The Office of General Counsel issued the following opinion on January 2, 2003, representing the position of the New York State Insurance Department.
Re: Control of Defense Under Regulation 107.
Must the two alternatives contained in § 71.3(c)(1) of Regulation 107 both be offered by an insurer in order for it to utilize a legal defense offset provision in the insurance policy which is greater than 50% or, may the alternatives be read in the disjunctive so that an insurer need only offer the insured one alternative or the other?
The two alternatives contained in N.Y. Comp. Codes R. & Regs. tit. 11, § 71.3(c)(1) (2002) must both be offered to the insured by the insurer. Thus, the insured must be given the alternative to select the defense attorney or, second, to consent to the insurers choice of attorney if the insured chooses not to select an attorney.
No specific facts were presented.
Section 71.3(c)(1) of Regulation 107 is part of the section of the Regulation that permits exceptions to the general prohibition against the issuance of a liability insurance policy containing a provision that reduces the policys limit of liability by legal defense costs. Subdivisions (a) and (b) of § 71.3 of the Regulation permit, for specified types of liability policies, an offset of defense costs against the liability limits or deductible, subject to a maximum of 50% of the limits or deductible. Section 71.3(c) provides:
(c) The percentage limitation specified in subdivisions (a) and (b) of this section may be omitted if the policy provides that the insured shall have the option to:
(1) select the defense attorney or to consent to the insurers choice of defense attorney, which consent shall not be unreasonably withheld;
(2) participate in, and assist in the direction of, the defense of any claim; and
(3) consent to a settlement, which consent shall not be unreasonably withheld. [Emphasis added]
The original Regulation 107, promulgated in October 1983, permitted defense cost offset provisions for all commercial liability insurance policies, subject to certain notice requirements. The first amendment to the Regulation that was promulgated in August 1987 narrowed the parameters of the original regulation. Among other things, it prohibited a greater than 50% offset provision except when the insured controlled the defense. Read in this context, § 71.3(c) as a whole is to be understood as a narrow exception to the 50% rule. Subsection (c) is written in the conjunctive, not the disjunctive. All three conditions must be met. The words, "the insured shall have the option to" means that a greater than 50% offset provision is permitted only when the insured has the right to exercise all three of the conditions specified in subdivision (c) paragraphs (1), (2) and (3).
Consistent with reading subdivision (c) narrowly, it follows that, pursuant to paragraph (1) thereof, the insured must be given the dual right to select the defense attorney or, if the insured chooses not to select an attorney, to consent to the insurers choice of an attorney. Thus, the Department takes the position that the regulatory provision in question is to be read narrowly so as to require that the insurer offer both alternatives to the insured in the policy when a claim requiring a defense is made.
The foregoing interpretation of paragraph (1) of § 71.3(c) has been enunciated by the Department on several occasions, most recently in a letter dated November 9, 1999.
For further information you may contact Associate Attorney Barbara Kluger at the New York City Office.