A Massachusetts Superior Court last month issued a significant victory for policyholders. In the case Holyoke Mutual Insurance v. Vibram, the court ruled that an insurer that provides a defense under a reservation of rights may not later recoup attorney fees from the policyholder if a court ultimately determines there to have been no coverage.

Someone sues you or your company. You submit a claim to your insurance carrier. Your insurer hires a lawyer to represent you. But then your own insurance company turns and brings a new suit against you for a declaratory judgment that it no longer needs to pay your lawyer in the underlying case. In many states, if the court ultimately determines there to be no coverage, the insurer can then go so far as to recoup from you the money the insurer paid your lawyer. At least for now, that is not the law in Massachusetts.

In the Holyoke case, the family of an Ethiopian marathon runner sued Vibram for naming a shoe after the runner without the family’s permission. Vibram submitted the claim to two of its insurers under its commercial general liability policies. The insurers issued a reservation of rights, but tendered a defense to Vibram.

The insurers then brought a separate declaratory judgment action, in which the court determined there was no coverage for the underlying claim. The insurers then sought to recoup from Vibram the insurers’ costs in defending the underlying suit.

Judge Mitchell Kaplan noted that states are split on whether an insurer may recoup its defense costs, and the Massachusetts Supreme Judicial Court has not yet addressed the issue.

Judge Kaplan rejected the insurers’ argument that they never agreed to pay for defense costs that ultimately were not owed, and making them do so would unjustly enrich the policyholder.

Instead, Judge Kaplan noted that an insurer’s duty to defend arises broadly when the underlying complaint shows even a possibility that there may be coverage. He reasoned that insurers are not unjustly enriched by fronting defense costs. Rather, insurers have financial incentives to provide a defense. For example, providing a defense may insulate an insurer from paying a policyholder’s attorney fees in an action by an insured to establish a duty to defend. Providing defense costs may similarly protect an insurer from a bad faith coverage claim and exposure to multiple damages under Chapter 93A. The court explained, that “when in doubt an insurer has an economically sound and self-interested reason to provide a defense under a reservation of right until the coverage issue can be resolved.” Nor, the court reasoned, is there any explicit language in the Vibram policy that would allow for recoupment. The court, however, chose not to force the insurers to pay for the defense costs that had been incurred by Vibram, but not yet paid by the insurers, before the court found there to be no coverage.

Both sides have appealed the decision.

Gardner & Rosenberg, P.C. represents policyholders in all types of complex coverage disputes involving many different types of policies, including Director and Officer, Commercial General Liability, Employment Practices Liability, Errors and Omissions, Life, Homeowners, and Long Term Care.