Opinion
No. 03 Civ. 0402 (HB).
October 29, 2004
OPINION ORDER
On September 7, 2004, Republic Insurance Company ("Republic"), defendant and third-party plaintiff in the above-entitled action, submitted the following objections, pursuant to 28 U.S.C. § 636(b)(1) and Fed.R.Civ.P. 72(b), to Magistrate Judge Andrew J. Peck's Order (the "Order") denying Republic's motion seeking attorneys' fees from Folksamerica Reinsurance Company ("Folksamerica"). See Folksamerica Reins. Co. v. Republic Ins. Co., 03 Civ. 0402, 2004 WL 1824320 (S.D.N.Y. Aug. 16, 2004).
I. BACKGROUND
This attorneys' fees case began as a reinsurance coverage dispute between Folksamerica (the reinsurer), Republic (the insurer), and Aon Re Worldwide, Inc. and Aon Specialty Re, Inc. (collectively "Aon") (the reinsurance broker). The underlying action emerged from an alleged late "notice" to Folksamerica of claims under several reinsurance certificates involving two insureds — Clemtex, Ltd. ("Clemtex"), a supplier and/or manufacturer of sandblasting equipment, and Thorpe ("Thorpe"), a masonry and insulation contractor. On December 2, 2003, the Court granted summary judgment to Republic, finding that Folksamerica was required to honor its reinsurance obligations and Republic had not violated the reinsurance certificates. Folksamerica Reins. Co. v. Republic Ins. Co., 03 Civ. 0402, 2003 WL 22852737 (S.D.N.Y. Dec. 2, 2003) (" Folksamerica I"). In Folksamerica I, the Court determined that Folksamerica was not relieved of its obligation to indemnify Republic even if Republic had violated notice provisions in the Clemtex Certificates. Id. 2003 WL 22852737 at *13-14. The Court denied summary judgment with regards to the Thorpe Certificates because the record was incomplete. Folksamerica Reins. Co. v. Republic Ins. Co., 03 Civ. 0402, 2004 WL 1043086 at *1 (S.D.N.Y. May 6, 2004) (" Folksamerica II"). Thereafter, in May of this year, the Court granted Republic's second motion for summary judgment, having determined that Folksamerica was obligated to reinsure Republic on the Thorpe Certificate. Folksamerica II, at *7.
Folksamerica acquired its reinsurance obligations to Republic pursuant to a transfer and assumption agreement that became effective December 31, 1991. As this Court observed in Folksamerica I, it was Mony Re, the reinsurer whose assets and liabilities Folksamerica assumed, who negotiated the reinsurance contracts with Republic; "Folksamerica simply acquired the obligations that had been crafted by its predecessor." Folksamerica I, 2003 WL 22752737 at 3.
After adjudicating the summary judgment motions, the Court referred the issue of attorneys' fees and costs to Magistrate Judge Peck, who denied Republic's motion for attorneys' fees but awarded photocopying costs. Folksamerica Reins. Co. v. Republic Ins. Co., 03 Civ. 0402, 2004 WL 1824320, *1 (S.D.N.Y. Aug. 16, 2004) (" Folksamerica III"). Republic objected to Magistrate Judge Peck's Order, on the grounds that, among other things, the existence of a "duty to defend" clause was unnecessary to trigger the exception outlined in Mighty Midgets, Inc. v. Centennial Ins. Co., 47 N.Y.2d 12, 22 (1979).
II. STANDARD OF REVIEW
Under Title 28, United States Code, Section 636(b)(1)(A), and Federal Rule of Civil Procedure 72(b), a district court evaluating a magistrate's report uses the clearly erroneous standard unless an objection is filed within ten (10) days of service and then a de novo standard is employed. Republic filed objections within ten days. Therefore, we review Magistrate Judge Peck's Order under a de novo standard.
III. DISCUSSION
The facts as set forth in the Magistrate Judge Peck's Order are incorporated herein unless otherwise noted. See Folksamerica III, at *1.
