Judgment vacated for failure to name all parties in interest

by Michelle Lore
January 8, 2001
Reprinted with Permission of Minnesota Lawyer

Where an umbrella insurer failed to name either its insureds or their primary insurer as parties to a declaratory-judgment action against an injured party who had not obtained a judgment against the insureds in excess of the primary coverage, the action did not present a justiciable controversy, ruled the Court of Appeals.

A woman who was injured in an automobile accident settled her claim against the driver who hit her and the driver's primary insurance carrier for less than the policy limits allowed. The injured party then sought a settlement from the driver's umbrella insurance carrier.

The umbrella insurance carrier brought a declaratory-judgment action against the injured party only, claiming that the settlement for less than the primary insurer's policy limit precluded coverage under the umbrella policy.

An Olmsted County District Court judge concluded that the umbrella insurer was obligated for coverage in excess of the primary insurer's bodily-injury-liability limit.

But the Court of Appeals vacated the judgment on procedural grounds.

"The umbrella insurer did not include in this action its own policyholders or the primary insurer," wrote Judge Harriet Lansing. "On the facts of this case, an action against only the injured party at this stage of the proceedings does not present a justiciable controversy and deprives the court of jurisdiction to enter a declaratory judgment."

The 11-page decision, Cincinnati Insurance Company v. Franck, et al. is Minnesota Lawyer No. CA-27-01.

Rochester attorney Peter C. Sandberg, who represents the umbrella insurer, is disappointed that the court did not address the merits of the case. "[The decision] does not resolve the dispute," he said, explaining that now he must return to the trial court, add the two additional parties, wait for the trial court to make the same ruling, and then take the ruling up to the Court of Appeals again.

"The primary insurer and the policyholders no longer have an interest in the question because their interest is protected in the settlement agreement," Sandberg noted, adding that was why they were not named in the first place. So while the judgment against his client is vacated for the moment, Sandberg does not see the decision as a victory, but rather as imposing a "nominal and expensive step" in the litigation process.

Rochester attorney Paul R. Dahlberg, who represents the injured party, concurred.

Unfortunately, the procedural issue prevented the court from deciding the substantive issue, said Dahlberg. "It will cost everyone time and effort."

While neither party raised the procedural issue in their briefs, the court brought it up at oral argument on its own, Dahlberg noted. "[But] both [Sandberg] and I were of the opinion that it was an issue that didn't need to prevent [the court] from deciding the substantive issue."

Less than the limit

Joyce Penniston was driving a car owned by her husband, John Penniston, when she struck and injured Francine Franck. At the time of the accident, the Pennistons' car was insured by AMICA Mutual Insurance Company (AMICA) with $500,000 in bodily-injury liability coverage and by Cincinnati Insurance Company (Cincinnati) under an umbrella-liability policy that provided an additional $3 million coverage.

By its written terms, the umbrella policy provided that Cincinnati would pay damages on behalf of the insured, Joyce Penniston, over and above the amount provided in the Pennistons' underlying primary policy. The umbrella policy also stated that Cincinnati would not pay for the costs of any defense that would otherwise be provided in the underlying primary policy, but reserved the right to defend at its option all or any part of a claim.

About one year after the accident, Francine Franck and her husband signed an agreement to settle the primary layer of insurance on the Penniston car for $425,000. This agreement provided that:

In other words, the Francks fully released AMICA, the Pennistons' primary insurer, and released the Pennistons up to the limits ($500,000) of their primary-liability coverage and from any liability not covered by insurance. The agreement stated that the parties intended the agreement and release to be governed and construed according to the principles established in the 1994 Minnesota Supreme Court case of Drake v. Ryan . The record indicates Cincinnati, the umbrella insurer, was not asked to participate in the settlement negotiations leading to this release, but, under the terms of the release, AMICA undertook to provide the umbrella insurer with reasonable notice of the existence of the agreement.

Two weeks after the release was executed, the Francks contacted Cincinnati to discuss settling the claims against the Pennistons. Cincinnati declined to discuss settlement, contending that the umbrella coverage was not triggered because the underlying primary policy limits had not been exhausted, and the settlement voided coverage under the umbrella policy. Cincinnati then brought a declaratory-judgment action solely against the Francks, claiming that the settlement for less than the primary insurer's policy limit precluded coverage under the umbrella policy. Neither the insureds, Joyce and John Penniston, nor the primary carrier, AMICA, were named or joined as parties.

