November 2003 • Volume 91 • Number 11 • Page 560
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Tort / Insurance Law
Insuring Against Insolvent Insurers: The Illinois Insurance Guaranty Fund
Suppose your client wins a damage award but the defendant's liability insurer has gone belly up; are you simply out of luck? Maybe not, thanks to the Illinois Insurance Guaranty Fund. Here are some details about how the fund works.
The Illinois Insurance Guaranty Fund ("the fund"), whose role is codified and defined in the Illinois Insurance Act ("the Act")1 protects the public from losses arising out of insurance company insolvencies by providing a mechanism for payment of claims covered under certain insurance policies.2 Under the Act, once an insurer is deemed insolvent and placed in receivership, the fund assumes responsibility for outstanding claims against the insolvent insurer.
This article discusses which insurers are covered and which are not, what constitutes a "covered" claim, the "exhaustion of other claims" prerequisite to recovery, nonduplication-of-recovery issues, choosing which state fund to pursue, what happens when an insurer becomes insolvent, and special issues that arise in the workers' comp setting.
I. Preliminaries and Prerequisites to Coverage
Keep in mind that the fund will not cover insurers who operate in Illinois without a "certificate of authority" from the state. Note also the Illinois Director of Insurance must enter an order of insolvency against the insurer to put it into receivership and thereby trigger fund coverage.
A." Surplus Line" Insurers Not Covered
The fund only undertakes responsibility for policies written by insurance companies maintaining certificates of authority to conduct business in Illinois.3 It does not protect policies written by surplus line insurers that operate in Illinois without a certificate of authority.
Policyholders of insurance companies holding certificates of authority in Illinois are covered because their premiums finance the obligations of the fund.4 In order to get a certificate of authority, an insurance company must become a fund member. Members are assessed fees in proportion to premiums received from their policyholders, and these fees finance the fund's payment of outstanding claims.5
Even though surplus line insurers are not authorized to transact business in Illinois, they may lawfully write policies in Illinois using a licensed surplus line broker.6 Since surplus line insurers do not retain certificates of authority and thus do not contribute financially to the fund, the fund does not protect policies written by them.7
B. Order of Insolvency; A Prerequisite to Recovery
A variety of proceedings may lead to an order of insolvency being entered against an insurance company.8 One of the first stages is triggered when the Illinois Director of Insurance concludes that the continued operation of a company would be hazardous to its policyholders.
At that point, the company is given notice and the director identifies changes the company must undertake to become financially stable. If the company fails to make the changes, the director may file a verified complaint with an Illinois court requesting an order of conservation.9 If the order is granted, the director takes control of the company.10
During conservation, most courts enter a moratorium on payment of claims while the director evaluates the company's financial condition, the purpose of which is to determine whether to discharge the subject insurance company from conservation, start rehabilitation proceedings, or begin insolvency proceedings.11 Before beginning an insolvency proceeding, the director must file a verified complaint with the court asking for a finding of insolvency.12 The court will find an insurance company insolvent if its assets are less than its combined capital, minimum required surplus, and liabilities.13
If the court enters an insolvency order, the company is put into receivership and the fund assumes responsibility for any litigation and claims made against it.14 The purpose of the fund is to put the claimant in the same position as if the insurer had never become insolvent.15 However, the claimant's ability to recover funds is reduced by imputable goals of the Illinois Insurance Act, such as making the fund a recovery of last resort and prohibiting double recovery.16
These goals create hurdles a claimant must overcome to collect any awarded damages: the claim must be found to be "covered," the claimant must exhaust all other possible coverage, and the recovery must not be duplicative and must be within the statutory or insurance policy limits.17
II. What Is a "Covered Claim"?
A claim filed with the fund qualifies as "covered" if it falls within the terms of the insurance policy, is timely filed, and is not a subrogated recovery. The loss must arise out of and fall within the coverage afforded under the policy. In addition, the claim must be made against a policy the insolvent insurer held prior to the entry of an order of liquidation, and the facts giving rise to the claim must occur within 30 days of the liquidation order.18 All potential claimants receive notice from the receivership, usually in the form of a letter, asking them to file a proof claim.19
A claim is timely filed if a proof claim is transmitted to the receivership by a court-determined deadline. However, any portion of a claim that will ultimately go into the hands of a solvent insurer by way of contribution or indemnification is deemed a subrogated claim.20 The portion of a claim that represents a subrogated recovery will not be paid by the fund and will reduce the damages awarded to a plaintiff.
