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Issues In Forum Selection: Avoiding Federal Abstention In Insurance Coverage Disputes

March 02, 2011 BY Jason Prine

          An insurer has at least three options when presented with a liability claim or suit against an insured:  (1) accept the claim and defend the insured if suit is filed; (2) deny the claim and refuse a defense; or (3) defend the case under a reservation of rights and file a declaratory judgment action seeking a judicial determination that there is no coverage under the specific policy provisions at issue.  This article will discuss forum selection issues that may arise when an insurer chooses option 3.  In order to avoid a race to judgment and the prosecution of nearly identical claims in both federal and state court, an insurer bringing a federal declaratory judgment can consider the impact pleadings have on use of the more typically robust case management of federal courts. 

When faced with the defense of a doubtful claim, an insurer may file a declaratory judgment action.

            In Georgia, an insurer that denies coverage and refuses to defend an action against its insured, when it could have done so with a reservation of its rights as to coverage, could become bound to pay the amount of any settlement within a policy's limits made in good faith, plus expenses and attorneys' fees.  Southern Guar. Ins. Co. v. Dowse, 278 Ga. 674, 605 S.E.2d 27 (2004)  In addition, an improper refusal to defend can trigger "bad faith" penalties under O.C.G.A. § 33‑4‑6, which includes a penalty up to 50% of the insurer’s liability for the loss.

            While an outright denial carries risks, an insurer also may not be able to assume the defense of a doubtful claim and wait to decide coverage issues because an insurer could waive the right to deny coverage if it assumes and conducts the defense of an insured with knowledge of facts which would constitute non-coverage under the policy.  In Richmond v. Georgia Farm Bureau Mut. Ins. Co., 140 Ga. App. 215, 231 S.E.2d 245 (1976), the Georgia Court of Appeals held that a safe course of action for an insurer in this position is to enter a defense under a reservation of rights and then proceed to seek a declaratory judgment.  Doing so generally protects the interests of the insured while also limiting an insurer’s liability under the policy to only those claims that it agreed to cover and for which it received a premium. 

   The proper forum for a declaratory judgment action involves issues of choice.

            Once an insurer in Georgia has decided to file a declaratory judgment action, it must decide whether to do so under federal or state law as both provide for declaratory judgment as a remedy.   An insurer may prefer to litigate a coverage dispute in federal court rather than state court because of perceived neutrality, impartiality, or expertise.   If so, there must be some basis for federal court jurisdiction other than the desire for a judicial declaration of rights under an insurance contract because a declaratory judgment is merely a remedy and not a basis for jurisdiction under federal law.  The most common jurisdictional basis will be the diversity of citizenship of the parties, i.e., that the plaintiff(s) and defendant(s) are citizens of different states.  See 28 U.S.C. § 1332.   

            Even if an insurer files a declaratory judgment action in federal court, an insured arguably may still bring an almost identical declaratory judgment action in state court seeking a declaration that there is coverage under the policy.  In such cases, the courts must be decide which one will hear the case, or the parties will be forced to prosecute virtually identical actions in different courts.  Unless one court declines to hear the case, the parties are left in a race for judgment.  Since the first decision on a claim generally precludes a party from litigating the same claim in other courts, a failure to consider strategy may deprive a party of its choice of federal forum if there is a quick decision in the state court.  The final section will discuss considerations of these conflicts in two situations:  (1) when the state court action is filed first and (2) when the federal action is filed first. 

Insurers should plan strategy if they want to take advantage of a federal forum.

            When the state court action is filed first, a federal court’s decision is simpler because the United States Supreme Court stated that the “gratuitous interference with the orderly and comprehensive disposition of a state court litigation should be avoided.”  Ameritas Variable Life Ins. Co. v. Roach,  411 F.3d 1328, 1330 (quotingBrillhart v. Excess Ins. Co. of Am., 316 U.S. 491, 494–95 (1942)).  Thus, when faced with prior pending state court litigation involving the same coverage issues under the same policy, federal courts will frequently abstain and decline to hear the declaratory judgment action.

            When the federal action precedes the state court action, a federal court must balance the right of the declaratory judgment plaintiff to select its preferred forum and the interests of the state courts in deciding questions of state law.  In Ameritas, the Eleventh Circuit Court of Appeals provided a set of non-exclusive factors courts should consider when balancing these competing interests:  (1) the strength of the state's interest in having the issues raised in the federal declaratory action decided in the state courts; (2) whether the judgment in the federal declaratory action would settle the controversy; (3) whether the federal declaratory action would serve a useful purpose in clarifying the legal relations at issue; (4) whether the declaratory remedy is being used merely for the purpose of “procedural fencing” — that is, to provide an arena for a race [to final judgment] or to achieve a federal hearing in a case otherwise not removable; (5) whether the use of a declaratory action would increase the friction between our federal and state courts and improperly encroach on state jurisdiction; (6) whether there is an alternative remedy that is better or more effective;  (7) whether the underlying factual issues are important to an informed resolution of the case; (8) whether the state trial court is in a better position to evaluate those factual issues than is the federal court; and (9) whether there is a close nexus between the underlying factual and legal issues and state law and/or public policy, or whether federal common or statutory law dictates a resolution of the declaratory judgment action.

            When there are no novel issues of state insurance law, state courts seemingly have no more interest in deciding a case than a federal court, and both courts can effectively craft a remedy and resolve the dispute.  In such cases, the most important factor will be whether the federal court perceives some “procedural fencing,” i.e., using the declaratory judgment as an inefficient, vexatious, and duplicative litigation strategy.  If so, a federal court is likely to decline to hear the case.  Finally, if factual questions in the underlying liability case impact the coverage issues raised in a declaratory judgment action, the federal court hearing the coverage case might abstain in favor of the state court where the liability case is pending.           

            Although whether to abstain is a decision left largely to the sound discretion of the federal court, there are several things that might be utilized to try to prevent deprivation of the choice of a federal forum.  First, include all relevant parties and individuals in the federal action and determine that their inclusion would not destroy federal jurisdiction.  This means including at least the insured, the liability plaintiff, the insured’s co-defendants, and other interested parties.  This minimizes the chance that the federal court will decline to hear the case because possible parties with some interest in the policy proceeds were not included. 

            Second, have counsel try to speed up the process in the federal action so that if there is a race to judgment, the decision is likely to come first from the chosen federal forum.  For example, motions for summary judgment should be filed early if extensive discovery is not needed to support such a motion.    

            If the foregoing steps are taken, an insurer bringing a federal declaratory judgment action will have a good chance to avoid abstention and to keep the case in a preferred federal forum while avoiding potential anti-insurer bias in state court.

The Journal is a publication for the clients of Drew Eckl & Farnham, LLP. It is written in a general format and is not intended to be legal advice to any specific circumstance. Legal Opinions may vary when based upon subtle factual differences. All rights reserved. 

Editorial Board:

H. Michael Bagley