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The United States Court of Appeals for the Third Circuit, predicting how Pennsylvania’s highest court would rule, recently held that real estate title insurance companies are only required to defend claims specifically covered under their policies. In doing so, the Third Circuit found that the well-settled “in for one, in for all” rule requiring general liability insurers to defend an entire action if at least one claim was potentially covered did not apply to title insurers.
In Lupu v. Loan City, LLC, Nos. 17-1944 & 17-2024, 2018 U.S. App. LEXIS 25561 (3rd Cir. September 10, 2018), a residential homeowner refinanced his home loan and mortgage with Loan City LLC. Stewart Title Guaranty Company (“Stewart Title”) provided title insurance on the loan. The mortgage was subsequently transferred on multiple occasions, eventually landing with Ocwen Loan Servicing, LLC (“Ocwen”). The homeowner defaulted on his loan, and thereafter sued to void the instruments evidencing his debt.
The homeowner’s complaint, which was amended several times, initially focused on a challenge to the use of the so-called MERS System -- a private mortgage registry that allows its members to avoid the need for county-level public recordation when transferring mortgage interests -- claiming that it violated Pennsylvania law. After the filing of a third amended complaint, however, the homeowner submitted responses to interrogatories claiming that the original loan documents were forged. These new allegations prompted Ocwen to seek defense coverage from Stewart Title. However, because the MERS-related allegations were not covered under the title policy, and because the potentially covered forgery accusations were not contained in a formal pleading, Stewart Title disclaimed coverage. Ocwen then proceeded to file a third-party complaint against Stewart Title asserting breach of contract and bad faith denial of coverage. Thereafter, the homeowner amended his complaint for a fourth time to formally add the forgery allegations, at which point Stewart Title agreed to provide a defense to Ocwen, but only as to potentially covered forgery count.
Ocwen and Stewart Title subsequently cross-moved for summary judgment as to the scope of the duty to defend. The federal district court, applying Pennsylvania’s “four corners” rule, held that Stewart Title had no duty to defend the claims asserted in the third amended complaint. With respect to the fourth amended complaint, however, the court, applying the “in for one, in for all” rule, held that because Stewart Title had a duty to defend against the forgery count, it had a duty under Pennsylvania law to defend all of the claims in that complaint.
On appeal, the Third Circuit engaged in a comprehensive analysis of the duty to defend under Pennsylvania law. The court reaffirmed Pennsylvania’s strict application of the “four corners” rule that a duty to defend is to be determined solely by the allegations in the underlying complaint matched against the terms of the policy. In doing so, and despite acknowledging that “Sergeant Schultz’s [of Hogan’s Heroes fame] ‘know nothing’ defense” could be invoked, the court, relying upon the seminal case of Kvaerner Metals Div. of Kvaerner U.S., Inc. v. Commercial Union Ins. Co., 908 A.2d 888 (Pa. 2006), rejected carving out an exception to the “four corners” rule where the insurer knew, or should have known, that the allegations in the complaint conflicted with the actual facts. As a result, the Third Circuit found that Stewart Title’s duty to defend arose only after the homeowner had filed the fourth amended complaint. Although discovery revealed the forgery allegations while the third amended complaint was pending, it was not until the filing of the fourth amended complaint that such allegations were actually pled.
As for the issue of whether Stewart Title needed to defend Ocwen against the entire underlying complaint, the court predicted that the Pennsylvania Supreme Court would find that the “in for one, in for all” rule did not apply to cases involving title insurance policies. In doing so, the court pointed out that title insurance was “fundamentally different” from general liability insurance. Specifically, the court noted that title insurance is “backward-looking”, as the insurer could reduce its exposure to loss before the issuance of the policy by searching public records, whereas general liability insurance “looks forward” by typically insuring against injury occurring because of a future “accident”. The court also pointed out that title issues are discrete, and they could be bifurcated “fairly easily” from related claims. The court further related that the parties “bargained for partial coverage” flowing from defects in the title, and that the policy stated it would not defend non-covered claims. As such, the court remanded the case back to the district court to determine which claims in the fourth amended complaint were covered.
With this decision, the Third Circuit has created a new, significantly narrower standard applicable to a title insurer’s duty to defend in Pennsylvania. In carving out a title-policy exception to the “in for one, in for all” or “complete defense” rule, the Third Circuit follows the “monumental decision” of the Massachusetts Supreme Judicial Court, as well as the Seventh Circuit (applying Illinois law), on this issue. We would not be surprised if the reasoning and conclusions of these courts were adopted by other jurisdictions, as they appear to be in accord with standard policy language and the relatively unique nature of title insurance.