III. The "Exhaustion of All Other Claims" Requirement
In Hasemann v White,21 the Illinois Supreme Court held that even if a claim qualifies as covered under 215 ILCS 5/546(a), the claimant must exhaust all coverage provided by other solvent insurers before attempting to recover from the fund.22 In the late 1990s, the legislature made a change in the statute that arguably makes it more likely other coverage will be available for claimants to exhaust and thus harder to recover from the fund.
In 1997, the Illinois legislature revised the language of 215 ILCS 5/546(a) to focus on the facts that gave rise to the injury rather than the elements of the claim itself. The prior version states a claimant must first exhaust all rights under any other insurance policy that is "applicable to the claim."23 Courts interpreting the old statute have held that coverage is provided by other solvent insurers if an insurer covers a claim with the same elemental requirements as a claim assumed by the fund.24 The revised language states a claimant must first exhaust all his rights under other policies arising from "the same facts, injury or loss."25
Under the revised statute, coverage is provided by other solvent insurers if an insurer covers a claim that is based on the same factual transaction or injury as a claim assumed by the fund,26 thus indicating that the legislature wants courts to focus on the broader "transaction" or "injury" rather than the narrower elemental requirements.27
For instance, the second district held in Tralmer v Soztneps Inc. that the old statutory language did not apply the same factual transaction analysis because the phrase "which may be applicable to the claim" is narrower in scope.28 Likewise, the first district in Beukema v Yomac, Inc. found the old language did not support a "same injury" analysis.29 The year after Beukema was decided, the legislature revised the statute to include the broader language.
IV. Statutory Limits and Nonduplication of Recovery
Assuming a claimant fulfills the requirements of a covered claim and has exhausted all other coverage, the fund will pay the claim according to monetary limits set out in the Illinois Insurance Act.30 Payments made by the fund may not exceed the lesser of the face value of the policy or the $300,000 statutory limit.31
In addition to imposing a payment ceiling, the nonduplication-of-recovery condition requires the fund to reduce its payment by an amount equal to any money a claimant receives while exhausting all other claims pursuant to 5/546(a). For example, when a car-crash victim wins a $10,000 judgment against a defendant whose insurer is insolvent, the plaintiff must pursue an uninsured motorist claim and exhaust that coverage before recovering from the fund.32
V. Choosing the Right State Fund
Illinois is not the only state with an insurance guaranty fund, of course; indeed, all states have them; and claimants sometimes have to determine which state funds are available to them. There are two views about which state's fund a claimant must pursue.33 Many state statutes require a claim to be filed where the "claimant or insured is a resident…at the time of the insured occurrence."34 However, state courts have interpreted similar statutory language differently.
Under the narrow view, a claimant can only recover from a fund located in the state where the insured resides.35 Under the broad view, a claimant can recover from a state fund located in the same state as the residence of either the insured or the injured party.36
For example, assume the New York Supreme Court deems an insurance company insolvent and an injured party, residing in California, obtains a judgment against an Illinois insured. The claimant must file a proof claim form with the New York State receiver. Under the narrow view, the claimant can only recover from the Illinois fund. Under the broad view, the claimant can recover from the California or Illinois fund.
Only one Illinois opinion has discussed the residency requirement of a covered claim. In Beatrice Foods Co. v Illinois Ins. Guar. Fund,37 Eugene Allgood was killed in an automobile collision with a vehicle owned by Peter Eckrich and Sons, Inc. The estate of Eugene Allgood was awarded a $300,000 judgment against Eckrich, which was insured by an insolvent insurance company. The Beatrice Foods court found that the insured, Eckrich, could not have recovered from the Illinois fund because it was not an Illinois resident. The court did not consider whether or not the injured party resided in Illinois; that factor played no express role in its decision. One could argue, then, that Illinois follows the narrow view.38
VI. When an Insurer Becomes Insolvent: Auto, Dramshop, and Multiple-Defendant Cases
After a court of competent jurisdiction finds a general liability insurer insolvent, that insurer's obligations are shifted to the fund and, indirectly, to solvent insurers39 (i.e., claimants must exhaust all coverage, and solvent insurers are prohibited from recovering from the fund for a subrogated claim). Once a claimant has exhausted all coverage, the fund must pay the remaining claim up to statutory or policy limits, whichever is less.
