CHAPTER 13 SUBROGATION

• Jurisdiction: United States

Subrogation is an equitable remedy available to an insurer who pays a debt of another. The courts consider it only fair—equitable—that the insurer step into the shoes of its insured and obtain all of the insured's rights against third parties.

The New York Standard Fire Policy provides:

Subrogation
This company may require from the insured an assignment of all right of recovery against any party for loss to the extent that payment therefor is made by this company.

In other words, subrogation is an equitable remedy where an insurer that has paid a loss under an insurance policy is entitled to all the rights and remedies belonging to the insured against a third party with respect to any loss covered by the policy. It is also a right that is usually added as a condition of a policy of insurance.

A. Poor Lease Wording Causes Litigation

Almost every modern commercial property insurance policy allows the landlord to waive its insurer's right of subrogation as long as the waiver happens before a loss. Some even allow an insured landlord to waive subrogation as to its tenants even after a loss. Almost every commercial lease contains a clause that waives the right of subrogation by the landlord's insurer against the tenant. In RAM Mut. Ins. Co. v. Rohde 805 N.W.2d 554 (Minn. App. 2012), a $17,500 claim went all the way to the Supreme Court of Minnesota. Two lines in the lease or a letter waiving subrogation by JD Property Management would have avoided this litigation.

RAM Mutual Insurance Company asked the Minnesota Supreme Court to allow it to recover payment it made to its insured for the repair of water damage allegedly caused by the negligence of respondent Rusty Rohde, the commercial tenant of RAM's insured. The district court granted Rohde's motion for summary judgment, dismissing RAM's subrogation claim as a matter of law.

The suit was based upon a landlord and tenant relationship between JD Property Management, LLC, and Rusty Rohde. JD Property owns a rental property in Sauk Centre, Minnesota, containing three business suites. Rohde rents one of the suites and operates a salon business, the Studio 71 Salon, in the leased premises. Rohde's rental is governed by a 5-year commercial lease agreement (the "lease") with JD Property.

After taking possession of the leased premises, Rohde replaced two pedicure chairs in his salon and installed water lines serving the chairs. In February 2008, one of the water lines allegedly burst, causing water damage to the Studio 71 Salon suite as well as an adjacent suite. JD Property filed an insurance claim with its property insurer, RAM, requesting payment for the water damage. RAM paid JD Property $17,509, the full amount of JD Property's claim, to repair the damage. Because Rohde had installed the water line, allegedly without JD Property's knowledge in violation of the lease, RAM filed a subrogation action against Rohde, asserting breach of contract, negligence, and promissory estoppel.

Rohde brought a motion for summary judgment, relying upon a line of cases that appeared to bar RAM's subrogation claim, regardless of whether Rohde was at fault for the losses occasioned by the water damage, because Rohde, "as a tenant, is a co-insured under the RAM policy." The court of appeals affirmed. The court determined that the lease placed no express obligation on either JD Property or Rohde to procure property insurance providing coverage for the water damage at issue, and that Rohde was a co-insured under the RAM insurance policy. Because Rohde was a co-insured, the court held that "RAM cannot maintain a subrogation action against Rohde."

This case presents the question of whether an insurer may maintain a subrogation action against the insured's negligent tenant.

Subrogation is the substitution of another person in place of the creditor to whose rights he or she succeeds in relation to the debt, and gives to the substitute all the rights, priorities, remedies, liens, and securities of the person for whom he or she is substituted. In the insurance context, subrogation involves the substitution of an insurer (subrogee) to the rights of the insured (subrogor). Upon payment of a loss, the insurer is subrogated in a corresponding amount to the insured's right of action against any third party whose wrongful conduct caused the loss.

Early Minnesota decisions applied what they described as the majority position, finding that the landlord and the tenant were co-insureds because each had an insurable interest in the property—the landlord a fee interest and the tenant a possessory interest. The court grounded this result in its determination that by paying rent, tenants indirectly pay a landlord's insurance premiums.

Rohde obtained an insurance policy providing third-party liability coverage as required by the lease. Rohde's liability insurance insured the premises that Rohde leased, and through an endorsement included coverage for property damage to "[p]roperty you own, rent or occupy, including any costs or expenses incurred by you, or any other person, organization or entity, for repair, replacement, enhancement, restoration or maintenance of such property."

Unlike most commercial leases there was no express agreement between the parties as to who would bear the financial responsibility for the damage caused by the leaking pedicure stations.

Courts have followed three different approaches in answering the question of whether an insurer may maintain a subrogation action against an insured's negligent tenant. Some courts, like the Minnesota Court of Appeal, have adopted a no-subrogation rule, barring insurers from pursuing subrogation claims against negligent tenants in the absence of an express agreement to the contrary. A second group of courts has adopted the opposite approach—a pro-subrogation rule that allows insurers to pursue subrogation claims against their insureds' tenants, absent an express agreement governing the provision of property insurance. Other jurisdictions have pursued a middle ground, adopting a case-by-case approach to subrogation claims in the landlord-tenant context, by which courts determine the availability of subrogation based on the reasonable expectations of the parties under the facts of each case.

The Minnesota Supreme Court concluded that the case-by-case approach provides an adequate and supportable analytical framework that is the best method to evaluate when an insurer has a subrogation right against an insured's tenant.

The case-by-case approach best effectuates the intent of the contracting parties while still taking into account the equitable principles underlying subrogation actions. Because, as a matter of subrogation law, an insurer merely steps into the shoes of its insured, it would be inequitable to allow, as pro-subrogation courts do, subrogation in cases in which the parties to the lease did not reasonably expect that the tenant would be liable to the landlord for the type of damage at issue.

The case-by-case method is more consistent with Minnesota's public policy of holding tortfeasors accountable for their actions than the no-subrogation approach. The case-by-case approach achieves the purpose by allowing an insurer to bring a subrogation action when the reasonable expectations of the parties, as evidenced by the lease, reveal that the parties did not intend to limit application of the general rule of a tenant's tort liability. Therefore, the case-by-case approach is consistent with the policy that a loss should typically be borne by the person responsible for that loss.

To determine whether RAM's subrogation claim is barred under the case-by-case approach, the district court must ascertain the expectations of the parties as to which party bears responsibility for a particular loss. The case-by-case analysis begins with the written documents executed by the parties. Examining the lease agreement to determine the expectations of the parties rests on the well-established principle that leases are contracts to which we apply general principles of contract construction. The district court should interpret provisions in a lease governing a tenant's liability for a particular loss according to the fundamental principle that the goal

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