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Culver v. Insurance Co.

Decided: June 15, 1989.


On certification to the Superior Court, Appellate Division, whose opinion is reported at 221 N.J. Super. 493 (1987).

For affirmance. For reversal -- Chief Justice Wilentz and Justices Clifford, Handler, Pollock, O'Hern and Garibaldi. The opinion of the Court was delivered by Handler, J. Stein, J., dissenting.


This appeal arises from a dispute between an insurance carrier and its insureds over subrogation rights. The insured suffered a fire loss that exceeded the coverage of the insurance policy. After payment of the policy limits for the fire loss, the insurer brought a subrogation action against third-party tortfeasors. The case settled, effectively ending the participation of the third-party tortfeasors in the litigation. There followed, however, a contested motion between Insurance Company of North America (INA) and the Culvers, the insurer and insureds, respectively, involving the validity and enforceability of the separate subrogation agreement that had been entered into between these parties. The trial court order determined the motion effectively enforcing the agreement by ordering the disbursement of the settlement proceeds in accordance with its terms.

The insureds then brought a separate action to set aside the judgment enforcing the subrogation agreement and to obtain a more favorable distribution of the subrogation proceeds. The critical issue in this appeal is whether the doctrine of res judicata is a bar to that action. The trial court applied the doctrine and dismissed the complaint. The Appellate Division reversed, determining that equitable considerations, not contract principles, were determinative of the subrogation claims and justified the rejection of the doctrine of res judicata. We conclude that the Appellate Division's analysis of the subrogation interests did not obviate the application of the doctrine of res judicata as a bar to this action, and reverse its judgment.


The record reveals that in November 1981, the Culvers, insureds under a homeowners insurance policy issued by defendant, INA, suffered a fire loss estimated at $185,000. The Culvers submitted a claim to INA, which after investigation of the cause of the loss and extent of the damage, paid the policy limit of $83,373.12. Thereafter, INA instituted a subrogation action against the tortfeasors believed to have caused the fire. The Culvers, claiming that they were under-insured, obtained separate counsel. Eventually, the Culvers and INA entered into an agreement whereby they would proceed jointly against the tortfeasors. Based on an analysis of the provable amount of the Culvers' uninsured loss, the parties agreed to share any recovery 80% for INA and 20% for the Culvers. They also agreed that INA would bear all costs of litigation and be entitled to legal fees.

The parties allegedly responsible for the fire were General Electric Company, the manufacturer of the Culvers' gas stove, and Better Living Department Stores, Inc., the seller and installer of the stove. INA commenced its subrogation action against both parties in plaintiffs' name. INA controlled that litigation in all respects, although plaintiffs had their own counsel with whom they and INA consulted from time to time.

The trial court bifurcated the issues of liability and damages in the subrogation suit. During the liability trial, INA reached a settlement with General Electric, releasing it for the sum of $25,000. At the conclusion of the trial, the jury reached a liability verdict assessing 100% negligence against Better Living. On the day the damages trial was to begin, Better Living negotiated a settlement in the amount of $135,000 and INA obtained the consent of Mrs. Culver to its acceptance of that settlement offer.

Some time after the date of the settlement with Better Living, INA proffered plaintiffs their share of the settlement proceeds, which totalled $160,000. Based on the 80/20 division

the proposed distribution was: $23,583.33 to plaintiffs and $92,000 plus $44,416.67 for legal fees and costs to INA.

Plaintiffs refused to accept this division and INA moved in the pending subrogation action against the Culvers for an order to enforce the agreement. The Culvers, with the assistance of new counsel, opposed the motion and cross-moved for a different allocation. In support of the cross-motion, Mrs. Culver submitted a certification in which she alleged fraud and breach of fiduciary duty by INA and its counsel. The trial court rejected these defenses and granted INA's motion, entering an order of distribution in accordance with the agreement.*fn1 In doing so, the trial judge ruled against plaintiffs' motion to set aside the subrogation agreement.

Plaintiffs did not appeal this order nor did they file a motion for relief. Instead, approximately four months later, plaintiffs commenced a new action, filing a complaint against INA, alleging, as they had in their cross-motion for distribution in the previous action, that their consent to the subrogation allocation agreement was illegally obtained, that INA made misrepresentations, and that INA breached its fiduciary obligation to them. They sought compensatory damages, punitive damages, attorney's fees, interest, costs and a "just and equitable settlement." INA moved for summary judgment on the grounds that the issues raised in the complaint were res judicata, which the trial court granted. On appeal, the Appellate Division reversed. 221 N.J. Super. 493 (1987). Rejecting the application of res judicata, it determined that the subrogation agreement was not

enforceable and that the insureds were entitled to be paid the full extent of their loss from the settlement proceeds. INA filed a petition for certification, which this Court granted. 110 N.J. 305 (1988).


In the earlier subrogation action, the trial court decided INA's motion to disburse the settlement proceeds in terms of whether the subrogation agreement was legally enforceable. It rejected all of plaintiffs' claims of misrepresentation and breach of fiduciary duty as a basis for invalidating the agreement and ordered a distribution of the settlement proceeds in accordance with its terms.

In the current case, the trial court found that the plaintiffs' complaint was inclusive of their earlier claims. It therefore determined that the earlier judgment was res judicata, barring the subsequent action. The Appellate Division, however, ruled that the subrogation agreement between the Culvers and INA was not enforceable. It determined that INA, the subrogating insurer, had "a trust obligation to the insured in respect of the difference between the insurance payment and the insured's actual loss," and INA was therefore obligated to hold from the settlement an amount equal to the uninsured portion of their loss in trust for the Culvers. 221 N.J. Super. at 502. The appellate court concluded that "the [subrogation] agreement," calling for a different result, "appears to be unconscionable, violative of public policy and in abrogation of INA's trust obligation to its insureds." Id. at 504. This conclusion, according to the Appellate Division, obviated the application of the doctrine of res judicata.