When a defendant has policies with both solvent and insolvent insurers, the solvent insurer must defend any lawsuits and pay for liability up to the value of its policy.40 The fund is only obligated to pay if the claimant has exhausted the policy limits of all applicable solvent insurance companies. Accordingly, the fund only undertakes the obligations of the liable defendant if the solvent insurers have paid for the defendant's liability up to their full policy value.41 Also, the fund's $300,000 payment ceiling is reduced by any money the claimant receives from solvent insurers.42
The following subsections apply these principles to particular policies and facts.
A. Auto Policy
Where a negligent defendant has an insolvent auto insurer, the plaintiff must first recover damages under her uninsured motorist coverage and cannot collect from the fund representing a subrogated claim.43 Accordingly, a motorist with an auto policy written by an insolvent insurer is deemed an uninsured motorist as a matter of law.44 If a defendant is regarded as uninsured because his insurer is insolvent, the plaintiff must exhaust all other coverage by first recovering under her uninsured motorist policy,45 i.e., by obtaining a judgment against or settling with her insurance carrier.
If a plaintiff obtains a judgment against her insurer, any possible payment by the fund is offset by the actual uninsured motorist recovery. However, if a claimant settles with her insurer for less than her policy limit, the fund's distribution is offset by the uninsured motorist policy limit, not the actual settlement amount.46 For example, assume that a plaintiff is in a car accident with a defendant with an insolvent insurer. The plaintiff is awarded damages of $10,000. If the plaintiff received a settlement of $2,000 from her uninsured motorist coverage with a policy limit of $6,000, the fund would only pay the plaintiff $4,000 for defendant's negligence because the $10,000 damages are offset by the $6,000 uninsured policy limit.47
B. Dram Shop Cases
When a plaintiff brings a dram shop and negligence action and one of the defendants is represented by the fund, the plaintiff is only entitled to damages from both actions if they are not the same claim.48 If two causes of action are the same claim, then the plaintiff must first exhaust all coverage against a policyholder with a solvent insurer.
In addition, any recovery from the solvent insurer will offset damages against a policyholder represented by the fund. On the other hand, if two causes of action are deemed different claims, then any recovery from a solvent insurer based on one cause of action will not offset a payment from the fund for another cause of action.
Illinois cases have held a dram shop claim and a negligence claim are two different claims and do not require exhausting coverage against the solvent insurer.49 However, these opinions are based on the old statutory language of 215 ILCS 5/546(a), and the outcome might be different under the revised statute. Illinois courts have interpreted the old language to imply that coverage is provided by another solvent insurer and is the same claim if the solvent insurer covers a claim with identical elemental requirements as a claim assumed by the fund.50 However, recall that the revised statute focuses on the factual transaction or injury, not the elemental requirements.51
The revised statute language increases the likelihood two different causes of action will be considered the same claim and necessitate exhaustion of coverage. Under the revised statute, a dram shop claim and negligence claim would probably be deemed the same claim and require exhaustion of coverage against the solvent insurer.52
In Beukema, the plaintiff was injured in a bar and brought a negligence action against the bar owner for failing to provide adequate safety, remove a violent person, and seek police help.53 The plaintiff also brought a dram shop action for providing alcohol to the individual that attacked the plaintiff. The court, applying the old statute, held that the two actions were different claims because the elements of the negligence claim (breached duty to exercise reasonable care in managing premises) were different then the dram shop elements (providing alcohol and causing intoxication).
Under the revised statute, it is likely the negligence and dram shop actions would be deemed the same claim.54 Focusing on the facts of Beukema, both the negligence and dram shop actions arose from the same injury and the same factual transaction (the consumption of alcohol and the attack at the bar).55
C. Multiple Defendant Litigation
When multiple defendants are found jointly and severally liable, the co-defendants with solvent insurers assume the liability of the co-defendant with an insolvent insurer.56 Although neither the Illinois Supreme nor Appellate Courts have decided a case exactly on point, prior decisions shed light on the possible outcome.
