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                                         110 N.J.L.J. 349
                                        September 23, 1982


Appointed by the New Jersey Supreme Court


Conflict of Interest
Representation of Insurance Carrier and
Insured where Question of Coverage is in Issue

    This inquiry asks us to "refine" Opinions 165 and 407, both of which deal with the duty of an attorney retained by an insurance carrier where there is a question of coverage raised by the carrier at the inception of the suit. In a nutshell, the inquirer asks whether it is proper for the same attorney engaged by the carrier to file an Answer on behalf of the insured in order to maintain the status quo in the liability case and contemporaneously to commence Declaratory Judgment proceedings as counsel for the insurance company against the insured and to secure an Order staying all proceedings in the liability case until the Declaratory Judgment case has been concluded.
    In order to resolve the question, it is necessary for us to refer to the substantive law of New Jersey, but we remind the Bar that we do so only for the purpose of deciding questions of ethics. In the typical case the relationship of the parties is beyond dispute; the rights and duties of the insured and the carrier arise out of contract, and liability policies commonly obligate the carrier to provide the insured with a defense - a duty distinct from the obligation to indemnify. Danek v. Hommer 28 N.J. Super 68

(App. Div. 1953), Affd. 15 N.J. 573 (1954). The duty of an attorney hired by the insurance company runs to the insured and the fact that the attorney is to be paid by the carrier does not dilute that duty. His client is the insured.
    In Opinion 407, 102 N.J.L.J. 363 (1978), the Complaint in the liability case sought punitive damages, hence the coverage was apparent on the face of the Complaint. This being so, we held that:
    ***On these facts, since the issue projected in the declaratory judgment action plainly did not require the investigation or resolution of any facts relevant to the suit for damages, we see no reason why the inquirer cannot defend the negligence case.

    However, in Opinion 165, 92 N.J.L.J. 831 (1969), we held that where the coverage question depends upon an issue material to the litigation to be defended, the attorney retained by the carrier may not appear for any of the parties in the Declaratory Judgment case. But on the facts submitted for consideration in Opinion 407, we held that it was not improper, assuming informed consent by the insured, for the attorney who had represented the carrier in the Declaratory Judgment action to continue with the defense of the insured in the liability case after the question of coverage had been eliminated. We said:
    Opinion 357, 99 N.J.L.J. 1074 (1976), clearly holds that DR 5-105 does not forbid all employment involving conflicts and in fact permits it when it comes within the purview of DR 5-105(C). That applies where the attorney believes he can adequately represent the interests of each party and "each consents to the representation after full disclosure of the facts and of the possible effect of such representation on the exercise of his independent professional judgment on behalf of each.

    We cannot, however, safely assume such a sterile set of facts as we found in Opinion 407; it is customary for the carrier to forward to the attorney selected by it a copy of its entire investigation file together with the suit papers and frequently information relevant to the coverage dispute may be found within that file. It is also true that the best interests of the insured may not be served by a stay of the liability case. The tactical position of the insured versus the carrier is a subject matter upon which the insured is entitled to the benefit of legal advice from an attorney whose sole professional obligation runs to him. Cf. Glueck v. Jonathan Logan, Inc., 653 F.2d 746 (2nd Cir. 1981)
    The distinction to bear in mind is that between coverage and a duty to furnish defense. Under Burd v. Sussex Mutual Insurance Company, 56 N.J. 383, 389 (1970), a covered claim will trigger a duty to pay the insured's counsel's fees in defending the underlying tort action. The insurer's duty to indemnify on the tort claim will be governed by a hearing to which the insurer and insured are parties where the coverage issues are resolved in an adjudication of the tort case. If the coverage dispute is resolved prior to resolution of the tort claim, the liability of the insurer will depend upon whether the judgment falls within the policy and the defense, although paid for by the carrier, will be conducted by the counsel selected by the insured. If the tort claim has been adjudicated prior to the resolution of the coverage case, the carrier will be bound by that adjudication in the event of a finding of coverage. See Rule 63(2) of the New Jersey Evidence Rules. This later point was clearly made by the Maryland Court of Appeals in the case of Glens Falls Insurance Co. v. American Oil Co., 254 Md. 120, 254 A.2d 658 (Ct. App. 1969) which the Burd court expressly adopted. Burd v. Sussex Mutual Insurance Company, supra., 56 N.J. at 395.
In Glens Falls, supra., the Court stated:

    [The insurer] acts at its peril and if such defense is found to be lacking then for purposes of liability [coverage, not defense], it is bound by the judgment... against its insured.

