7.3 Reservation of Rights

• Library: Insurance Law in Virginia (Virginia CLE) (2020 Ed.)

7.3 RESERVATION OF RIGHTS

7.301 In General. A reservation of rights is the mechanism by which an insurance company puts its insured and others on notice of a potentially fatal problem with its coverage of a particular claim. It is not the equivalent of a denial of coverage. Rather, it serves as a warning of such a possibility, usually on the basis of preliminary information received or investigative work performed. If there is a question about the satisfaction of one or more conditions contained in an insurance contract, the insurer may have

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some concerns about coverage, resulting in notification of a reservation of rights.

Section 38.2-2226 of the Virginia Code offers some guidance and uniformity regarding (i) time limits; (ii) the manner and extent of communication when claimants who are not parties to the insurance contract are involved; and (iii) repercussions to insurers that fail to comply with the statute's requirements. By virtue of its detail, this statute makes clear that the substance of the communication, which is to fairly inform the recipient of the concerns or problems, and the timing of the communication are two critical components to a successful reservation of rights.

7.302 Purpose. The purpose of the reservation of rights in general is to alert the insured that he or she may not have insurance coverage for a particular claim. ¹²⁰ An additional purpose behind section 38.2-2226 is to protect third-party claimants:

The obvious purpose of the statute is to require a liability insurer that intends to rely on a breach of the terms and conditions of the policy contract, in defense of any claim under the policy, to furnish prompt notice of such intention to the claimant or his attorney so that steps may be taken by the claimant, a stranger to the insurance contract, to protect his rights. ¹²¹

This duty to notify is placed on the insurer, since it is in the best position to initially assess the situation with regard to its policy conditions and coverage and thereby "prevent, without difficulty, a claimant's wasting of finances and time pursuing a judgment that later proves to be uncollectible." ¹²² This statute, therefore, articulates a public policy that the Commonwealth of Virginia has a "legitimate interest in safeguarding the rights of persons injured within her boundaries." ¹²³

7.303 Statutory Language. For an effective reservation of rights to occur, an understanding of and adherence to the requirements of section 38.2-2226 is essential:

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Whenever any insurer on a policy of liability insurance discovers a breach of the terms or conditions of the insurance contract by the insured, the insurer shall notify the claimant or the claimant's counsel of the breach. Notification shall be given within forty-five days after discovery by the insurer of the breach or of the claim, whichever is later. Whenever, on account of such breach, a nonwaiver of rights agreement is executed by the insurer and the insured, or a reservation of rights letter is sent by the insurer to the insured, notice of such action shall be given to the claimant or the claimant's counsel within forty-five days after that agreement is executed or the letter is sent, or after notice of the claim is received, whichever is later. Failure to give the notice within forty-five days will result in a waiver of the defense based on such breach to the extent of the claim by operation of law.

Notwithstanding the provisions of this section, in any claim in which a civil action has been filed by the claimant, the insurer shall give notice of reservation of right in writing to the claimant, or if the claimant is represented by counsel, to claimant's counsel not less than thirty days prior to the date set for trial of the matter. The court, upon motion of the insurer and for good cause shown, may allow such notice to be given fewer than thirty days prior to the trial date. Failure to give the notice within thirty days of the trial date, or such shorter period as the court may have allowed, shall result in a waiver of the defense based on such breach to the extent of the claim by operation of law. ¹²⁴

Because this statute includes so many requirements, duties, and timetables, the...