Under Hasemann, a plaintiff must first exhaust all possible coverage stemming from the claim before recovering from the fund.57 The co-defendants with solvent insurers represent other possible coverage because under the theory of joint and several liability, each defendant is individually liable for the full amount of damages.58 A plaintiff can recover from the fund once he or she has exhausted the policy limits of all other co-defendants with solvent insurers.59
In Hasemann, the court held that the plaintiff's recovery from the fund is offset by any amount remitted by the plaintiff's uninsured motorist policy. Correspondingly, joint and several liability payment by the fund on behalf of a co-defendant is offset by money received from other solvent insurers. In addition, any money a claimant receives from other solvent insurers reduces the $300,000 limit60 on fund payment. Any solvent insurer that paid damages greater than their policyholder's pro-rata share of liability cannot obtain contribution from the fund because this is a subrogated claim.61
Where the plaintiff settles with a co-defendant before trial and the other co-defendants are found joint and severally liable, one of which is represented by the fund, then the fund's payment is offset by the settling defendant's policy and damages actually recovered from remaining co-defendants.62
Again, the plaintiff must exhaust all coverage from the defendants with solvent insurers before trying to recovery from the fund. If the plaintiff does not recover fully from other co-defendants and the settling co-defendant, then she can attempt recovery from the fund. She can only bring a claim to the fund for damages in excess of money received from the solvent insurers. She can collect from the settling defendant based on the policy limit, not the actual settlement amount.63
VII. Issues That Arise In The Context of Workers' Compensation Insurers
When a workers' compensation ("WC") insurer becomes insolvent, the fund assumes the obligations of the employer.64 The fund must pay damages awarded to the employee during arbitration. If the employee sues a defendant, the fund can attach a WC lien on behalf of the employer to any recovery by the employee, according to Kotecki v Cyclops Welding Corp.65
The defendant sued by the plaintiff is likely to file a third party complaint against and seek contribution from the employer.66 Under Kotecki, a contribution claim against an employer is capped at the WC liability of the employer towards the employee.67 However, the defendant cannot obtain contribution from the fund for any amount that will ultimately go into the hands of the defendant's solvent insurer because it is a subrogated claim.68 Prohibition on contribution claims result in the defendant's solvent insurer being responsible for liability of itself and the employer.69
For example, assume that an employee is injured and the fund must pay $10,000 in awarded WC damages on behalf of the employer. The employee sues a defendant with a solvent insurer and the jury awards her $30,000. Assuming the employer is found to be 40 percent negligent and the 60 percent negligent, the defendant must pay the plaintiff $30,000 based on joint and several liability. However, the defendant cannot collect on a contribution claim against the fund because it is deemed a subrogated claim. So, the defendant is responsible for the total $30,000, when his pro-rata contributory fault only accounts for $20,000. Based on the WC lien, the fund also receives $10,000 of the $30,000 the plaintiff collected from the defendant.
A. Workers' Compensation Lien
Subrogation issues are created when a solvent WC insurer has a lien on an employee's lawsuit against a defendant represented by the fund.70 Money ultimately going into the hands of a solvent insurer constitutes a subrogated claim and will not be honored by the fund.71 The portion of damages the fund must pay to an employee that represent a WC lien is a subrogated claim, because a lien forwards the money to a solvent WC insurer.
Accordingly, damages paid to an employee by the fund on behalf of a defendant are reduced by the amount of the WC lien. The solvent WC insurer can only recover its lien against the receivership as a general creditor.72 For example, if a judgment of $50,000 was entered against a defendant, holding a policy with an insolvent insurer, and the WC lien was $7,000, then the plaintiff's awarded damages would be reduced to $43,000.
