A self-insured retention provision that excused the insurer from providing excess coverage if the insured was bankrupt and unable to meet the SIR violated public policy in Rhode Island. Rosciti v. The Ins. Co. of the State of Pennsylvania, 2011 U.S. App. LEXIS 20400 (1st Cir. Oct. 7, 2011).
The Roscitis purchased a mobile home manufactured by Monaco. The mobile home was defective and suffered from water leakage. This led to toxic mold, which rendered the home uninhabitable.
The Roscitis sued Monaco for negligence, breach of warranty, and strict products liability. Monaco filed for bankruptcy. The Roscitis then amended their complaint to add Monaco's insurers, including The Insurance Company of the State of Pennsylvania (ICSOP), as defendants under Rhode Island's direct action statute. This statute allowed a direct action against the alleged tortfeasor's insurer when the tortfeasor filed for bankruptcy.
Monaco's policy with ICSOP provided coverage for claims above $500,000. Monaco was self-insured for liability up to a retained limit of $500,000. The policy's Retained Limit Provision stated ICSOP's duty to indemnify arose only after "a complete expenditure of the insured's retained limit by means of payments for judgments, settlements, or defense costs." The Bankruptcy Provision of the policy provided the insured's bankruptcy would not relieve ICSOP from payment of any claim covered by the policy. The provision further stated,
But under no circumstanaces shall such bankruptcy, insolvency, or inability to pay require [ICSOP] to drop down or in any way replace [Monaco's] retained limit or assume any obligation associated with [Monaco's] retained limit.
The District Court granted summary judgment to ICSOP because Monaco had not exhausted the retained limit, thereby triggering excess coverage.
The First Circuit initially held there was no inherent conflict or ambiguity between the Retained Limit Provision and the Bankruptcy Provision. Rather, the Bankruptcy Provision was subject to the limitations in the Retained Limit Provision. ICSOP was liable above the retained limit if Monaco was bankrupt, but only after Monaco exhausted the retained limit.
However, the court determined the Retained Limit Provision violated public policy because it nullified rights under the direct action statute. Rhode Island's public policy was to prevent insurance companies from avoiding their obligations when an insolvent insured was unable to make payment to discharge its liability. If the Retained Limit Provision was enforced, it would allow ICSOP to avoid its obligations thanks to Monaco's bankruptcy, a result contrary to public policy.
