Insurance Contract Trends
Insurance Contract Trends07.01.2016
There is a trend in insurance contracts to contain mandatory arbitration provisions for resolving coverage disputes with their insureds. Faced with that prospect, and not surprisingly, there has been an uptick in litigation challenging the enforceability of such provisions, especially when the issues between the insurer and the policyholder go beyond a coverage dispute (i.e., bad faith, failure to settle…..). A California Appellate Court last month addressed the issue of an arbitration within the context of a legal malpractice action that provides some guidance as to how a narrow arbitration clause might be applied to such a situation.
To begin with, it is useful to point out that two of the more common arguments to defeat an arbitration clause in an insurance policy (or any contract for that matter) has been (i) “unconscionability” challenges to arbitration; and, (ii) the issue in dispute falls outside the scope of the arbitration provision at issue.
With respect to the former, last year, the California Supreme Court in Sanchez v. Valencia found that unconscionability may defeat arbitration provided that the theory employed does not treat arbitration agreements differently from other contracts, or “disfavor arbitration as applied by imposing procedural requirements that ‘interfere with fundamental attributes of arbitration’” such as lower costs and speed. In deciding whether the arbitration contract at issue was unconscionable, the Court provided guidance on how it should be applied. Specifically, the Court highlighted the several different formulations of substantive unconscionability appear in California cases, such as “overly harsh,” “unduly oppressive,” “so one-sided as to ‘shock the conscience,’” and “unfairly one-sided.”
In connection with the latter, last month, the California Court of Appeal (Second District) in Rice v. Downs reversed a trial Court decision compelling the parties to a breach of contract, breach of fiduciary and legal malpractice dispute to arbitrate pursuant to a partnership operating agreement. It was alleged that the attorney failed to advise of multiparty conflicts of interest, engaged in business with clients, and by provided poor or incorrect legal advice. The lawyer moved to compel arbitration, contending that the arbitration clause in the operating agreement extended to the LPL claim. The trial court granted the motion finding the clause which provided that “any controversy between the parties arising out of this Agreement shall be submitted to the American Arbitration Association for arbitration in Los Angeles, California” was broad enough to include tort claims.
The California Appellate Court disagreed and reversed, noting that ordinarily disputes “arising from” or “arising out of” agreements are to be more limited in scope than clauses making disputes subject to arbitration if they relate to “any controversy arising out of or related to this agreement.” However, here, the Court of Appeal held that, although the dispute would meet the “any controversy” element, the “tort claim(s) based upon violation of an independent duty or right originating outside of the agreement does not arise from the agreement”. To write a broad clause covering disputes having any significant relationship to the agreement, the clause would have had to include words like “arising in connection with.” Thus, The Appellate Court concluded that the plaintiff’s tort claims were outside the operating agreement’s narrow arbitration agreement because they all flowed from the defendant lawyer’s breach of the duty of care and fiduciary duty he owed as a lawyer to the plaintiff client, not from the terms of the operating agreement even though the lawyer was a partner and a party to its operating agreement.
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