Insurance Law Blog

Did you miss us? Yes, it has been a long time since we have done an insurance blog. The good news is that Blake Crawford has joined Shidlofsky Law Firm PLLC as Senior Counsel and he has promised (with some arm twisting) to make sure that we get blogs out more frequently. No need to worry, we will not be clogging your inboxes with extrinsic evidence. While on that topic, we may finally get an answer to the seemingly age-old question of whether or to what extent extrinsic evidence may be used in determining the duty to defend.

Despite a multitude of opportunities, the Supreme Court of Texas has never opined one way or another as to whether an exception to the eight-corners rule exists. Even so, there has been some inconsistency within the Fifth Circuit, within federal district courts, and even among some state appellate courts. The Fifth Circuit recently certified a question to the Supreme Court of Texas to address the issue in State Farm Lloyds v. Richards.[1] Though the certified question is limited to whether the “policy-language” exception exists, the Court is not limited to the question certified and may certainly provide general guidance on the general scope of the eight-corners rule and whether or to what extent extrinsic evidence is admissible in evaluating the duty to defend.

A.        Brief History of the Eight-Corners Rule in Texas  

Under Texas law, the general rule for determining whether an insurer has a duty to defend is the “eight corners” rule—so called because the only two documents ordinarily relevant to the determination of the duty to defend are the policy and the pleadings of the third-party claimant.[2] Applying the rule, the “[f]acts outside the pleadings, even those easily ascertained, are ordinarily not material to the determination and allegations against the insured are liberally construed in favor of coverage.”[3] The scope of the duty to defend is broad: “Where the [petition] does not state facts sufficiently to clearly bring the case within or without the coverage, the general rule is that the insurer is obligated to defend if there is, potentially, a case under the [petition] within the coverage of the policy.”[4] The Fifth Circuit specifically has stated that, “[b]ecause the only two documents relevant to the duty-to-defend inquiry are the insurance policy and the petition, an insurer’s duty to defend can be determined at the moment the petition is filed.”[5] Thus, according to the court, “[r]esort to evidence outside the four corners of these two documents is generally prohibited.”[6]

While not specifically referred to by name, the eight-corners rule appears to have first been applied in Texas in the 1931 case U.S. Fidelity & Guaranty Co. v. Baldwin Motor Co.[7] In that case, the policy provided coverage for the insured’s operation of an automobile garage, sales agency, or service station at a location described in the schedule of the policy. There was an exclusion, however, that barred coverage for injury or damage caused by an automobile while being operated by any person under sixteen years of age. The underlying plaintiffs alleged that their daughter was killed when she was struck by an automobile being operated by an employee of the insured—aged fifteen—who was performing duties on behalf of the insured from a location not described in the schedule.[8] Based on those allegations, the court held that the insurer had no duty to defend, as the insurer did not:

insure the [insured] against all character of liability for negligence of all its employees wherever located, or of any age, but wrote a policy against a certain sort of liability—the sort that arose from the operation of the [the insured’s] business at the places named, occasioned by employees over the age of sixteen years.[9]

The court, in the next paragraph, recognized that the “actual facts” showed that the person operating the automobile was not employed by the insured and had no connection “directly, indirectly, or remotely with any business of the [insured] . . . at the places named in the policy.”[10] Nevertheless, the court held that the pleading controlled the duty to defend, as to avoid “read[ing] into the contract conditions and liabilities never agreed to nor contemplated by the parties.”[11]

In 1961, the Court of Civil Appeals of Amarillo in Travelers Ins. Co. v. Newsom reinforced application of the eight-corners rule as to the duty to defend, stating:

The great weight of authority both in Texas and in most other jurisdictions has consistently held that in policies wherein the insurer bound itself to defend any suit against the insured alleging damages within the terms of the policy, even though such suit may have been groundless, false or fraudulent, the test of the liability of the insurer to defend depends upon the allegations of the plaintiff’s petition.[12]

In reaching this holding, the court specifically overruled its 1959 opinion in Trinity v. Universal Ins. Co. v. Bethancourt, where the insurer was allowed to rely upon facts developed through its investigation (i.e., extrinsic evidence) to determine that the insured was not liable and thus that the insured had no duty to defend.[13]

The Supreme Court of Texas appears to have first expressly recognized and applied the eight-corners rule in January 1965 in Heyden Newport Chemical Corp. v. Southern General Ins. Co., finding that the insurer’s obligation to defend was limited to an evaluation of the allegations in the underlying pleading and the terms of the policy.[14] In Heyden, the court expressly stated that “the allegations of the complainant should be considered in the light of the policy provisions without reference to the truth or falsity of such allegations and without reference to what the parties know or believe the true facts to be, or without reference to a legal determination thereof.”[15]