Id. at 667. The Burd court recognized this distinction by noting that the difficulty presented by a mixed claim (partial coverage) would evaporate if the insured successfully defended himself entirely on all aspects of the claim. In that instance, the coverage or indemnification issue would be mooted and the insurer, without a hearing, would be required to reimburse the insured for the costs of defense.
        [I]f an action charging intentional injury is wholly defeated, the insured can well argue the claim thus found to be "groundless, false or fraudulent" was for bodily injury or property damage within the covenant to pay and did not cease to be such a claim merely because the claimant added the further "groundless, false or fraudulent" allegation of an intent to injure. In that situation, the carrier may fairly be required to reimburse the insured for the cost of the successful defense even though the carrier would not have had to pay the judgment if the case had gone against the insured on a finding of intentional injury.

Id. at 393.

    The New Jersey Supreme Court in the case of Dunne v. Fireman's Fund Am. Ins. Co., 69 N.J. 244 (1976) somewhat clarified the prior holding in Burd by making it clear that there was no need for a coverage hearing when the tort claim is defended in accordance with the procedure prescribed therein by the Dunne court. The Dunne court was faced with the situation of a partly covered claim and a potential conflict for the insurer in undertaking the defense. Unlike Burd, supra, the tort action had not been adjudicated so that an opportunity still exists to establish a format whereby the trial of the tort action would negate the need for a coverage hearing and a relitigation of the issues of the tort case. The Dunne procedure provided for the selection of counsel acceptable to both the insured and insurer or, if they could not agree, counsel selected by the assignment judge in the county in which the action was pending.
        Under the terms of the policy [the insurer] is under a duty to defend the suit against its insured since the allegations in the complaint include some subject matter negligence, which clearly falls within the coverage. We envision possible conflicts in this defense because coverage may not exist if liability is fixed on some other predicate, such as violation of right of privacy. Therefore, in the first instance the insured should select their own counsel, subject to the carrier's approval. In the event such approval is not forthcoming the selection should be made by the assignment judge. Reasonable counsel fees and costs of defense are to be paid by [the insurer]. At the trial interrogatories should be submitted to the jury to ascertain the precise factual basis for any conclusion of liability so that the coverage issue may be resolved. If a jury trial is waived, then the trial court will make those findings.

Id. at 252. It is clear that the insurer was to be bound by the findings in the tort case insofar as the coverage issue was concerned and , in any event, the carrier was to be responsible for defense costs incurred by its insured.
    We are aware of the case of Sussex Mut. Ins. Co. v. Hala Cleaners, Inc., 75 N.J. 117 (1977) and we believe that our opinion herein is not inconsistent with the Supreme Court opinion in that case.
    All things considered, we are of the opinion that the attorney hired by the carrier to file a protective pleading in the liability
case ought not to appear for the carrier in the Declaratory Judgement case. Ideally, the insured would be represented by his personal attorney in both matters and the attorney hired by the carrier ought to recommend this course to the insured immediately, since it is at once apparent that the insured must have independent counsel with respect to the coverage dispute. In so holding, we do not wish to be understood as modifying our holdings in Opinions 165 or 407 nor do we wish to be understood as in any way transgressing upon the contractual rights of an insurance carrier and its insured. We simply conclude that where there is a question of coverage at inception of the liability case, the attorney hired by the carrier to file defensive pleadings on behalf of the insured ought to promptly advise the insured to retain his own personal attorney for all purposes, but in no case ought to appear for the carrier against the insured in a Declaratory Judgment case brought to resolve the question of coverage.

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