Lee H. Shidlofsky on the Notice-Prejudice Rule: PAJ, Inc. v. Hanover and XL Specialty v. Financial Industries Corp.
In Texas Calculus, does PAJ + XL = Prejudice? Recent action by the Supreme Court of Texas may provide the answers. The notice-prejudice rule is a nationwide trend whereby an insurer is sometimes forced to prove that it was prejudiced by an insured’s failure to timely notify it of a claim or lawsuit before the insurer can preclude coverage. On January 11, 2008, the Supreme Court of Texas issued an opinion on the matter in PAJ, Inc. v. Hanover Insurance Co., 2008 Tex. LEXIS 8 (Tex. Jan. 11, 2008). That court also accepted a certified question from the United States Fifth Circuit Court of Appeals. XL Specialty Ins. Co. v. Financial Indus. Corp., 2007 U.S. App. LEXIS 29373 (5th Cir. Dec. 19, 2007). The Court’s efforts represent a step toward clarification of the notice-prejudice rule in Texas jurisprudence with respect to both occurrence-based and claims-made policies.
The author writes:
“On appeal to the Supreme Court of Texas, Hanover posited that the prompt-notice requirement in its insurance policy was a condition precedent to coverage, which, if not adhered to, defeats coverage irrespective of prejudice to the insurer. PAJ, on the other hand, alleged that the prompt-notice provision is merely a covenant and therefore Hanover’s performance under the policy is excused only if the breach of that covenant is material. Further, PAJ claimed, even if the requirement is a condition precedent to coverage, Texas law requires Hanover to prove that the untimely notice by its insured caused it prejudice. Siding with PAJ, the Supreme Court of Texas held that ‘only a material breach of the timely notice provision will excuse Hanover’s performance under the policy.’”
The author also notes that “the State Board of Insurance issued Board Order 23080, which required the addition of the following language to CGL policies:
As respects bodily injury liability coverage and property damage liability coverage, unless the company is prejudiced by the insured’s failure to comply with the requirement, any provision of this policy requiring the insured to give notice of action, occurrence or loss, or requiring the insured to forward demands, notices, summons or other legal process, shall not bar liability under this policy.”
The author says that “The PAJ court recognized that, since its Hernandez decision, Texas commonly has been referred to as a notice-prejudice state (i.e., an insurer must be prejudiced by late-notice before it can escape coverage). Supporting that acknowledgement, the court cited the U.S. Fifth Circuit Court of Appeals’ decision in Ridglea Estate Condominium Association v. Lexington Insurance Co., 415 F.3d 474, 480 (5th Cir. 2005). In Ridglea, that court relied upon Hernandez while holding that Texas requires prejudice for late notice of a claim or suit, including in first-party commercial property policies, even in those policies that were not subject to Board Order 23080.”
As the author explains, “In PAJ, the majority criticized the dissent’s belief that Hernandez somehow made a distinction between conditions precedent and covenants in regard to the notice issue. Rather, the Court said, the policy language in Hernandez was the same as the language before the Court in PAJ, and it never distinguished between conditions and covenants in reaching its conclusion that an insurer must first show prejudice before it could preclude coverage. The PAJ majority also questioned ‘the dissent’s fundamental premise that the timely notice provision before us creates a condition precedent rather than a covenant.’”
The author also quotes the Supreme Court’s finding that “the dissent's analysis of the policy language would impose draconian consequences for even de minimis deviations from the duties the policy places on insureds.”
Finally, the author discusses the Court’s decision to accept the certified question in XL Specialty Insurance Company v. Financial Industries Corporation in which “the Court will address a claims-made, management liability policy, which requires Financial Industries Corporation (“FIC”) to notify XL Specialty Insurance (“XL”) of any claim against it ‘as soon as practicable after it is first made.’”
The author concludes that “The Supreme Court of Texas’ decision in PAJ is another victory for insureds. With the Court’s 5-4 decision, insurers face an additional obstacle in denying coverage to insureds—now they must show that any late notice of a claim actually caused them prejudice. . . . In the same vein, with XL . . . now before it, the Supreme Court of Texas has an opportunity to clarify whether a prejudice requirement applies to claims-made policies when the notice, while “late,” still is within the claims-made policy period. Logic dictates that the same “prejudice” reasoning should apply in that situation, as long as the notice is made within the policy period.”
Readers may also access the author’s martindale.com law directory listing here.
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