As the great General Douglas MacArthur stated, “rules are mostly made to be broken.” Just six months after Heyden, the Houston Court of Appeals, in International Service Insurance Company v. Boll, allowed the use of extrinsic evidence to determine that the insurer had no duty to defend its insured.[16] In that case, the policy had a designated driver exclusion, precluding coverage if the vehicle at issue was being operated by the named insured’s son, Roy Hamilton Boll. The underlying lawsuits identified that the vehicle at issue was owned by the named insured and being driven “by his son, without [specifically] naming the son.”[17] The court held that the insurer could deny defense coverage by examining the actual facts that the excluded driver was operating the vehicle at the time of the collision at issue.[18]

In the years that followed, various Texas state and federal appellate courts have examined whether an exception exists and, if so, the scope of the exception to the eight-corners rule.[19] As recognized recently by the Texas’ Fourteenth Court of Appeals, “despite various requests over the years to recognize exceptions to the eight-corners rule, the Supreme Court has never done so.”[20] The Supreme Court of Texas itself has eluded in several opinions to the fact that, while it “has never expressly recognized an exception to the eight-corners rule, other courts have.”[21] Making an Eerie guess, the U.S. Court of Appeals for the Fifth Circuit, in Northfield Ins. Co. v. Loving Home Care, suggested that, if the Supreme Court of Texas were to recognize an exception, it would apply only:

when it is initially impossible to discern whether coverage is potentially implicated and when the extrinsic evidence goes solely to a fundamental issue of coverage which does not overlap with the merits of or engage the truth or falsity of any facts alleged in the underlying case.[22]

Two years later, the Supreme Court of Texas recognized the existence of this so-called “Northfield Exception” in GuideOne Elite Ins. Inc. v. Fielder Road Baptist Church.[23] The court, however, did not adopt the Northfield Exception, instead explaining that the defense analysis could be made from the pleading alone. The Court also stated that, although the insurer knew that the allegations within the pleading were incorrect, the insurer “agreed to defend the [insured] against allegations . . . potentially within coverage, even if the plaintiff’s allegations were false or fraudulent. Therefore if [the insurer] knows these allegations to be untrue, its duty is to establish such facts in defense of its insured, rather than as an adversary in a declaratory judgment action.[24]

The Court also explained that, if it were to recognize an exception to the eight-corners rule, it “would by necessity conflate the insurer’s defense and indemnity duties without regard for the policy’s express terms.”[25] The court recognized that, although the duty to defend and duty to indemnify are “are created by contract, they are rarely coextensive.”[26] The Court noted that the particular language obligated the insurer to indemnify the insured in the event of a meritorious claim, but with respect to the duty to defend, the contract provided that the insurer should “defend any suit brought against [the insured] seeking damages, even if the allegations of the suit are groundless, false or fraudulent . . . .”[27] Thus, according to the Court, the policy “defined the duty to defend more broadly than the duty to indemnify.”[28] Since that opinion, the Supreme Court of Texas has stated multiple times that it has not recognized that any such exception to the eight-corners rule exists.[29]

In short, the lack of definitive guidance from the Supreme Court of Texas has led to inconsistent application of the eight-corners rule and questions as to the scope of exceptions—if any—to that rule under Texas law. Generally, it seems that Texas federal courts—relying on the Northfield Exception—have been more willing to find an exception exists. In fact, the Fifth Circuit recently allowed introduction of extrinsic evidence that arguably overlapped with the liability issues in the underlying case.[30] On the other hand, most Texas state courts have tempered the application of an exception, likely due to the blanket statement from the Supreme Court of Texas that it has never officially recognized that any such exception exists. Several state appellate courts have refused to even acknowledge that any exception to the eight-corners rule exists under any circumstance, specifically referring to Supreme Court precedent.[31]

Additional complications have been created by rulings from the United States District Court for the Northern District of Texas that the eight-corners rule is wholly inapplicable when the policy language at issue does not require the insurer to defend the insured even “‘if the allegations of the suit are groundless, false or fraudulent.’”[32] In those cases, the court has found a “policy-language” exception to the eight-corners rule based on the particular defense-obligation language in the insuring agreement of the policies at issue. In particular, the relevant portions of the insuring agreement provide that the insurer will:

pay “those sums that the insured becomes legally obligated to pay as damages because of ‘bodily injury’ or ‘property damage’ to which this insurance applies.” . . . In addition, the policy imposes on [the insurer] the “duty to defend the insured against any ‘suit’ seeking those damages,” . . . ; but, the policy goes on to say that “[h]owever, we will have no duty to defend the insured against any ‘suit’ seeking damages for ‘bodily injury’ or ‘property damage’ to which this insurance does not apply.”[33]

In finding a “policy-language” exception, the district court reasoned that the missing “groundless, false, or fraudulent” language in this particular policy form is critical, as it means that the insurer’s duty to defend obligation is coextensive—as opposed to broader—than its duty to indemnify as the Supreme Court recognized in GuideOne Elite Ins. Co. v. Fiedler Road Baptist Church.[34] According to that court, this means that the insurer need only defend the insured if coverage actually applies and that the insurer may look to the actual facts in determining its defense obligation.

