Loya Insurance Co. v. Avalos
Supreme Court of Texas (May 1, 2020)
Opinion by Justice Busby (linked here)
The Texas Supreme Court has for the first time explicitly adopted an exception to the venerable “eight-corners rule” for determining an insurer’s duty to defend.

The rule, which the Court recently reinforced in Richards v. State Farm Lloyds, mandates that a liability insurer’s duty to defend a lawsuit against its insured is determined solely by reference to the facts alleged in the underlying complaint and the terms of the insurance policy, without reliance on extrinsic evidence. (See my post on Richards here.) In Loya, the Court held the rule is nullified by deliberate collusion between an insured and a third-party plaintiff. That is, “an insurer owes no duty to defend when there is conclusive evidence that groundless, false, or fraudulent claims against the insured have been manipulated by the insured’s own hands in order to secure a defense and coverage where they would not otherwise exist.”

The facts in Loya were stark. Kara Flores Guevara was the sole insured under an auto liability policy issued by Loya Insurance. Her husband, Rodolfo Flores, who was explicitly excluded from coverage, was driving Guevara’s car when it collided with a car owned by Osbaldo Hurtado Avalos and Antonio Hurtado (the “Hurtados”). But Guevara, Flores, and the Hurtados agreed to tell the responding officer and the insurer that Guevara was driving her car at the time of the accident. The Hurtados then sued Guevara, and Loya hired an attorney to defend her. When Guevara told the attorney her husband had been driving the car, the insurer immediately withdrew its defense and denied coverage. The Hurtados obtained judgment against Guevara, who assigned them any rights she had against the insurer.

The Hurtados sued Loya for breach of the insurance policy and the usual tort and statutory claims. Loya counterclaimed and deposed Guevara, who admitted the truth about her husband’s role in the accident. The trial court concluded the Hurtados were asking the court “to ignore every rule of justice and help [them] perpetuate a fraud,” and granted summary judgment for Loya.

The Hurtados appealed, and the San Antonio Court of Appeals reversed, holding that the eight-corners rule barred reliance on extrinsic evidence of collusion. One justice concurred in the judgment, urging the Supreme Court to create a narrow exception to the rule that would encompass “undisputed fraud and collusion.”

The Supreme Court reviewed the history of the eight-corners rule and its reluctance to create exceptions, but noted it had previously indicated “that collusive fraud by the insured might provide the basis for an exception.” The Court concluded the facts of this case presented “such a circumstance,” emphasizing that the evidence conclusively established Guevara was not driving her car at the time of the accident, and the “parties to the underlying case conspired to lie about who was driving to trigger insurance coverage.”

The Court also rejected the argument that the insurer was required to obtain a judicial declaration it had no duty to defend before withdrawing its defense. While the Court encourages declaratory judgment actions to resolve such issues, it does not mandate them. This does not, however, give insurers carte blanche to abandon their insureds “where there is a real controversy regarding the duty to defend.” The Court emphasized the substantial risks of common law or statutory bad-faith liability facing an insurer who refuses to defend without seeking judicial confirmation of its position. It reversed the Court of Appeals and reinstated the trial court’s judgment.