B. Kotecki Waiver
When an employer waives the Kotecki cap, its general liability ("GL") insurer may have a duty to defend and cover contribution claims for coverage usually provided under a WC insurer.73 A defendant sued by an injured employee is likely to file a third party complaint seeking contribution from the employer.74 The Illinois Supreme Court in Kotecki held that a defendant's contribution claim against an employer is capped at the WC liability of the employer.75
In Braye, the court found that an employer could contractually waive the Kotecki cap, resulting in liability for its full pro rata contributory fault.76 The few cases discussing waiving Kotecki have found a waiver when an employer's indemnity clause assumed full responsibility for all loses resulting from its own negligence.77
Arrival of the Kotecki waiver has raised the question whether a GL insurer has a duty to defend an employer against a contribution claim traditionally within the realm of WC insurers.78 Under these cases, the GL insurer may be susceptible to responsibility for contribution claims when insured contract clauses assert that excluded claims, such as those for injured employees, are covered when an employer assumes the tort liability of another party.
According to the second district in West Bend Mut. Ins. Co. v Mulligan Masonry Co., Inc.,79 an employer's GL insurer has a duty to defend against a contribution claim when an indemnity agreement between an employer and a defendant create the possibility of a Kotecki waiver. The court held that an indemnity clause along with a Kotecki waiver compels the employer to be responsible for a contribution claim in excess of the Kotecki cap, which represents an amount that was the liability of the defendant based on principles of joint and several liability.
The Mulligan court also found the insured contract clause was ambiguous and construed it against the GL insurer,80 holding that the insured contract requirements were fulfilled when the employer became responsible for the contribution claim in excess of the Kotecki cap.81 Mulligan is on appeal to the Illinois Supreme Court.
On the other hand, Hankins v Pekin Ins. Co.,82 a fifth district case interpreting an indemnity contract, found an employer's GL insurer does not have a duty to defend against a contribution claim traditionally covered by a WC policy. The Hankins court interpreted an indemnity clause similar in language to the clause analyzed in Mulligan, but the Hankins court never faced the issue of a Kotecki waiver.83
In Hankins, the court held the subject indemnity agreement only indemnified the defendant for negligence of the employer.84 The court also found that the defendant's contribution claim did not fulfill the requirements of an insured contract because the contribution claim is based only on the employer's own pro rata share of contributory fault and does not represent any of the defendant's contributory fault.85 Even though the Hankins' holding undermines Mulligan, its persuasive value is diluted because it does not discuss a Kotecki waiver.
If the second district view in Mulligan is ultimately embraced by the Illinois Supreme Court, then a GL insurer may have a duty to defend contribution claims when WC insurers become insolvent and a Kotecki waiver is present. Although Illinois courts have never faced this exact issue, prior decisions shed light on the possible outcome. The insolvency of a WC insurer obligates claimants to exhaust all other coverage before attempting to recover from an insolvent WC insurer.86 Since a solvent GL insurer has the duty to defend when there is a Kotecki waiver, under the second district view, this duty might symbolize another policy against which a defendant must exhaust all other coverage.87
If the Mulligan holding becomes the majority view in Illinois, apportionment of a contribution claim will become important. However, Illinois courts have never decided how to apportion a contribution claim between a GL and a WC insurer when there is a Kotecki waiver.
In Mulligan, the court found that the GL insurer had a duty to defend because under the insured contract clause it assumed responsibility for the contribution claim in excess of the Kotecki cap.88 The fourth district in Christy-Foltz, Inc. v Safety Mut. Casualty Corp. held that a defendant's contribution claim would only be covered by a WC insurer up to the Kotecki cap.89 Together, Mulligan and Christy-Foltz indicate that a WC insurer might be accountable for contribution against an employer up to the Kotecki cap, with any excess the responsibility of the GL insurer.90
This possible outcome is complicated if a WC insurer becomes insolvent. In that case, any contribution claim within the Kotecki cap that is the responsibility of the fund and that will ultimately go into the hands of the defendant's solvent insurer is a subrogated claim.91 Even though the defendant will be able to recover contribution in excess of the Kotecki cap from the employer's solvent GL insurer, the claim within the Kotecki cap will be treated as subrogated and the responsibility of the defendant's solvent insurer.92
C. Employer-Subcontractor's Workers' Compensation Insurer
Based on the statutory employer mechanism in the Workers' Compensation Act, insolvency of a subcontractor's WC insurer may lead to imposition of WC liability upon a general contractor.93 The purpose of the Workers' Compensation Act is to "afford employees financial protection when their earning power is temporarily diminished or terminated."94 Under 820 ILCS 305/1(a)(3), if an employee's subcontractor is uninsured, the general contractor becomes the employee's statutory employer and must pay WC benefits. This section holds a general contractor liable for WC damages to protect employees when an employer-subcontractor cannot fulfill its WC obligations because it is uninsured.95
Correspondingly, Illinois courts may hold a general contractor is an employee's statutory employer when an employer-subcontractor's WC insurer becomes insolvent and cannot fulfill its WC obligations.96 Indeed, attributing liability to a general contractor triggers the exhaustion of coverage requirement. Therefore, an injured employee must exhaust coverage from the general contractor before it can recover from the fund representing the insolvent employer-subcontractor's WC insurer.97
It is unknown whether a general contractor is liable based on the insolvency of an employer-subcontractor WC insurer, because Illinois cases have never discussed it. Arguments in favor of imposing liability on general contractors are likely to face resistance because 820 ILCS 305/1(a)(3) requires an employer-subcontractor to be uninsured before invoking statutory employer responsibility, which is not specifically fulfilled by the insolvency of a WC insurer.
