Understanding an Insurer’s Duty to Defend and the Four-Corners Rule

An injury happens on your jobsite and a lawsuit gets filed against your company as the general contractor. As an additional insured, you seek coverage under your subcontractor’s policy. Are you covered when things head to court?

Unfortunately, the answer is “maybe.”  

The first step for the insurance company is determining if they have a duty to defend your company. The answer can vary between states and often relies on the important “four-corners rule.” Understanding this rule and when it applies can determine if an insurer’s defense obligation is valid or if you will end up fighting in court alone.

Duty to Defend vs. Duty to Indemnify

When it comes to insurance, people widely recognize an insurer’s duty to indemnify. This is the obligation an insurer has to pay out on a judgement or settlement against its insured. However, liability policies also carry a second requirement, which is the duty to defend. This requires an insurer provide legal counsel to its insured in the event of a lawsuit.

An event can trigger an insurer’s duty to defend without necessarily activating the duty to indemnify. This is because jurisdictions see the defense obligation as greater and broader than the indemnification requirement. However, once an insurer agrees to defend, it creates the opportunity for a financial obligation. So insurance companies strictly analyze their duty to defend for every claim.

At the basic level, a duty to defend applies when the potential for coverage exists. The insurer then must indemnify, or provide financial compensation for the loss, if the facts of the case show that the policy applies.  

Things get more complicated when analyzing the “potential” of coverage. This is when the four-corners rule, also sometimes called the eight-corners rule, gets applied.

Applying the Four-Corners Test

The four-corners rule gets its name by strictly adhering to the language inside the four corners of the insurance policy and the four corners of the suit or claim. States that apply the four-corners test consider only the literal provisions of the insurance policy without any outside facts. The duty to defend comes from a strict comparison of the allegations to the subject’s policy.

States not observing the four-corners rule require insurers consider extrinsic facts in their duty to defend determination. These states demand insurers conduct a reasonable investigation of the surrounding facts when considering their defense obligation. The insurance company must acknowledge these facts that may or may not be present in the written claim. This differs from four-corners jurisdictions where information outside of the allegation is ignored when determining a duty to defend.

The Supreme Court of Wisconsin detailed the importance of the four-corners test in its ruling on Water Well Solutions Service Group Inc. v. Consolidated Insurance Company:

The rule ensures that courts are able to efficiently determine an insurer’s duty to defend, which results in less distraction from the merits of the underlying suit. Also, the four-corners rule supports the policy that an insurer’s duty to defend is broader than its duty to indemnify. That is because [i]t is the nature of the claim alleged against the insured which is controlling even though the suit may be groundless, false or fraudulent. Adherence to [t]he four-corners rule ensure[s] that insurers do not frustrate the expectations of their insured by [prematurely] resolving the coverage issue in their own favor[.]

Four-Corners and the 50 States

States like Wisconsin, Texas, and Louisiana, which strictly adhere to the four-corners rule, are in the minority. At least 33 states now allow for extrinsic facts when determining a duty to defend and the number is rising.

In Fitzpatrick v. Am. Honda Motor Co., Inc., the New York Court of Appeals stated:

[I]n these circumstances, where the insurer is attempting to shield itself from the responsibility to defend despite its actual knowledge that the lawsuit involves a covered event, wooden application of the ‘four corners of the complaint’ rule would render the duty to defend narrower than the duty to indemnify—clearly an unacceptable result. For that reason, courts and commentators have indicated that the insurer must provide a defense if it has knowledge of facts which potentially bring the claim within the policy’s indemnity coverage.

Washington allows for extrinsic facts when ambiguity exists. Nebraska assumes a duty to defend when facts indicate an indemnification obligation. California, Arizona, Michigan, and several other states fully allow for the use of extrinsic evidence.

Other states are considered hybrid jurisdictions. Connecticut allows for extrinsic evidence except when establishing that a duty to defend does not exist. Illinois uses the four-corners rule except in declaratory judgements. In Utah, the allowance of extrinsic evidence is determined by the contract.

Know Your Jurisdictions

If your company operates in many states, research how each uses the four-corners rule. In states that strictly apply the test, the language in the underlying complaint is extremely important when determining a duty to defend. For states where additional evidence is allowed, conduct a diligent investigation with the insurer. Insurance companies can add policy language regarding the allowance of extrinsic evidence when considering their defense requirement. Know if such a clause exists in your policy before starting the next project.

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