Chapter 14, H. Payment of Defense Fees Due Within the SIR

• Jurisdiction: United States

H. Payment of Defense Fees Due Within the SIR

The insured is typically responsible for the payment of defense fees for claims that fall within the SIR. However, an insured who has filed bankruptcy has no incentive to defend those claims. In a liquidation, the claims will be discharged against the debtor, but the claimant will be allowed to pursue the debtor nominally to reach insurance proceeds. In a reorganization, a plan will typically provide that the claimants will only be allowed to collect any claim from available insurance proceeds. While the insured may be contractually obligated to pay the defense costs, as a practical matter it will be up to the insurer to pay these costs.

The court in Eastern Retailers Serv. Corp. v. Argonaut Ins. Co. (In re Ames Dep't Stores Inc.)³⁸⁸ held that the failure of the insured to defend claims within the SIR constituted a post-petition breach of a contract executed pre-petition, which gives rise only to pre-petition liability. Further, while not required to do so, the court stated that it may be in the insurer's best interest to defend those claims. The insurer then requested that the costs related to defending those claims be treated as an administrative expense. The court held that a post-petition expansion of coverage was not undertaken as a result of a post-petition agreement with the insured for the benefit of the estate and did not qualify as an administrative expense. Also, the failure to defend claims by the insured as required by the policy will not excuse the insurer from being required to perform its obligations under the policy.³⁸⁹ The insurer is ultimately left with a pre-petition claim for any amounts expended defending claims that fall within the SIR, which is treated as an unsecured claim against the debtor and will be paid in "bankruptcy dollars."³⁹⁰ As a result, while not contractually obligated to do...