While this article discusses important issues, it is not designed to be an exhaustive review of the Illinois Insurance Guaranty Fund. For more information about the fund and how it operates, visit the special deputy receiver's Web site (see sidebar).
|FYI . . .
18. The facts bringing about the claim must arise within 30 days of entry of the order of liquidation, before the policy expires, or before the policyholder changes insurers, whichever is less. 215 ILCS 5/537.2.
32. Hasemann at 418, 686 NE2d at 573; 215 ILCS 5/546(a). The outcome will be different if the plaintiff settles with her solvent insurance company for an amount that is less then the uninsured motorist policy limit. Hasemann at 417, 686 NE2d at 572.
33. 1986-1 National Association of Insurance Commissioners (NAIC) Proceedings at 458; Clark Equipment Co. v Massachusetts Ins. Insolvency Fund, 666 NE2d 1304, 1307 (Mass. 1996); Wyoming Ins. Guar. Assn v Woods, 888 P2d 192, 197 (Wyo 1994).
47. Where the plaintiff fails to timely seek recovery from her uninsured motorist policy, she can still attempt recovery from the fund but it is assumed that the plaintiff received the policy limits of her uninsured motorist coverage. Urban at 777, 592 NE2d at 295.
73. West Bend Mut. Ins. Co. v Mulligan Masonry Co., Inc., 337 Ill App 3d 698, 706, 786 NE2d 1078, 1085 (2d D 2003), appeal docketed, No. 2-01-0909, March 24, 2003 (Sep Term 2003); Michael Nicholas, Inc. v Royal Ins. Co. of America, 321 Ill App 3d 909, 914–15, 748 NE2d 786, 791 (2d D 2001).
77. See Christy-Foltz, Inc. v Safety Mut. Casualty Corp., 309 Ill App 3d 686, 690-91, 722 NE2d 1206, 1210 (4th D 2000) (holding that an indemnity clause waived Kotecki by stating the employer is responsible for "any and all claims, suits, losses[,] and expenses"; Braye at 204, 676 NE2d at 1297 (found a purchase order waived Kotecki when it asserted the employer was liable for "all loss which may result in any way from any act or omission [of the employer]….").
Anyone seeking more information about the Illinois Insurance Guaranty Fund should visit the Web site of the Illinois Office of the Special Deputy Receiver at <http://www.osdchi.com/>. Also, see Helen W. Gunnarsson's LawPulse item at page 276 of the June 2003 Journal ("Insuring against bankrupt insurers").
Marlene Kurilla <email@example.com> is a partner with the Chicago firm of Mora, Baugh, Waitzman & Unger, LLC. She concentrates her practice in insurance coverage and defense of complex liability matters. She is first vice president of the Women's Bar Association of Illinois and former chair of the ISBA Tort Law Section Council. The opinions expressed in this article are strictly hers and not necessarily those of her firm or clients.
Melissa A. King is a third-year law student at Loyola University at Chicago and a 2003 summer associate at Cremer, Kopon, Shaughnessy and Spina, LLC.