear in their intent to stop insurers from denying valid claims based on mere technicalities.[8] The “technicality” nature of the “Voluntary Payments” provision is especially clear when the insured is entitled to independent counsel, meaning the insurer could not have been prejudiced by its inability to control the defense.[9]

Second, Three cases were cited by the court as a basis for the enforcement of the “Voluntary Payment”—two from California[10] and one from Rhode Island.[11] Neither of these forums make filing of the lawsuit the trigger to secure policy benefits, in contrast to the law of New York. Although the court recognized this rule, it did not recognize the impact of the distinction when discussing the cited cases.

Third, the court allowed defense counsel to continue after recognition of a defense, but it never analyzed whether the agreement to defend was subject to a Reservation of Rights (“ROR”) that would have secured the right to independent counsel from the start. The policyholder also never demanded an ROR that would have precipitated a right to independent counsel.[12] This is critical as a right to independent counsel would have undermined the court’s rationale for enforcing the provision.[13]

A subsequent New York federal court implicitly disagreed with the rationale of Smart Style. In Abrams v. RSUI Idemnity Co., 272 F. Supp. 3d 636, 643 (S.D.N.Y. 2017), the court examined the same issue under Delaware law. It cited Episcopal Church and ruled against the insured only because Delaware, unlike South Carolina and New York, does not have the same complaint-trigger rule. The Smart Style holding was explicitly challenged in Enchante Accessories, Inc. v. Navigators Ins. Co., 218 N.Y.S.3d 313 (2024) and remains unresolved as the decision was appealed to the New York Court of Appeals, which has not yet determined whether it will grant review.

Constructive Denial Undermines “Voluntary Payments” Provision

While insurers denying pre-tender defense fees based on a “Voluntary Payments” provision is inherently problematic,[14] an extreme situation might feature an insurer strategically prolonging its “investigation” of the claim while the underlying action approaches resolution. This would enable the insurer to monitor the case’s progress and assess the amount of post-tender fees. It could then decide between (1) denying the entire claim and directly implicating the late-notice statute or (2) accepting the defense, paying the post-tender fees, and relying on the “Voluntary Payments” provision to deny pre-tender fees.

Delaying in this manner risks the underlying action concluding during consideration. This could serve as a constructive denial of the claim, regardless of the insurer’s eventual decision. In many states, delay on its own is sufficient for a constructive denial.[15] One federal court applying New York law stated “the length of the delay is not the only factor that courts consider . . . [.] [A] plaintiff bears the burden of demonstrating discriminatory intent.”[16] That intent is readily evident where the insurer fails to respond to a defense request until the publicly available docket of the underlying action reveals an imminent settlement. While most jurisdictions have yet to address this issue, a failure to agree to defend during the pendency of the action has to be treated as a constructive denial of a defense, regardless of whether the insurer later accepts its defense responsibilities.

“Voluntary Payments” Provisions Must Be Narrowly Construed

A bedrock principle of insurance coverage law is that exclusions must be interpreted strictly against the insurer.[17] Insurers inevitably argue that the “Voluntary Payments” provision escapes this rule since it is not an explicit exclusion. This is a distinction without a difference. As courts across the country have concluded, the rules of construction for exclusions apply to any limitation on coverage:

• Signal Prods., Inc. v. Am. Zurich Ins. Co., No. 213CV04581CASAJWX, 2014 WL 12782198, at *8 (C.D. Cal. Aug. 4, 2014) (“Having consented to Signal’s representation by independent counsel, the insurer cannot now invoke the NVP provision to bar payment of the costs of that representation.”)

• In re Adelphia Commc'ns Corp., 638 B.R. 506, 515 (Bankr. S.D.N.Y. 2022) (“In the absence of such a clear expression of limitation, or if the policy provisions are inconsistent or ambiguous, the insurance contract must be construed in favor of coverage and against limitations.”)

• RSUI Indem. Co. v. The Lynd Co., 466 S.W.3d 113, 129 (Tex. 2015) (applying exclusion rules of construction to a “Limits of Liability” provision)

Conclusion

As more states adopt statutes preventing denials for late notice, insurers are turning to “Voluntary Payments” provisions to bypass legislative intent and continue denying claims based on technicalities. Some states have been quick to shut down such efforts. In those others, insurers may try to game the system by delaying decisions. Policyholders must enforce their rights if that delay becomes a constructive denial, either due to resolution of the underlying action or exceeding a statutory requirement for time to respond to the claim.

