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FIRST DIVISION
June 28, 2004

JUSTICE McNULTY delivered the opinion of the court:

In this case we must decide whether an insurer may recoveramounts it paid for defense of its insured in a lawsuit againstthe insured for claims that do not fall within the coverage ofthe insurance policy. We hold that under the circumstances ofthis case, where the insured knew when it accepted the paymentsthat the insurer intended to seek recovery of defense costs ifthe court agreed that the claims were not covered, the insurermay recover any payments made for the claims not covered by thepolicy.

The City of Chicago (the City) and Cook County sued MidwestSporting Goods for creating a public nuisance by selling guns toinappropriate purchasers. Midwest tendered defense of thelawsuit to its liability insurer, General Agents InsuranceCompany of America (Gainsco). Gainsco denied coverage, but inthe letter it sent to Midwest's attorneys it wrote:

"[W]ithout waiving any of its rights and defenses,including the right to recoup any defense costs paid inthe event that it is determined that the Company doesnot owe the Insured a defense in this matter, theCompany agrees to provide the Insured a defense in thecaptioned suit. In light of the competing interestsbetween the Company and the Insured in respect of thecoverage for this matter, the Company agrees to theInsured's selection and use of your firm as its counselin this matter."

Gainsco also sued for a judgment declaring that it had no duty todefend or indemnify Midwest.

The trial court granted summary judgment in favor of Gainscoand this court affirmed that judgment on appeal. Gainsco thensought to recoup amounts it had paid for Midwest's defense costs. Between July 2000 and February 2001 Gainsco had paid Midwest'sattorneys more than $40,000.

The trial court again awarded judgment in favor of Gainsco,ordering Midwest to reimburse Gainsco for all payments Gainscomade to Midwest's attorneys in connection with the lawsuit. Midwest now appeals.

Since the trial court granted judgment on uncontestedevidence without holding an evidentiary hearing, we review thejudgment de novo. See People v. Coleman, 183 Ill. 2d 366, 387-89(1998).

Midwest argues that Gainsco paid defense costs pursuant tothe insurance contract, and the contract makes no provision forthe recovery Gainsco seeks. According to Midwest, Gainsco cannotrecover on a theory of unjust enrichment because a contractgoverns their relationship. We find that Midwest misconstruesthe payments Gainsco made.

When Midwest tendered defense of the lawsuit to Gainsco,Gainsco promptly denied coverage and sued for a judgmentdeclaring that it had no duty to defend. But during the pendencyof the declaratory judgment action, while the court undertook theprocess needed to determine whether Gainsco owed Midwest anydefense, Gainsco offered to pay part of Midwest's costs ofdefending the City's lawsuit -- with the qualification thatGainsco would seek reimbursement if the court determined that itowed no duty to defend.

We find the arrangement similar to the arrangement madebetween the parties in City of Chicago v. McKechney, 205 Ill. 372(1903). In that case the City in 1895 agreed to pay McKechney toconstruct a tunnel. In 1897 McKechney demanded increasedpayments because he encountered unexpected difficulties in thecourse of construction. When the City made a partial payment atthe original rate rather than the increased rate, McKechneystopped work and sued the City. He claimed that the inadequatepayments violated an 1897 revision of the original contract.

The City denied liability but sought to have the workresumed. In 1898 the City and McKechney made a new arrangementfor resumption of the work pending determination of the parties'rights in the lawsuit. Under the 1898 agreement the Citypromised to pay McKechney at a rate higher than the agreed ratestated in the 1895 contract, but

"'without prejudice *** so that the final judgment ordecree may be in accordance with the rights of theparties upon the merits, as determined by the court,independent of such arrangement for the resumption ofthe work. In the final adjustment the city to receivecredit for all moneys paid to said contractors on anyaccount in connection with the construction ***, and inthe event that an over-payment shall be found to havebeen made, the city to be entitled to recover theamount of such over-payment.'" McKechney, 205 Ill. at436-37.

McKechney claimed that the City made its subsequent paymentsunder the 1897 revision, thereby acknowledging that revision as abinding contract. Our supreme court rejected that argument. Instead the court found that the 1898 accommodation pendinglitigation effectively preserved the City's rights under the 1895contract, including the right to pay no more than the amount duethereunder. The court held that the 1897 document did noteffectively revise the 1895 contract. The City recovered amountspaid under the 1898 accommodation in excess of amounts owed underthe 1895 contract.

Here, Gainsco offered a similar accommodation pendinglitigation to determine whether Gainsco owed Midwest the cost ofdefending the lawsuit the City of Chicago brought againstMidwest. Like the 1898 arrangement in McKechney, theaccommodation proposed in Gainsco's letter reserved rights tolitigate the question of whether Gainsco owed the paymentssought, and the right to recover any amounts the court laterdetermined Gainsco did not owe. We find no reason to invalidatethe accommodation pending litigation here.

