ALU - February 2005: Binding High/Low Arbitration

Binding High/Low Arbitration: Less Binding than contemplated? More binding than feared?

A recent court of appeals decision must be recognized in much the same way as a warning shot across the bow: everyone potentially affected ought think twice about whether and how they wish to proceed.  The subject is both more and less than implied by the label, “Binding High/Low Arbitration” agreements.  The case is Murray v. Puls, 690 N.W.2d 337 (Mn. Ct. App. 2004).

The case started innocuously enough.  Murray sued Puls for bodily injury sustained in an automobile accident.  Puls had $100,000 in BI coverage; Murray sent a Malmin notice to her underinsured motorist (UIM) insurer.  With all the assumptions typically in use, Puls and Murray agreed to a “binding high/low arbitration.” The high was to be $100,000, the BI limits; the low was $20,000. The arbitrator was not told of the range.

The arbitrator assessed recoverable damages at $217,746.28 (net of No-Fault.)

It is after that point that some things occurred which frankly challenge certain commonly-held assumptions surrounding the effect of “binding” high/low agreements. 

Consider:

The award was not capped at the BI limits of $100,000. Instead the award was eventually confirmed by the court at the full $217,746.28 damage figure.

Although claimant Murray accepted the $100,000 BI limits after the arbitrator made determinations, and despite that claimant signed a release of defendant Puls, the UIM insurer not only had to pay UIM but was ultimately held bound to pay based upon the award figure.

The court concluded that the arbitration process, and the resulting award, amounted to a method at arriving at a “best settlement.”Which signals that Schmidt v. Clothier doctrine could operate from the moment of post-award notice.Which ought to raise the red flag of “UIM SUBSTITUTION.”

In the Murray case the UIM insurer elected not to substitute the $100,000 BI limits which the BI insurer was prepared to pay.  As a result the precise focus of the case is upon whether the UIM insurer must pay and whether the claimant must take more steps before recovering UIM. The message to UIM insurers is increasingly this: many times the binding high/low arbitration conducted with the BI insurer will, after confirmation, fix the amount that the UIM insurer must pay. Which is to say that UIM insurers will have to decide to accept that fate or consider intervention so as to participate in shaping the award. Or possibly to take other affirmative action to arrange a separate forum battle, if that is allowed.

Because the UIM insurer in the Murray case did not substitute, Puls had no personal exposure.  But consider for a moment: what would have happened if the UIM insurer had substituted upon receipt of the Schmidt v. Clothier notice after the arbitration award? There is only UIM potential if the award is for sums in excess of the BI limits, if the defendant motorist is “underinsured.”  If the UIM insurer substitutes doesn’t that run the risk that the binding high/low arbitration process essentially binds the defendant tortfeasor in such a way that the UIM insurer, upon substitution and payment of UIM, can pursue the defendant personally based upon the award?

That is clearly a risk...if the arbitration agreement is written to allow that result.  If the agreement does not prevent that result. In the Murray case, there was no actual written agreement.  Instead there was an exchange of letters coupled with indications that the claimant intended to pursue UIM.  (That a claimant wants to preserve UIM potential is not unusual.  But it is often assumed that the binding high/low arbitration simply determines rights between the claimant and defendant/BI insurer, leaving the UIM issues for another day and another forum.  This case tells us that there may well be more “binding” potential, and binding in other ways then expected.)

What about that risk?   Can it be controlled or avoided? 

It is classic arbitration lore that the arbitrator derives power from the parties.  Which means that if the parties agree that the arbitrator may make an award no higher than the BI limits, such an agreement would protect the insured defendant.  In some cases the parties to the underlying case may disagree regarding the value of the case but both may be willing to cap the “high” award at the BI limits.  In such a case a claimant might be willing to expressly waive UIM entitlement as inducement to the quicker recovery of a binding high/low agreement. But experience teaches that most claimants will not waive UIM (and that few claimant attorneys will ever recommend waiver of UIM.) Which, in the wake of Murray, puts the ultimate goal of the claimant at odds with the assumption that the result “binds” the defendant’s exposure at no more than the BI limits.  Claimant attorneys will continue to press for binding high/low agreements. But if there is neither a direct nor indirect waiver of UIM, doesn’t such an agreement expose the defendant insured to personal exposure?  Mechanically, that risk is certainly present whenever the arbitration agreement allows for an award in excess of the BI limits.