The umbrella carrier moved for summary judgment, claiming that coverage under the umbrella policy could not be reached until the primary limit had actually been paid. The Francks countered that the umbrella policy did not contain an exhaustion clause and that the Drake case approved such a settlement agreement.

The District Court granted summary judgement for the Francks, declaring that the umbrella insurer was obligated for coverage in excess of the primary insurer's bodily-injury-liability limit. Cincinnati appealed.

Justiciable controversy

Lansing began by explaining that if the parties to a declaratory judgment action do not present a justiciable controversy, the court does not have the power to declare rights. She noted that the court may always raise the issue on its own motion.

A declaratory action, Lansing observed, is a justiciable controversy if it:

Lansing explained further that declaratory judgments permit determination of a controversy before obligations are repudiated or rights are violated.

"As a procedural device, a declaratory action allows for earlier adjudication of a justiciable controversy, but it does not dispense with the necessary elements of justiciability," Lansing pointed out.

In bringing this declaratory-judgment action, Cincinnati sued only Francine Franck and her husband, and failed to include its own policyholders or the primary insurer, Lansing observed.

The Court of Appeals concluded that on the facts of this case, an action against only the injured party at this stage of the proceedings did not present a justiciable controversy and deprived it of jurisdiction to enter a declaratory judgment.

Policyholders

In explaining the court's decision, Lansing first observed that Cincinnati's failure to include its own policyholders defeats the requirement that a controversy involve a concrete assertion of legal rights between adverse parties. She noted that Minnesota does not have a direct-action statute that allows an injured plaintiff to proceed directly against an insurer.

Lansing explained further that an umbrella insurer's duty to defend and indemnify stems directly from a contractual relationship between the insured and the insurer. Thus, she continued, even when a settlement purports to eliminate the financial incentive for an insured to defend against the injured party's or claim, the insured continues to be the real party in interest.

"The Francks could not proceed directly and solely against the Pennistons' insurer without a judgment against the insureds," wrote Lansing. "The obverse is true as well: an insurer cannot bring an anticipatory declaratory-judgment action only against the injured party."

Citing Drake , Lansing added that because insurance contracts in Minnesota are contracts of indemnity, if an insured tortfeasor is not part of the action to enforce the policy, the lawsuit fails.

Primary insurer

Lansing next addressed the exclusion of the primary insurer as a party, noting that the absence of the primary insurer may prevent a final determination of the parties' rights.

The Minnesota Declaratory Judgment Act provides that all persons potentially affected by a declaratory action must be made parties to the action, Lansing explained. Further, because the declaration cannot bind absent parties, the failure to join necessary parties leaves their rights undetermined.

Lansing observed that in the present case the primary right to be declared is whether an umbrella carrier - with no contractual duty to defend its insured - has a duty to defend and indemnify its insured when the insured, the primary carrier, and the injured party have settled the primary layer of insurance coverage for less than the policy limits.

"To decide this case on the merits, the court must balance the rights of the injured party, the insured tortfeasor, the primary insurer, and the umbrella insurer," wrote the judge. "Proper resolution would require consideration of the contractual and policy reasons for extending or not extending the holding and rationale of the Drake case to umbrella carriers."

The court concluded that because a resolution on the merits would be significantly hampered by the absence of the primary insurer, the court's power to declare rights and terminate the controversy is compromised.

"Whether the failure to add the primary insurer as party would affect justiciability and therefore jurisdiction depends on the nature of the rights sought to be declared," wrote Lansing. "Cincinnati's complaint that the release destroyed its liability suggests issues of bad-faith settlement that may well implicate the primary insurer."

Lansing went on to observe that Minnesota courts have not consistently assigned the same jurisdictional consequences to the failure to add necessary parties as they have to the failure to include an insurance policyholder. In some circumstances, she noted, the absence of necessary parties has deprived the District Court of jurisdiction to consider and declare rights.

The primary insurer in this case may or may not be a necessary party to the declaratory-judgment action, Lansing acknowledged. "But to the extent that the umbrella insurer argues that any remaining obligation to indemnify cannot include an obligation to assume the primary insurer's duty to defend, the rights of the primary insurer are at issue, and full resolution requires the primary insurer's presence in the action."