Republic filed four objections to Magistrate Judge Peck's Order. First, Republic argues that Magistrate Judge Peck incorrectly required a "duty to defend" be written directly into the contract to trigger the Mighty Midgets exception. Second, even if a "duty to defend" is required to be written into the contract in order to apply the Mighty Midgets exception, "an obligation to reimburse" is commensurate with a "duty to defend." Third, Folksamerica capitulated to the applicability of the Mighty Midgets exception when it filed its memorandum of law in opposition to Aon's motion for summary judgment. Fourth, Magistrate Judge Peck erroneously relied on policy considerations that were not part of the Mighty Midgets doctrine.
A. Mighty Midgets Exception
Pursuant to the American rule, "parties may agree by contract to permit recovery of attorneys' fees, and a federal court will enforce contractual rights to attorneys' fees if the contract is valid under applicable state law." United States Fid. Guar. Co. v. Braspetro Oil Servs. Co., 369 F.3d 34, 74 (2d Cir. 2004). Similarly, under the New York rule, "attorneys' fees are the ordinary incidents of litigation and may not be awarded to the prevailing party unless authorized by agreement between the parties, statute, or court rule. This policy `provides freer and more equal access to the courts . . . [and] promotes democratic and libertarian principles.'" Oscar Gruss Son. Inc. v. Hollander, 337 F.3d 186, 199 (2d Cir. 2003) (quoting Mighty Midgets, Inc. v. Centennial Ins. Co., 47 N.Y.2d 12, 22 (1979)).
The main contention between the parties on the subject of attorneys' fees focuses on the narrow exception carved out by the New York courts, and set forth in Mighty Midgets, to the general American rule that a prevailing party cannot recover attorneys' fees. Under the Mighty Midgets doctrine, an insured is permitted to recover fees when the policyholder "has been cast in a defensive posture by the legal steps an insurer takes in an effort to free itself from its policy obligations." 47 N.Y.2d at 21. As the Second Circuit recognized, however, a majority of federal courts have concluded that the Mighty Midgets doctrine provides a perverse incentive because "allowing fees under these circumstances would create an incentive for the insurer to refuse to defend in the underlying suit, thereby leaving it up to the insured to bring a declaratory action seeking coverage." United States Underwriters Ins. Co. v. City Club Hotel, LLC, 369 F.3d 102, 110 (2d Cir. 2004).
In Underwriters, an insurer sought a declaratory judgment which provided that, under a general commercial liability insurance policy, it had no "duty to defend" or indemnify the insured in an underlying personal injury action. Id. at 110. Accordingly, the Second Circuit recognized the Mighty Midgets exception and reviewed both the federal district court and New York Appellate Division opinions on the issue. The majority of federal district courts have concluded, "[i]n a case in which it was clear that the insurer had discharged its duty to defend in the underlying action, the Court of Appeals would retreat from its categorical statement in Mighty Midgets and would not award attorneys' fees to the insured." Id. at 111. Alternatively, the majority of New York Appellate Divisions "have concluded that Mighty Midgets requires the awarding of fees whenever the disclaimer declaratory action has been brought by the insurer — that it does so, that is, even where an insurer does not breach its duty to defend in the underlying suit." Id. at 111.
The Second Circuit acknowledged a significant divergence between "the majority of New York lower courts, and the majority of federal district courts," which has resulted in "an unusual, and undesirable, degree of uncertainty in cases of this sort." Id. at 112. The Second Circuit declined to resolve the conflict and, instead, certified the following issue to the New York Court of Appeals:
[W]hether, in a case in which an insurance company has brought a declaratory judgment action to determine that it does not have policy obligations but defended in the underlying suit, a defendant prevailing in the declaratory judgment action should be awarded attorneys' fees expended in defending against that action?Id. at 112. In dicta, however, the Second Circuit went on to clarify its contention that "there is a substantial argument that a prevailing insured that has been defended in the underlying suit is not entitled to attorney's fees. . . ." Id.
