The Colorado Supreme Court held that a liability insurer has no obligation to indemnify a policyholder for a settlement made without the insurer’s consent and in violation of the policy’s “no voluntary payments” clause. In so doing, the Court rejected the argument that this clause is only enforceable if its violation resulted in prejudice to the insurer.

In Travelers Prop. & Cas. Ins. Co. of Am. v. Stresscon, an insured subcontractor sought indemnification from its insurer for a claim made by a general contractor regarding a construction accident allegedly caused by a subcontractor of the insured. The subcontractor settled with the general contractor before any lawsuit was filed, and without the insurer’s consent.

The subcontractor subsequently brought a bad faith action against the liability insurer. The liability insurer contended that coverage was precluded by the subcontractor’s violation of the policy’s no-voluntary-payments clause.

The trial court rejected this argument based upon the Colorado Supreme Court’s recent recognition of the so-called “notice-prejudice rule,” which provides that the delayed notice of a claim precludes coverage only if the insurer has been prejudiced by the delay. The trial court held that by extension, a violation of a no-voluntary-payments clause should preclude coverage only if the insurer is prejudiced. The intermediate Court of Appeals agreed with this analysis.

In reversing the Court of Appeals’ determination, the Court emphasized that unlike a typical policy provision requiring timely notice, the no-voluntary-payments clause went “to the scope of the policy’s coverage” by establishing that the policy does not provide coverage for payments voluntarily made by the policyholder. The Court also noted that while the notice-prejudice rule was adopted to ensure that coverage could not be denied on the basis of a technicality, the voluntary payment of a claim without the insurer’s consent “has important practical implications for the risks that insurers undertake and the premiums that insureds pay.” In addition, the Court observed that limiting the enforceability of such clauses would raise the risk of collusive or fraudulent settlements. The Court therefore held that the no-voluntary-payments clause precluded the insured from seeking indemnification, and remanded the case with instructions to enter judgment for the insurer.

The Colorado Supreme Court’s well-reasoned opinion offers a persuasive case for strict enforcement of a liability policy’s standard no-voluntary-payments clause.

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