A certified question concerning the law of equitable subrogation.

A man rented a car from Payless. Payless offered him supplemental liability insurance from Knightbrook; he did not pay for it but Payless didn’t get his signature declining it. After he caused an accident he apparently took the position that he expected the insurance. Knighbrook denied the resulting claim against the policy. The driver settled with the claimants under a Damron and assigned them his claims against Knightbrook. Knightbrook settled their claim and sued Payless in federal court for equitable subrogation, alleging that its failure to get a written denial of coverage had exposed it.

The District Court ruled that Knightbrook was entitled to subrogation under §78 of the Restatement (First) of Restitution. Under that section it did not have to prove that it was actually liable under the policy but merely that it had a “justifiable belief” that it was. On appeal, the Ninth Circuit certified the question: Does §78 apply in Arizona?

The Supreme Court says “no.” “Arizona’s equitable indemnity law . . . [allows] recovery only when an indemnity plaintiff . . . discharges an actual obligation that a culpable indemnity defendant owed to a third party.” There is “no ‘duty of indemnity unless the payment discharges . . . an existing duty.” But §78 requires only a belief, not “an actual legal obligation or a discharge of the indemnity defendant’s liability.” So the rule could result in indemnity where there was in fact no original obligation: “We are troubled that §78 could preclude an indemnitor from raising viable defenses to the underlying claim” (Payless had apparently argued that, despite Knightbrook’s “justifiable belief,” it could disprove the existance of coverage.) “We . . . decline to adopt First Restatement §78 because it is contrary to Arizona’s equitable indemnity principles and does not, in our view, reflect a sound rule.”

Knightbrook argued that Arizona law follows the Restatement. The court points out that the Third Restatement, which superseded the First in 2011, deleted §78-type liability. “We are not bound to the latest edition if we chose to follow the Restatement” but the change is relevant to this analysis.

Only one Arizona case had ever cited §78 (Hatch, App. 2016), citing as authority the District Court’s decision in this case.

(Opinion: Knightbrook Insurance v. Payless Car Rental)