Unlike Mighty Midgets and Underwriters, the case before the Court does not involve insurance law but reinsurance law. See infra at 8. The parties agree, however, that the Mighty Midgets exception is an issue, but diverge on its application and interpretation. (Republic's Mtn. Obj. to Or. at 4-7; Folksamerica's Mtn. Op. Obj. to Or. at 5-13, 13). The parties further agree that the insurance cases provide guidance because no reinsurance law on point exists. ( Id.)
B. Republic's Objections to Magistrate Judge Peck's Order
1. Mighty Midgets and the Duty to Defend
Republic argues that a reinsurance contract, which contains "duty to defend" language, is not a prerequisite to an attorneys' fees award and, therefore, Magistrate Judge Peck's decision was error
It is "well settled that an insured cannot recover his legal expenses in a controversy with a carrier over coverage, even though the carrier loses the controversy and is held responsible for the risk." Sukup v. State, 19 N.Y. 2d 519, 522 (1967) (citations omitted). The apparent contradiction between Sukup and Mighty Midgets was reconciled by denying attorneys' fees to policyholders in Aetna Casualty Surety Co. v. Dawson. 444 N.Y.S. 2d 10 (1st Dep't 1981). In Dawson, the insured was denied attorneys' fees because, among other things, the insurer had no "duty to defend" the insured. Id. at 11. Absent a "duty to defend," provision or a special agreement between the parties, the court held that "an award of counsel fees is no more justified here than it would be in a dispute involving a sales contract or a lease." Id. at 12.
The Dawson decision controls the adjudication of Republic's objections because the Court is applying New York state law consistent with the "center of gravity" or "contacts" test articulated in Lazard Freres Co. v. Protective Life Ins. Co., 108 F.3d 1531, 1539 (2d Cir. 1997). See Folksamerica I, at *5-6.
In order to trigger the Mighty Midgets exception, the insured must not only be cast in a defensive posture by the insurer, but "cast in a defensive posture by its insurer in a dispute over the insurer's duty to defend." N.Y. Marine Gen. Ins. Co. v. Tradeline, 266 F.3d 112, 130 (2d Cir. 2001) (citation omitted) (emphasis added). The Second Circuit explained the importance of the "duty to defend" clause under New York law in Employers Mut. Cas. Co. v. Key Pharmaceuticals:
Mighty Midgets does no more than carve out a narrow exception to the general rule that litigation costs are not recoverable by a winning litigant; that exception arises when a policyholder has been cast in a defensive posture by its insurer in a dispute over the insurer's duty to defend.75 F.3d 815, 824 (2d Cir. 1996) (emphasis added).
Here, Folksamerica does not have a "duty to defend" Republic under the facultative reinsurance certificates. The relevant provision of the Certificate states:
All loss settlements made by the Company [Republic], provided they are within the terms and conditions of the original policy(ees) and within the terms and conditions of this Certificate of Reinsurance, shall be binding on the Reinsurer. Upon receipt of a definitive statement of loss, the Reinsurer shall promptly pay its proportion of such loss as set forth in the Declaration. In addition, thereto, the Reinsurer shall pay its proportion of expenses (other than office expenses and payments to any salaried employees) incurred by the Company in the investigation and its proportion of court costs and interest on any judgment or award, in the ratio that the Reinsurer's loss payment bears to the Company's gross loss payments.
(Capuder Ex. E, Thorpe and Clemtex Facultative Reinsurance Certificates at 2(d)) (emphasis added). According to the Certificates, upon "receipt of a definitive statement of loss" the reinsurer is to indemnify certain enumerated costs. Noticeably absent from the certificates detailing the costs that Republic was indemnified against, was the "duty to defend." While the contract provides for proportional reimbursement of "court costs" which Republic incurs in defense of the underlying action, the relevant section fails to attribute to Folksamerica a "duty to defend" in any such action. In other words, the Certificates only require Folksamerica to provide Republic with post-litigation reimbursement, but failed to require Folksamerica to represent Republic. Absent a clear indication of a "duty to defend" clause in Republic's reinsurance contract, under the Mighty Midgets exception and its progeny, attorneys' fees cannot be awarded. See Employers Mut. Cas. Co., 75 F.3d at 824.
