Subrogated Action

Zurich Insurance Co. v. Ison T.H. Auto Sales Inc. is a very important decision by Ontario Superior Court Justice Strathy on the principle of subrogation and its practical application.

Zurich Insurance and Chartis Insurance applied for an order permitting them to pursue subrogation by controlling the action commenced by their insured, Toronto Honda, for both its insured and uninsured losses. Strathy concluded that until an insured is fully indemnified, i.e., it recovers its deductible and any of its uninsured losses, it can control the litigation against third parties allegedly responsible for its losses, including the insured portion of those losses. The application was, therefore, dismissed.

Facts

There was an explosion and fire at a Toronto apartment building on Jul. 20, 2008. Toronto Honda had stored 71 cars in rented space in the building’s underground parking lot. The cars were damaged. Under a manuscript all risks property policy prepared by a broker, the insured was paid approximately $1.9 million, representing the factory invoice price of the vehicles, (the amount payable pursuant to the policy), less a $10,000 deductible. The insurers recovered $900,000 in salvage, resulting in a net subrogated claim of about $1 million.

Toronto Honda claimed it also sustained a loss of profits, (the difference between the manufacturer’s price and the retail price), a loss of the ability to service the vehicles and to re-sell trade-ins, and a loss of goodwill. Its losses were quantified at $700,000.

A class action was commenced on behalf of the building’s residents and owners on Oct. 2, 2008 by two law firms, and was subsequently certified. Toronto Honda retained the same firms, and started a separate action on Apr. 21, 2009. It opted out of the class action. There is an order for the trial together of the two actions.

The insurers were aware since June 2009 of Toronto Honda’s separate action and that the claims included the insurers’ subrogated property claim. In November 2009, a firm retained by the insurers asked to be added as counsel of record in the insured’s action, and this request was denied. Insured’s counsel advised it would keep them apprised of developments but that the ultimate control of the litigation would stay in Toronto Honda’s hands. Six days of discoveries were held in December 2009. The application in this proceeding was served on Aug. 19, 2010.

The “Release from Liability and Subrogation Clause” in the subject policy read:
The insurer, upon making any payment or assuming liability therefor under this policy, shall be subrogated to all rights of recovery of the insured against any person, and may bring action in the name of the Insured to enforce such rights.
… [This paragraph waives subrogation against affiliates or subsidiaries of the named insured and against other named insureds and dealers] …
Where the net amount recovered after deducting the costs of recovery is not sufficient to provide a complete indemnity for the loss or damage suffered, that amount shall be divided between the insurer and the insured in the proportion in which the loss or damage has been borne by them respectively.
Any release from liability entered into by the insured prior to loss hereunder shall not affect this policy or the right of the insured to recover hereunder.

Strathy noted this wording is similar to s. 152 of the Ontario Insurance Act – the fire insurance policy subrogation provision.

He also noted, “this clause serves an important practical purpose for the insurer. By making the insurer’s subrogation right available on making any payment or on assuming liability to make payment, it becomes possible for the insurer to bring suit in the name of the insured, and therefore to interrupt a limitation period, before the insurance claim has been fully adjusted, settled or paid.”

Parties’ positions

The insurers argued that “the Subrogation Clause, properly interpreted, changes the common law rule and gives the insurer control of any litigation commenced against the third party.” The insured asserted “it is well-settled law that until the insured has been fully indemnified for all its losses, insured and uninsured, it is entitled to control any litigation against the tortfeasor – the insured is, as the expression goes, dominus litis. Toronto Honda says that nothing in the Subrogation Clause alters this position.”

The insured relied on several decisions of the Ontario courts and on the B.C. Court of Appeal decision in Farrell Estates Ltd. v. Canadian Indemnity Co. It also argued that the Supreme Court of Canada’s decision in Sommersal v. Friedman relied upon by the insurers, “had nothing to do with the issue of carriage or control of the litigation.”

Decision

Strathy considered the “four cornerstones of insurance law”: insurable interest, good faith, indemnity and subrogation.

On the latter, he noted the subrogation principle “mandates that, having indemnified the insured, the insurer is subrogated to its rights and is entitled to exercise those rights in the name of the insured.” There is, however, no right of subrogation until the insured has been “fully indemnified,” which “means not only indemnified for all losses covered by the policy, but also indemnified for uninsured losses, such as the insured’s deductible, losses in excess of the policy limits, and losses (such as business losses) that are not covered by the policy.” And, “at common law, it was well-settled that until the insured was fully indemnified for all losses, the insurer had no rights of subrogation.” Strathy also noted the subrogation provisions for automobile insurance are more extensive that the above-noted fire provision. For example, s. 278(3) of the Ontario Insurance Act specifically provides that where the insured’s interest is limited to the amounts provided for co-insurance and deductibles, the insurer shall have control of the action.