B.        Certified Question of Whether the “Policy-Language” Exception to the Eight-Corners Rule Exists

In State Farm Lloyds v. Richards, the United States District Court for the Northern District again held that the eight-corners rule did not apply based on the “policy-language” exception.[35] The underlying case involves the tragic death of a 10-year-old in an ATV accident at his grandparents’ house.[36] The boy was under the temporary care of his grandparents at the time of the accident. Subsequently, the boy’s mom sued the grandparents, who sought coverage for the lawsuit from their insurer, State Farm Lloyds (“State Farm”). State Farm initially agreed to provide a defense, but then filed a declaratory judgment action arguing that it had no duty to defend based on exclusions to the policy.[37]

The first exclusion was a “motor-vehicle exclusion” that precluded coverage for bodily injury “‘arising out of the . . . use . . .  of . . . a motor vehicle owned or operated by or loaned to any insured.’”[38] The term ‘“motor vehicle’” is defined to include an “‘all-terrain vehicle’ . . . owned by an insured and designed or used for recreational or utility purposes off public roads, while off an insured location.”[39] Further, the policy defines the term ‘“insured location’ to mean ‘the residence premises.’”[40] To support its motion for summary judgment, State Farm included a crash report to show that the accident did not occur on the grandparents’ premises. State Farm also attached admissions by the grandparents that the accident did not occur at their premises.

State Farm also relied on the ‘“insured exclusion,” which:

excludes coverage for bodily injury to any insured “within the meaning of part a. or b. of the definition of insured.” The policy defines “insured” to mean “you and, if residents of your household: a. your relatives; and b. any other person under the age of 21 who is in the care of a person described above.” State Farm thus attached the [grandparents’] admission that they were [the boy’s] grandparents, as well as an order . . . appointing them as joint-managing conservators in order to show that [the boy] was a “resident of [the grandparents’] household.”[41]

Over the insureds’ objections, the court allowed State Farm to rely on the extrinsic evidence it submitted in conjunction with its summary judgment briefing. Finding that the extrinsic evidence established that the policy would not provide coverage—and, thus, there would be no duty to defend—the court ruled in favor of State Farm. The district court referenced and relied upon the “policy-language” exception to the eight-corners rule in making its determination.[42]

On appeal, State Farm actually made no effort to defend the analysis of the district court. The Fifth Circuit began its analysis by surveying the current jurisprudence regarding the application and scope of the duty-to-defend rule and circumstances where extrinsic evidence was allowed or disallowed in making the defense determination. Recognizing that “there is no controlling Texas Supreme Court caselaw determining whether there is a policy-language exception to the eight-corners rule” and that the issue “involves important and determinative questions of Texas law,” the Fifth Circuit certified to the Supreme Court of Texas the question of whether Texas courts should recognize the “policy-language exception to the eight-corners rule.”[43] 

C.        Analysis

As noted, the certified question seems to be quite narrow, requesting an answer only as to whether the policy-language exception exists. In evaluating the issue, the Supreme Court of Texas hopefully will provide general guidance on if and when extrinsic evidence is admissible to determine the duty to defend. One key issue will involve whether the Court decides to draw a distinction between policy language that includes the “groundless, false or fraudulent” language in the insuring agreement from the policy language where an insurer must defend only if the “suit” seeks damages for “bodily injury” or “property damage” to which this insurance does not apply.

Interestingly, the Supreme Court of Texas appears to have already provided an indication as to how it may answer the actual certified question. In Pine Oak Builders, the Supreme Court applied the eight-corners rule and refused to allow the insurer to introduce extrinsic evidence that would have defeated the duty to defend.[44] Though not specifically articulated in the actual opinion, the language in the policy at issue did not have the “groundless, false or fraudulent” language in the insuring agreement.[45] Nevertheless, any ruling by the Supreme Court of Texas on the issue is sure to garner extensive attention, analysis, and litigation moving forward.

Stay tuned. We will keep you posted in future (most likely much shorter) blogs.

Sincerely,

Lee Shidlofsky
Member

Douglas P. Skelley
Member

Rebecca DiMasi
Member

Blake Crawford
Senior Counsel