2. Obligation to Reimburse and Duty to Defend
Assuming arguendo that the "duty to defend" is a condition precedent for the application of the Mighty Midgets exception, Republic contends that the absence of a specific "duty to defend" clause does not negate Folksamerica's obligation to reimburse Republic for costs, including attorneys' fees, in the underlying litigation.
Mighty Midgets does not address the "duty to defend" and "obligation to reimburse" distinction. However, the absence of a specific "duty to defend" language was an essential factor in the Second Circuit's denial of attorney's fees in Employers Mut. Cas. Co. v. Key Pharms., 75 F.3d 815, 824 (2d Cir. 1996). There, the Second Circuit held, "[u]nder New York law, it is well settled that an insured cannot recover his legal expenses in a controversy with a carrier over coverage, even though the carrier loses the controversy and is held responsible for the risk." Id. at 824. The Mighty Midgets exception was not triggered because the policyholder had not "been cast in a defensive posture by its insurer in a dispute over the insurer's duty to defend" and "the duty to defend [was] not at issue." Id. at 824 (emphasis added).
Absent a "duty to defend" clause in the actual insurance policy, the dispute in my view is essentially a contract claim, and thus "an award of counsel fees is no more justified here than it would be in a dispute involving a sales contract or a lease." Dawson, 444 N.Y.S. 2d at 12. In a commercial contract, an explicit duty to indemnify provision, coupled with the absence of any mention of a "duty to defend," suggests a clear intent to exclude the "duty to defend" from the agreement. "[W]here the parties have made an express contract, the court should not find a different one by `implication' concerning the same subject matter if the evidence does not justify an inference that they intended to make one." Arthur L. Corbin, 6-25 Corbin on Contracts § 564 (Revised Ed. 2003). Moreover, "[s]ophisticated parties . . . are held to the terms of their contracts." UniCredito Italiano SPA v. JPMorgan Chase Bank, 288 F. Supp. 2d 485, 499 (S.D.N.Y. 2003).
Where, as here, the insurers have no contractual duty to defend, the Mighty Midgets exception for attorney's fees does not apply.
3. Concession to the Mighty Midgets Exception
Republic also argues that Folksamerica conceded to the Mighty Midgets exception's applicability to this case in previously filed court papers and Magistrate Judge Peck's failure to address Folksamerica's alleged concession in the Order was error. Specifically, Republic points to Folksamerica's memorandum of law in opposition to Aon's motion for summary judgment, which states:
Because of Aon's failure to discharge its putative duty, which it had according to its own admission, Folksamerica has expended significant attorney's fees on its own case and could conceivably be liable to Republic for the payment of its attorney's fees, in the unlikely event that Republic is successful in this action. It is the payment of these fees which is a large element of the damages Folksamerica has sought against Aon.
Van Tol Decl. at Ex. B, 6-7. After granting Republic's summary judgment motion with respect to the Clemtex Certificate, Republic argues, Folksamerica retreated from the broad interpretation of the Mighty Midgets exception argued in the opposition papers to Aon's motion for summary judgment to a "wholly conditional" exception. Van Tol Decl. at Ex. B, 16-17. Republic maintains that the representations made in its submissions to the Court are binding and the Court should require Folksamerica's adherence to those statements regardless of their effect.
Nonsense, the statement made by Folksamerica was buried in a passage in a moving brief, unsubstantiated by any additional support or argument beyond a Third Department case, De Vore v. Balboa Ins. Co., 500 N.Y.S. 2d 371 (3d Dep't 1986), providing very little guidance on the attorneys' fees issue. In addition to the conditional language throughout Folksamerica's Mighty Midgets exception analysis, Folksamerica consistently opposed any parties' entitlement to recover sums, including attorneys' fees.