Years ago when arbitration was much more common we sometimes resorted to the following method of handling the high/low constraints upon the award while allowing the arbitrator to evaluate the case free from such information.   The parties agreed that the high/low figures would not be disclosed to the arbitrator on the front end. Instead the high/low figures were provided in a sealed envelope. The arbitrator was instructed to decide the case first but, before making an award, unseal the high/low figures and make an award only within that range.  That device might be worth dusting off for application here.  After all, it is the award that is judicially confirmed.  If the award confirmed cannot exceed the BI limits, the judgment against the defendant would not exceed the BI limits thus avoiding “binding” the defendant to an above-limits judgment.  Of course capping the award at the BI limits does not give the claimant the “one stop shopping” opportunity to be had with use of an arbitration award that fixes both the BI and UIM recovery.  On the other hand, it does not amount to a waiver of UIM.  Because the parties could agree to arbitrate only the amount of damages that is within the BI limits while preserving UIM potential, who is prejudiced?  The claimant would, of course, provide notice of the award to the UIM insurer. The UIM insurer would have substitution rights, of course.  But because the high would usually invoke payment of the BI limits, the UIM insurer would have less incentive and no real need to substitute.  Using this “sealed envelope” method the claimant would pursue the UIM claim directly with the UIM insurer. 

Caution: Certain recitals sound good but are they enough to eliminate the risk? 

It is in vogue nowadays for the claimant to recite, when drafting a binding high/low agreement, that the claimant has given “the Schmidt v. Clothier notice to UIM insurer,” that the UIM insurer has not substituted “and therefore the UIM insurer has waived its rights.”  Murray negates that effort: if the arbitration award is deemed the result of a settlement effort, and if the Schmidt v. Clothier notice is to be given after the award, no one ought believe that the UIM insurer has waived its rights. The defendant is just as at risk with that hollow recital as without it.

In some binding high/low agreements the claimant expressly preserves the right to present a UIM claim after the arbitration award. However that particular form of agreement goes on to recite that if the UIM insurer substitutes, then in that event the claimant agrees to waive the UIM claim.  (Such an agreement is presumably used more often when the claimant is insured with UIM insurers that cannot read, one must imagine.  Because all the UIM insurer need do is agree to substitute in order to invoke the “waiver of UIM” clause and thus avoid paying UIM at all.)

There is a slightly more tempting but difficult variant of the “conditional waiver of UIM” type binding high/low agreement.  Easy to draft: the claimant agrees to defend and indemnify the defendant/insured if the UIM insurer pursues the defendant/insured.  But it is not entirely clear whether all such indemnity provisions would be enforced.  In which case, doesn’t it once again mean that the defendant/insured is at risk and that the risk might actually result from the very binding high/low arbitration agreement itself?

Which raises this question: who has authority to enter into such a Binding High/Low Arbitration agreement?  If the net effect of the binding arbitration agreement is that the top end figure cannot exceed the BI limits, then the liability insurer has the authority to settle within the limits.  Because the Murray court considers the arbitration process to be a method at arriving at a settlement figure, it follows that the insurer would be authorized to arrange such an arbitration so long as the limits are the top-end of the award range potential.  But if there is risk that the award will not be effectively capped at the BI limits the BI insurer does not have authority to enter into such an agreement.  (And in that event a BI insurer has to be cautious about recommending that its insured “just sign this.”)

Only the defendant insured has authority to commit to a process, such as this alternative to court/jury trial, to fix the amount of damages which an injured person can collect from the defendant for amounts above the BI limits.   It might be the right thing to do.  For example, imagine a case of disputed liability, modest ($50,000 BI limits) but medical expense of $200,000.  Finally add in this last element: UIM limits of $25,000.  Such a case cries out for a Binding High/Low Arbitration agreement...because the very process will effectively cap the individual exposure of the defendant insured to $25,000, the amount the UIM insurer could end up paying and for which the UIM insurer could pursue the defendant.  The alternative court/jury trial, by contrast, exposes the defendant to potentially unlimited tort liability and exposure whereas the Binding High/Low Arbitration process, even if it results in an above-limits award and judgment, is effectively capped at $25,000 in this example. 

Not all such cases will be clearly proper candidates for a Binding High/Low Arbitration agreement.  Some might be considered appropriate such that the defendant could agree and consent. But how is the defense attorney going to explain that a year or so later after an arbitrator has awarded sums in excess of the BI limits and after the UIM insurer has begun collection on the “judgment” resulting from judicial confirmation of the binding high/low arbitration award?

Claimant attorneys will continue to push for Binding High/Low Arbitration agreements.  Their risk/reward is very different than is that of the defendant insured. Or the BI insurer. Or the defense attorney.  The assumed protections to the defendant insured should not be assumed any longer.

This is a time for caution when using Binding High/Low Arbitration agreements.   Stay tuned. 

About the Author:

Ted has practiced Minnesota insurance law for thirty years.  With a concentration in insurance coverage he advises and counsels insurance companies and self-insured entities, including writing policies and self-insured undertakings as well as operations/compliance.  As a prolific writer and teacher, he has written extensively on general insurance law subjects, bad faith, ADR, complex settlement devices (such as Drake v. Ryan and Miller Shugart) and a wide range of subjects.  Ted has authored and co-authored seven books on Minnesota motor vehicle insurance law and practice. He and the Minnesota Motor Vehicle Insurance Manual are regarded as primary authorities by the legal and insurance communities.  Ted and Rich Besonen are working with a friend and colleague from the insurance industry to publish a Minnesota guide to CGL insurance coverage.