On a certified question from the Ninth Circuit the court holds that a default judgment entered pursuant to a Damron agreement “does not preclude litigation of whether coverage exists under the policy.”

Cox, the holder of a State Farm auto policy, sold the car, though she hung on to the title pending full payment and hadn’t cancelled the policy. The new owner’s daughter caused an accident w/ Quihuis, who sued her and Cox (presumably meaning that mom had no insurance). Cox did a Damron admitting, inter alia, ownership of the car at the time of the accident. Pursuant to the agreement, judgment was entered and assigned to Quihuis, who sued State Farm. The case was removed; the District Court gave State Farm summary judgment, finding that Cox hadn’t owned the car. Quihuis appealed, resulting in the certified question.

The argument that a Damron agreement can affect coverage is one that various lawyers have been making for a long time. As applied in this case, the idea is that since ownership was a liability issue (on a negligent-entrustment allegation) it is conclusively established by the judgment and cannot be questioned even if it also determines coverage. For this proposition some, including Quihuis’ lawyers, have cited a Division Two opinion, AAU v. Wood (2004). AAU is of Biblical length and breadth so it is appropriate, and perhaps necessary, that Justice Pelander, who wrote it, is now called on to understand apply it.

He begins by deciding that Restatement (Second) of Judgments 58, which has to do with indemnitors and indemnitees, controls. “Section 58(1)(a) precludes State Farm from disputing the ‘existence and extent’ of the Coxes’ liability to the Quihuises.” He then looks to case law to decide what “existence and extent” means.

Morris said that under a Morris agreement the insurer could litigate coverage. Wood, Justice Pelander tells us, was “a straightforward application of 58(1)(a)”; it prohibited re-litigation of liability and also of “issues” that “relate” “strictly” to liability and damages. Add these together and they mean that 58(1)(a) “does not prevent relitigation of pure coverage issues.”

58(1)(b) precludes relitigation of any issues “determined in the [underlying] action” unless there was a conflict of interest between indemnitor and indemnitee. Justice Pelander looks to the illustrations to conclude that this applies only to issues actually litigated.

Quihuis argued that she had a judgment, not just an agreement. But “Our cases have not made a distinction [between them], nor does section 58.”

Quihuis also argued that Morris and Wood shouldn’t apply because State Farm refused to defend Cox, even under a reservation. But, citing Kepner, in Arizona there is no absolute duty to defend, especially when facts not in the Complaint take the claim outside the coverage. Even if State Farm had breached a duty to defend, which the opinion does not decide, it would still be entitled to litigate coverage. The opinion ends, however, with language warning insurers that the prudent thing is to defend under a reservation.

Quihuis’ was an interesting case on which to bring this issue since her Damron was a dodgy one, creating coverage by having someone admit to things that a court found weren’t true. There had been some speculation that the court would have to overrule AAU to prevent this fraud. Justice Pelander’s position, though, has always been that AAU was a perfectly simple (we would normally add “straightforward” but he has taken the word out of our mouth) holding consistent with everything else in the law. A more skeptical mind could conclude that he sees the case as an outlier – needed at the time for reasons that don’t entirely bear scrutiny – that can, at least on this point, now be reined in.

(link to opinion)

This case came out last week but our eyes glazed over reading about whether equitable subrogation can give priority over a materialman’s lien. We were reminded of it today, took it out of the slush pile, and it turns out to be not entirely uninteresting. We sympathize with these defendants, who got sued for a debt they didn’t incur on property they’d already paid for. Apparently the Supreme Court did, too.

The case concerns the financing of The Summit at Copper Square, the high-rise condominium complex between Chase Field and the U. S. Airways Center. First National Bank loaned Summit LLC the money to build it, secured by deeds of trust. The Weitz Company was the general contractor. Summit sold most of the condos before construction was finished; as a condo was sold Summit applied some of the money to FNB’s loan and the unit was released from FNB’s deed of trust (to make room for the deeds of trust securing the buyers’ lenders). Near the end of construction Summit failed to make a $4 million dollar payment to Weitz, which recorded a mechanics lien in May 2008 and later sued Summit. It also sued the individual condo owners and their lenders because under the statute (33-992A) its mechanics lien has priority over all liens that attach after construction begins (and presumably also because Summit was teetering on the edge of the bankruptcy it later fell into; these urban hipster heavens hit a hard patch when the economy slowed).

The owners and lenders moved for summary judgment, arguing that they were equitably subrogated to FNB’s original deed of trust (given before construction). The trial court and the Court of Appeals disagreed with them, though for different reasons. But the Supreme Court reverses and remands.

Arizona recognizes the doctrine of equitable subrogation, which in this context means, basically, that if you pay off someone else’s obligation then you can step into the shoes of the obligee. So the owners and lenders contended that because the purchase price of a condo had been used to pay down the deed of trust their position was the same as FNB’s – that of a pre-construction lienholder.

The Court of Appeals decided, based on a Nevada case, that equitable subrogation couldn’t apply because the statute, by giving the mechanics lien priority over liens occurring after the commencement of construction, prohibited it. The Supreme Court is quite critical of the appellate court’s analysis and says that it “misapprehends how equitable subrogation operates.”  Equitable subrogation is the equivalent of assignment and does not change the time when the assigned rights attached.

Perhaps realizing that this doesn’t quite explain why the express language of the statute has no effect on courts’ ideas of equity, the court goes on to tell us that the legislature didn’t intend to preclude equitable subrogation. That’s so because mechanics liens protect laborers and materialmen, whose rights are not prejudiced when a superior lien is assigned from one party to another. Right or wrong, this is just a restatement of the first argument, dressed up as statutory analysis.

The court also says that its solution is “consistent with the legislature’s treatment of junior lienholders’ interests in foreclosure actions.” In those cases, under 33-723, a junior lienholder can get an assignment of a senior lienholder’s rights by paying off the senior lien. Since this statute makes no exception for mechanics liens it allows, the court says, a junior to vault over a mechanics lien. “We have no reason to conclude that the legislature intended to preclude assignment of a superior lien by equitable subrogation in the mechanics’ lien context while permitting an assignment by statutory subrogation in a foreclosure action.”  Maybe this sentence was intended to compare mortgages with deeds of trust and got fouled up somewhere along the way, since as written it doesn’t mean much. In any event, the court does not explain why 723, by saying nothing about 992A, automatically overrides it. Wouldn’t this normally be considered a statutory conflict? And isn’t the fact that the deed of trust statutes don’t include a close analogy to the mortgage statute, 723, a “reason to conclude” that the legislature may have meant to treat them differently? We frankly don’t know why the legislature would do such a thing but the court’s approach is slight of hand, not analysis.

The trial court had decided that equitable subrogation couldn’t apply because the owners and their lenders didn’t fully discharge Summit’s debt. The doctrine normally requires that. But the court decides that “a prospective subrogee is required to discharge only the portion of an obligation that is secured by the property at issue.”  Subrogation is prohibited only where it would “divide security between the original obligee and a payor who discharges part of the obligation.” The court considers that security was not divided here because FNB had released the condos sold from Summit’s security obligation.

(link to opinion)

We blogged the Court of Appeals’ opinion here. Usually we tell you to go there for the facts; this time, since its not clear that the Supreme Court’s version of them entirely squares with that of the Court of Appeals, we’ll simply point out that the facts aren’t terribly important for understanding and remembering the holding.

The Supreme Court reverses, based on statutory history and ejusdem generis. So the law is this: the pre-judgment interest rate is the same as the post-judgment interest rate. A sensible conclusion that begged to be drawn.

(link to opinion)