Court of Appeal Adopts Broad Approach
to Insurers’ Duty to Defend
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In its recent decision in AIG Insurance v. Lloyd’s Underwriters, 2022 ONCA 699, the Ontario Court of Appeal adopted and affirmed a broad approach to insurers’ obligation to defend their insureds against claims brought by third parties. The Court held the “mere possibility” of coverage was enough to trigger the duty to defend, even in the face of strong evidence suggesting the policy would not in fact apply to the underlying claim.
A Policyholder’s Right to a Paid Defence – A Primer
When a policyholder is sued, it often has a powerful right at its disposal – to be defended at its insurer’s expense. Defence costs can run to the hundreds of thousands or millions of dollars, making this “duty to defend” potentially very valuable. And a successful defence may ultimately negate any further liability on the part of the insured.
In order to trigger the insurer’s duty to defend, an insured does not have to demonstrate that its insurance policy actually provides coverage. Rather, the Supreme Court of Canada has ruled that an insured need only show a “mere possibility” that a claim may be covered by its insurance policy in order to trigger an insurer’s duty to defend. This is a low threshold to meet and often translates into an insurer paying for significant defence costs over many years.
In considering whether there is a “mere possibility” of coverage, courts have ruled that the focus of the inquiry is the content of the pleading or claim against the insured. If the claim alleges facts that give rise to a “mere possibility” of coverage under the policy, then the duty to defend is engaged. Courts generally will not look to “extrinsic evidence” beyond the pleadings when considering this issue. This is referred to as the “pleadings rule.”
Moreover, in a preliminary dispute over the insurer’s duty to defend, courts are reluctant to adjudicate facts that are live issues in the underlying claim. In essence, the insured has the “benefit of the doubt” in obtaining coverage for its defence costs, while the underlying claim is adjudicated.
A Recent Case Study on an Insured’s Right to a Paid Defence
A recent decision of the Ontario Court of Appeal illustrates these principles. In AIG Insurance, the Court of Appeal took a broad approach to an insurer’s duty to defend by declining to adjudicate allegations which could, if true, negate coverage. This was so, even though the insured had in its possession a report (referred to in the pleadings) that seemed to confirm the truth of those allegations. Instead, the Court ruled that the policyholder can enjoy the benefit of its insurer paying for its defence while those allegations are litigated in the underlying claim.
The AIG Insurance case involved a property damage claim against the City of Timmins. The city was insured by two insurers. Both insurers provided general liability insurance to the City during successive policy years. AIG provided the City coverage for 2016 and 2017. Lloyd’s provided coverage for 2018 and 2019.
The plaintiff homeowners, the Forgets, brought an action against the City in negligence for progressive property damage, occurring from 2016 to 2019. AIG agreed to defend the City, but Lloyd’s refused. AIG brought a successful application requiring Lloyd’s to defend the action and Lloyd’s appealed the decision.
The Forgets built a residence on their property after obtaining a building permit from the City. Starting in 2016, the slope on the property adjoining the Forgets’ began to fail. In 2017, the City hired a geotechnical firm to complete a report giving a preliminary assessment of the condition of the slope of the property adjoining the Forgets’. In December 2019, the City issued an order requiring the Forgets to remove, relocate or demolish their home. The Forgets then brought their claim in negligence against the City.
Lloyd’s argued there was no “occurrence” to engage coverage under its policy. Lloyd’s contended that any property damage caused had already manifested by 2017, when the City received the geotechnical report setting out potential remedial actions and recommendations to mitigate further damage. Lloyd’s submitted that the City’s failure to proceed with the recommended remediation meant any ongoing damage to the Forgets’ property was no longer “accidental” and therefore there was no “occurrence” when Lloyd’s policy was on risk.
Lloyd’s argued that, because the report was referred to in the pleadings, the traditional pleadings rule required the application judge to accept its contents as true. The application judge disagreed and held that Lloyd’s had a duty to defend. The Court of Appeal upheld this ruling.
The Court of Appeal found that the report was not part of the pleadings and therefore not subject to the traditional pleadings rule. The Court found the report was “premature” evidence, which the Supreme Court of Canada defined in Monenco Ltd. v. Commonwealth Insurance Co., 2001 SCC 49 as evidence that would require findings to be made before trial that would affect the underlying litigation. Hence, the Court found the contents of the report should not be assumed to be true for the purposes of determining whether the insurer had a duty to defend.
The Court of Appeal’s decision illustrates that the primary concern when identifying extrinsic or premature evidence is to avoid the duty to defend application hearing becoming “a trial within a trial”. When the referenced evidence contains contested facts or issues which could affect the underlying litigation, the Court will not assume its contents to be true.
This decision highlights the strength of a policyholder’s right to obtain a defence for which its insurer pays. That duty can arise even where the insurer has denied coverage and even where the pleaded allegations and available evidence in the underlying claim suggest the policy does not apply.