The American Law Institute (ALI), in its current draft of the Restatement of the Law of Liability Insurance , has adopted the position that a liability insurer in breach of its duty to defend, but not acting in bad faith, forfeits the right to dispute coverage of the resulting judgment or reasonable, noncollusive settlement in a lawsuit. The ALI view is the minority rule in the courts in that most make bad faith a prerequisite for loss of a coverage defense but presumably will spur re-examination of the issue in many states. Unsurprisingly, insurers have opposed the ALI position with some vigor, arguing that forfeiture of coverage defenses is an unduly punitive measure that can improperly result in coverage beyond what the policyholder purchased. Insurers argue that traditional contract damages, primarily payment of the policyholder's defense costs, provide an adequate remedy. The debate tilts solidly in favor of the ALI if one takes a broad view of contract doctrine, and especially if one appreciates the purpose of liability insurance, the magnitude of a breached duty to defend, and the degree to which insurance involves not only a contract-based relationship between policyholder and insurer but also impacts the public at large. Insurance policies are not only contracts but products, private legislation, and social instruments serving a socioeconomic function for which insurer defense and resolution of claims is particularly important. It should be denied only in clear cases. By encouraging insurers to resolve close cases in favor of defending, the ALI approach better serves the functional aspects of insurance.
5 U.C. Irvine L. Rev. 587 (2015).
Stempel, Jeffrey W., "Enhancing the Socially Instrumental Role of Insurance: The Opportunity and Challenge Presented by the ALI Restatement Position on Breach of the Duty to Defend" (2015). Scholarly Works. Paper 950.