*David A. Gauntlett is a principal of Gauntlett & Associates and represents policyholders in insurance coverage disputes regarding intellectual property, antitrust, and business tort claims, as well as in the underlying actions. Mr. Gauntlett can be reached at (949) 514-5662 or dag@gauntlettlaw.com. For more information, visit Gauntlett & Associates at www.gauntlettlaw.com.

[1] Many policies contain substantially similar language. The quoted provision here is taken from Navigators’ Form NAV NP3 + Cyber (07/16) CGL coverage.

[2] Smart Style Indus. v. Pa. Gen. Ins. Co., 930 F. Supp. 159, 164 (S.D.N.Y. 1996).

[3] See, e.g., Episcopal Church v. Church Ins. Co., 53 F. Supp. 3d 816, 828 (D.S.C. 2014) (“Plaintiff's duty to provide notice of a suit is a covenant under the Policy, not a condition precedent to CIC-VT's duty to defend [and therefore requires a showing of prejudice from the insurer].”)

[4] Consol. Edison Co. of N.Y. v. Lexington Ins. Co., 2015 S.D.N.Y. LEXIS 101339, *26 (S.D.N.Y. July 30, 2015) (“In New York, an insurer's duty to defend is triggered by the filing of a complaint containing allegations that could possibly bring the action within the scope of coverage . . . .”)

[5] Consol. Edison, 2015 S.D.N.Y. LEXIS 101339 at *26.

[6] Smart Style Indus. v. Pa. Gen. Ins. Co., 930 F. Supp. 159, 163 (S.D.N.Y. 1996).

[7] N.Y. Ins. Law § 3420(a)(5). 

[8] Hernandez Castillo v. Prince Plaza, LLC, 981 N.Y.S. 2d 906, 908 (N.Y. Sup.Ct. Mar. 3, 2014) (“As reflected in the legislative history of the amendment, it is both fair and good public policy that liability claims against insurers be resolved on the merits rather than on technicalities.”)

[9] See David A. Gauntlett, California Supreme Court’s Pitzer Opinion Unearths New Opportunities to Revisit Prior Insurer Denials of Policy Benefits, https://www.gauntlettlaw.com/news/california-supreme-court-pitzer-opinion-unearths-new-opportunities-to-revisit-prior-insurer-denials-of-policy-benefits (Oct. 3, 2019).

[10] Faust v. Travelers, 55 F.3d 471 (9th Cir. (Cal.) 1995); Crystal Geyser Water Co. v. American Motorists Ins. Co., No. C-94-1531, 1995 WL 590330 (N.D. Cal. Sept. 28, 1995).

[11] Michaud v. Merrimack Mut. Fire Ins. Co., 1994 U.S. Dist. LEXIS 19930 (D.R.I. Nov. 16, 1994).

[12] Sea Tow Servs. Int'l v. St. Paul Fire & Marine Ins. Co., 211 F. Supp. 3d 528, 548 (E.D.N.Y. 2016) (“The New York Court of Appeals has held that when a conflict of interest exists between the insurer and the insured, then the obligation to defend includes an obligation to pay reasonable attorneys' fees for independent counsel for the insured.”)

[13] Smart Style, 930 F. Supp. at 164 (“Penn General had no opportunity to control the litigation or to influence the litigation strategy, as it had not been placed on notice of the lawsuit.”)

[14] Setting aside the public policy concerns, “Voluntary Payments” provisions are typically restricted to specific payments, such as “damages” and “loss,” the latter of which is usually a defined term. Neither term ordinarily includes defense expenses.

[15] See, e.g., Anderson v. Va. Sur. Co., 985 F. Supp. 182, 192 (D. Me. 1998).

[16] Logan v. Matveevskii, 175 F. Supp. 3d 209, 230 (S.D.N.Y. 2016).

[17] Atlantic Mut. Ins. Co. v. J. Lamb, Inc., 100 Cal. App. 4th 1017, 1039 (2002) (“[A]n insurer that wishes to rely on an exclusion has the burden of proving, through conclusive evidence, that the exclusion applies in all possible worlds.”)