4. Objections to Magistrate Judge Peck's Policy Conclusions
Finally, Republic objects to Magistrate Judge Peck's interpretation of the policy considerations underlying the Mighty Midgets rule. Essential to Magistrate Judge Peck's decision is the distinction between insurance and reinsurance. In particular, Magistrate Judge Peck determined that the apparent concerns which prompted the formulation of the Mighty Midgets rule (that individual policyholders who lacked the opportunity to negotiate for the right to attorney's fees may be sued by their insurance company and forced to bear the costs of the litigation) do not apply to reinsurance contracts involving sophisticated commercial entities, who are better situated to negotiate the complex and nuance terms of their agreements.
Republic disagrees, and argues that the Mighty Midgets rule contained no such limitation. In support, Republic cites a few Southern District cases in which corporations are awarded attorney's fees in litigation with their insurers as evidence that the Mighty Midgets rule should not depend on the sophistication of the parties. However, the cases relied upon by Republic do not involve two sophisticated commercial entities, knowledgeable in the complex and highly specialized reinsurance industry. Indeed, as the Court noted in Folksamerica I, reinsurance is not insurance. "The reinsurer is not directly liable to the original insured" and "reinsurers do not examine risks, receive notice of loss from the original insured, or investigate claims." Folksamerica I, 2003 WL 22852737 at *1.
See, e.g., American Motorists Ins. Co. v. GTE Corp., No. 99 Civ. 512, 2000 WL 1459813 (S.D.N.Y. Sept. 29, 2000); National Union Fire Ins. Co. of Pittsburgh, Pa. v. Stroh Companies, No. 98 Civ. 8428, 2000 WL 640665 (S.D.N.Y. May 17, 2000); National Grange Mut. Ins. Co. v. Usar Corp., No. 98 Civ. 4650, 2002 WL 373240 (S.D.N.Y. Mar. 8, 2002).
In the reinsurance context, seemingly a matter of first impression, the concerns discussed in both Mighty Midgets and Underwriters are not as compelling here because the relationship between the reinsurer and the reinsured is fundamentally different from insurer and the insured. Reinsurers are generally less likely to undertake the defense of the reinsured, who will itself be an insurance company capable of defending itself. Travelers Indem. Co. v. Scor Reinsurance Co., 62 F.3d 74, 76 (2d Cir. 1995). Specifically, the role of the reinsurer is to assist in the distribution of risk that the reinsured faces in its policy with the insured. The purpose of reinsurance is to reimburse, not represent or defend. Travelers Indem., 62 F.3d at 76 (2d Cir. 1995) ("The relationship created [between reinsurer and reinsured] is strictly one of indemnification.") Accordingly, the policy considerations behind Mighty Midgets and the arguments as set forth by Republic are somewhat different in the reinsurance context. Even so, Judge Peck correctly recognized the policy implications of Mighty Midgets and properly applied them in the reinsurance context, "the insurer and reinsurer are both corporations and can presumably have more ability to negotiate terms. An insurance company that wants to be able to recover its attorneys' fees in the event of a declaratory judgment action by the reinsurance company . . . can negotiate to include such an attorneys' fee provision in the reinsurance agreement." Folksamerica III, at 4. In short, Republic's request for attorneys' fees was correctly denied by Magistrate Judge Peck because the contract between Republic and Folksamerica failed to provide the language necessary to trigger such an award of attorneys' fees.
See 13A John A. Appleman Jean Appleman, Insurance Law and Practice § 7681, at 480 (1976); 19 George J. Couch, Cyclopedia of Insurance Law § 80:1, at 624 (2d ed. 1983).
III. CONCLUSION
After oral arguments and a de novo review of the record, I conclude that the record and the law in all material respects support Magistrate Judge Peck's denial of attorneys' fees. For the aforementioned reasons, Republic's objection to the order by Magistrate Judge Peck denying the motion for attorneys' fees is DENIED.
IT IS SO ORDERED.