The Appellate Division appropriately recognized the importance and uniqueness of the doctrine of subrogation, stressing its equity underpinnings. It has long been appreciated that "[s]ubrogation is a device of equity to compel the ultimate discharge of an obligation by the one who in good conscience

ought to pay it [and] * * * to serve the interests of essential justice between the parties." Standard Accident Ins. Co. v. Pellecchia, 15 N.J. 162, 171 (1954) (citations omitted). The doctrine is highly favored in the law. Ibid.

It is important to understand that subrogation rights do not arise spontaneously nor are they free-floating or open-ended. Subrogation rights are created in one of three ways: "(1) an agreement between the insurer and the insured, 44 Am.Jur.2d Insurance § 1820 at 746, (2) a right created by statute, 16 Couch on Insurance 2d § 61:6 at 240 (1966), or (3) a judicial 'device of equity to compel the ultimate discharge of an obligation by the one who in good conscience ought to pay it.'" Aetna Ins. Co. v. Gilchrist Brothers, Inc., 85 N.J. 550, 560 (1981). While the doctrine has an equitable foundation, the attitude of courts toward subrogation has been described as "one of allowing complete freedom of contract and trying to determine and enforce the expressed intention of contracting parties." R. Keeton, Insurance Law § 3.10 at 153. Indeed, subrogation "is not applicable where its enforcement would be inconsistent with the terms of a contract or when the contract, either expressly or by implication, forbids its application." Ganger v. Maffett, 8 N.J. 73, 80 (1951).

The analysis of the Appellate Division appears to place emphasis only on the equitable nature of subrogation, discounting the contract basis for its application. Nevertheless, in this case the subrogation rights of INA were established in the insurance policy itself; further, INA and the Culvers negotiated and entered into a supplementary agreement defining their correlative subrogation interests.

The appellate court appropriately turned for guidance initially to equitable principles under the standard subrogation clause of the insurance policy; nevertheless, it failed then to consider the contractual relevance of the specific subrogation agreement. In Providence Washington Ins. Co. v. Hogges, 67 N.J. Super. 475 (App.Div.1961), the court held that when the

insurance policy contained only a general subrogation clause that did not specify how subrogation proceeds would be paid, general equitable principles of subrogation governed. Such subrogation principles, however, could be altered by contract:

Subrogation is an offspring of equity, and its equitable principles apply even when the subrogation is based on contract, except as modified by specific provisions in the contract. Here we have only the general clause quoted. Under such a clause, in case of doubt the interests of the insured come first. In the absence of express terms in the contract to the contrary, he must be made or kept whole before the insurer may recover anything from him or from a third party under its right of subrogation. Against the insured, as well as against third parties, there may be recovery by the insurer (again, subject to the express terms of the contract) "only if the cause is just and enforcement is consonant with reason and justice." [Id. at 482 (emphasis added).]

The Appellate Division in this case, while relying on Providence Washington Ins. Co., indicated that the supplementary contract could be disregarded because it appeared to be "unconscionable" and "violative of public policy." Nevertheless, the court did not suggest that the agreement constitutes a contract of adhesion. See, e.g., Sparks v. St. Paul Ins. Co., 100 N.J. 325, 335 (1985); Allen v. Metropolitan Life Ins. Co., 44 N.J. 294, 305-06 (1965). Nor did it indicate that the terms of the agreement were doubtful or failed to fulfill the reasonable expectations of the insureds. See, e.g., Sparks v. St. Paul Ins. Co., supra, 100 N.J. at 336-38; Bryan Const. Co. Inc. v. Employers' Surplus Lines Ins. Co., 60 N.J. 375, 377-78 (1972).

The Appellate Division apparently believed that a supervening equitable principle, namely, the right of the insured to be made whole, overcomes rights provided by contract. This conclusion, however, does not necessarily follow from the principal rationale behind insurance subrogation, namely, that "the insurer should be reimbursed for his payment to the insured," Standard Accident Ins. Co. v. Pellecchia, supra, 15 N.J. at 171, and is subrogated only to those rights of the insured that are sufficient to reimburse it for the amount of the loss paid. See Restatement of Restitution § 162, comment c (1937).

It may be that the Appellate Division sought to invoke and adapt that rationale in this case. The court thus stated, "just [115 NJ Page 458] as the insured has a trust obligation to the insurer for any sum he recovers from the tortfeasor in excess of his actual loss, so does the subrogating insurer have a trust obligation to the insured in respect to the difference between the insurance payment and the insured's actual loss." 221 N.J. Super. at 502. It then ruled that the insurer has a duty to pay the insured for its entire loss before it can reimburse itself for any part of the loss that it paid under the policy.*fn2 Nevertheless, the Appellate Division in reaching this conclusion relied on Providence Washington Ins. Co. v. Hogges, supra, 67 N.J. Super. 475, in which the court allowed the insured to be paid its $50 deductible from the third party award before the insurer could be reimbursed for its insurance payment. But, as earlier noted, Providence

Washington expressly recognized that this result could be altered by contract. Id. at 482. The other cases relied on by the Appellate Division, Camden Fire Ins. Ass'n v. Prezioso, 93 N.J. Eq. 318, 320 (Ch.Div.1922), and Federal Ins. Co. v. Engelhorn, 141 N.J. Eq. 349, 351 (E. & A.1947), also do not suggest that general ...

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