The judge found the instant subrogation clause had two “operative aspects”: (a) the insurer is subrogated to the rights of recovery of the insured and may bring action in the name of the insured on making any payment or assuming liability therefore under the policy; and (b) where there is less than a full recovery of insured and uninsured losses, the amount recovered is pro-rated between insurer and insured.”

He continued:
43 Both provisions alter the common law. The first permits the insurer to commence an action against the third party even before the loss has been fully paid, as long as it has either paid part of the loss or has assumed an obligation to do so. The second provision modifies the insured’s common law entitlement to a complete indemnity for all insured and uninsured losses before the insurer is entitled to recover anything. The Subrogation Clause alters the common law, discussed below, by permitting the insurer to share the amount recovered with the insured, on a pro rata basis, where there has been less than a full recovery.
44 As I have noted earlier, the policy contains no express provision about the right of either party to control the litigation. In particular, there is no provision, such as s. 278(3) of the Insurance Act, giving the insurer a right of control. The question, therefore, is whether the insurer’s entitlement to be “subrogated to all rights of recovery of the Insured” and to “bring action in the name of the Insured” to enforce such rights, carries with it the right to control the litigation.

On this question, the judge found the clause was not ambiguous; it “simply does not address the issue of which party has control of litigation against the third party.”

After reviewing the Farrell Estate case, (which we note observed the insured in that case actively pursued control of the litigation), the judge agreed with the view expressed in it that where, as here, the policy language on subrogation “appears to ‘track’ the statutory language of s. 1
52 of the Insurance Act [it…] should be given a similar interpretation. I recognize that the policy in this case is an all-risks policy as opposed to a fire policy, but it appears to have adopted the language of s. 152.” He continued:

57 I also respectfully adopt the conclusion of Prowse J. and of the British Columbia Court of Appeal that the omission in s. 152 of language similar to what appears in s. 288(3) of the Ontario Insurance Act suggests that the legislature did not intend the insurer to have control of the litigation in the case of fire insurance, unless the insured had been fully indemnified.

Strathy then addressed whether the Sommersal decision changed the common law, and found it did not, stating:

66 In my respectful view, there is nothing in the reasons of Iacobucci J., or for that matter in the dissent of Binnie J., to suggest that the Supreme Court gave consideration, in any way, to the issue of the insurer’s right, having provided an indemnity, to control the prosecution of an action against the third party for recovery of both insured and uninsured claims. The question was simply not at issue.
67 Had it been the intention of the Supreme Court to overrule the principle that the insured is dominus litis until fully indemnified, or to effectively overrule the decision of the Court of Appeal of British Columbia in Farrell Estates, I would expect the court would have said so.

The judge then proceeds to summarize his conclusions, and given their importance, they are reproduced here, with some editing:

70 First, the case law in Ontario, as well as the decision of the British Columbia Court of Appeal in Farrell Estates, confirms that the insured is in control of the litigation, or dominus litis, until it has been fully indemnified for its insured and uninsured losses.
71 Second, there is nothing in the plain language of the Subrogation Clause to alter the insured’s right to control the litigation until such time as it has been fully indemnified. The Subrogation Clause is simply silent on the issue.
72 Third, there is no reason to imply a provision giving the insurer the right of control in order to give business efficacy to the contract. Nor does an entitlement to control the litigation follow by necessary implication from the insurers’ right to be subrogated to the rights of the insured and to bring action in the name of the insured. In this regard, I agree with the observation of Melvin J. of the British Columbia Supreme Court in Affiliated FM Insurance Co. v. Quintette Coal Ltd. at para. 15: an insurer cannot be subrogated to rights which have no connection with the subject-matter of insurance…The effect of payment is to subrogate the insurers to the rights of the assured in respect of the subject-matter [of the policy].
73 The right to be “subrogated to the rights of the insured” means that the insurer is entitled to stand in the shoes of the insured for the purpose of asserting the insured’s legal rights against the third party. It does not mean that the insurer is entitled to assert claims of the insured in which it has no interest.
74 Fourth, the effect of the Subrogation Clause, including the right of the insurer to share proportionately in recoveries, coupled with the duty of good faith, will require the insured, although in control of the litigation, to consider the insurer’s interests, to keep the insurer informed concerning the status of the litigation and concerning major issues in the litigation, and to consult with the insurer with respect to the prosecution of the litigation.
75 Fifth, for the reasons below, it is not necessary for me to consider whether the court has a residual discretion, in appropriate circumstances, to give the insurer control of the litigation, even where there is no express contractual or statutory provision.
76 Counsel for the insurers submits that if I have discretion as to which party has carriage, it should be given to the insurers who have a larger ($1 million) “hard” claim for property damage as opposed to Toronto Honda’s smaller ($700,000) “soft” claim for business losses. There is no evidence before me to show that Toronto Honda’s business loss claim is any less recoverable than the property claim.
77 There are, as well, other factors, including:
* the insured has been diligent in pursuing claims on behalf of itself and the insurers – this action was commenced almost two years ago and is well advanced;
* the insurers delayed for over 15 months after the fire before opening up discussions about subrogation and these were prompted by the initiative of counsel for the insured;
* this application was not commenced until August 4, 2010, more than two years after the fire;
* a great deal of time and effort has already been expended by Toronto Honda, and its counsel, in pursuing the claim;
* Toronto Honda, and the insurers, will benefit from the fact that Falconer Charney and Sutts Strosberg act as class counsel and have control of that litigation as well, resulting in cost-saving and other synergies; and
* there is no suggestion that the insurers’ position has been or will be prejudiced in any way by leaving carriage with Falconer Charney and Sutts Strosberg, who are unquestionably qualified to act as counsel.
78 There may be cases where the insurer’s interest is so vastly disproportionate to the insured’s interest that it would be unreasonable to allow the latter to have control of the litigation. This is not such a case.
79 Sixth, as this is not a regulated contract, the policy considerations referred to by Iacobucci J. in Sommersal are not particularly pertinent. I do note, however, that in Portuguese Canadian (Toronto) Credit Union Ltd. v. Cumis General Insurance Co., above, Perell J. observed that there are sound policy reasons for the principle that the insured is in charge of the litigation – at para. 45:
It seems to me that the underlying principle to this rule that makes the plaintiff domitus litus when there is competing claims against a third party is salutary for at least three reasons. First, until fully indemnified, it seems just and fair that the insured should be able to control his or her claims. Second, the rule protects a third party who would otherwise be subjected to the same claim being brought by the insured and also being brought by the insurer in the name of the insured. Third, the rule avoids the evil of a multiplicity of proceedings.
80 Seventh, it would be a simple matter for the insurers to amend the Subrogation Clause to alter the common law position and to give carriage to the insurers, if they wished to do so. This very point was made nearly 50 years ago by Schatz J. in Kellar v. Jackson, above, at para. 5. I suspect that, at least in the case of sophisticated and powerful insureds such as Bank of Nova Scotia, there might be resistance to such a provision. Nevertheless, the choice belongs to the underwriters and if their pens are not prepared to write such a clause into the policy, they should not ask the court to do so.
81 There is, of course, another commonly employed alternative. In the case of large losses such as this, it is prudent and common for the insurers and the insured to discuss subrogation at the time the insurance claim is paid, and to agree on such matters as legal counsel, sharing of costs, and procedures for the resolution of any disagreements. If the insurers have failed to take these simple and basic steps, they can hardly complain if their insured insists on its common law rights.

Comment

As all insurers and counsel know, the issue of control of the litigation frequently arises in a subrogation scenario.

Most of the time, the insured’s losses are relatively small, or will be very difficult to prove. Usually, it will be the insurer that starts the action in its insured’s name, and counsel retained to do so will determine whether the insured has any uninsured losses, for example, its deductible, and whether it wishes to include its uninsure
d claims in the action. This is done on the understanding the insurer will decide how to conduct the litigation, and when and whether to settle, with any settlement proceeds being allocated on the basis of the subrogation clause in the policy or in accordance with statutory provisions.

This decision makes it clear, however, that if the insured wishes to pursue and control the litigation, and an agreement cannot be reached as to whether or how this will be done, it is within the insured’s purview to do so, subject to the proviso in paragraph 78 of Strathy’s reasons regarding disproportionate interests, (and the possible small residual discretion mentioned by the judge in paragraph 75).

Ultimately, if insurers wish to make subrogation arrangements in all their policies clearer, particularly in cases where the fire or automobile provisions do not apply, then, as the judge observes, they can and may wish to do so.

Michael S. Teitelbaum is a partner with Hughes Amys LLP. Hughes Amys is a member firm of The ARC Group Canada.