The court in Buss v. Superior Court, 16 Cal. 4^th 35, 939 P.2d766, 65 Cal. Rptr. 2d 366 (1997), reached a similar result. H&HSports asserted 27 causes of action against Buss in a singlelawsuit, and Buss tendered defense to his insurer, Transamerica. Transamerica found potential coverage for one of the causes ofaction, so it accepted the tender of defense. But in its letteraccepting the tender, Transamerica asserted that it was reservingthe right to deny coverage and to recover costs paid for defenseof claims not within the coverage of Transamerica's policy. Bussacknowledged the reservation of rights and formalized thearrangement in a written agreement. Following settlement ofH&H's lawsuit against Buss, Transamerica sought reimbursement ofmost of the fees paid for defense. The trial court found thatmost of the fees paid for work on claims not within the coverageof Transamerica's policy, and the court ordered Buss to reimbursethose fees.

The Supreme Court of California held:

"Under the policy, the insurer does not have aduty to defend the insured as to the claims that arenot even potentially covered. With regard to defensecosts for these claims, the insurer has not been paidpremiums by the insured. It did not bargain to bearthese costs. To attempt to shift them would not upsetthe arrangement. [Citation.] The insurer therefore hasa right of reimbursement." Buss, 16 Cal. 4^th at 51, 939P.2d at 776, 65 Cal. Rptr. 2d at 376.

See also Krusinski Construction Co. V. Northbrook Property &Casualty Insurance Co., 326 Ill. App. 3d 210, 224 (2001).

In Walbrook Insurance Co. v. Goshgarian & Goshgarian, 726 F.Supp. 777, 784 (C.D. Cal. 1989), the insurer denied coverage forthe lawsuit against its insured and sued for a judgment declaringthat it had no contractual obligation to provide a defense. Theinsurer offered to pay the costs of defense in the underlyinglawsuit pending determination of the declaratory judgment action,but it reserved the right to seek reimbursement of the defensecosts if the court decided it had no duty to defend the insured. The insured accepted the tendered payments while protesting thatthe insurer had no right to reimbursement. The court held:

"[D]efendants knew that plaintiffs intended toseek reimbursement if it was found that there was noduty to defend. *** While defendants did specificallyobject to this reservation, they also accepted $500,000in defense costs from plaintiffs. This would beinconsistent with their objections, as they arerefusing to accept the agreement yet retaining thefruits of it. There is adequate evidence showing an'understanding' that plaintiffs would seekreimbursement. Furthermore, this Court holds thatacceptance of the monies constitutes an impliedagreement to the reservation." Walbrook, 726 F. Supp.at 784.

The United States District Court for the Southern Districtof Illinois believed that Illinois courts would follow thereasoning Buss and Walbrook. In Grinnell Mutual Reinsurance Co.v. Shierk, 996 F. Supp. 836 (S.D. Ill. 1998), the insurer agreedto pay defense costs, but it reserved the right to deny coverage,and it asserted the right to seek reimbursement of defense costsif a court found it had no duty to defend. The insurer sued fora judgment declaring that it had no duty to defend its insured. The court awarded the insurer the judgment. The insurer thensought reimbursement of its payments for the defense. Followingthe reasoning of Buss, the court held that the insurer had aright to reimbursement of defense costs it paid, because theinsurance policy did not cover any of the claims against theinsured. And following Walbrook, the court found the reservationof the right to reimbursement sufficient, without express consentfrom the insured. Grinnell, 996 F. Supp. At 839.

Midwest argues that we should not adopt the reasoning ofGrinnell, Buss and Walbrook, because those cases give the insurertoo much leverage. If an insurer wrongly refuses to defend itsinsured it loses all policy defenses. See La Rotunda v. RoyalGlobe Insurance Co., 87 Ill. App. 3d 446, 452 (1980). If theinsurer pays for defense costs under a reservation of rights, itretains policy defenses, but it usually does not recover amountspaid for the defense. According to Midwest, the court inGrinnell allowed the insurer "to challenge its duty to defendrisk free, with no loss of policy defenses and with the potentialto recoup unlimited defense costs." Midwest claims this makesthe Grinnell decision "disastrous for insureds." Midwestexplains:

"[I]f insurance companies can agree to defend witha reservation of rights and a chance to recoup defensecosts, then insureds are in a situation where they donot know if they will have to pay for defense costs. Insureds would be in a worse position than if they hadno insurance, in that they would not be able to factorin defense costs into their overall decision to contesta lawsuit or settle since they would not know who waspaying for defense until after substantial fees wereincurred."

The court in Walbrook noted that its decision left insuredsthe possibility of forcing insurers to elect whether to defend orrefuse to defend:

"Perhaps if defendants had specifically askedplaintiffs to make such an election prior to acceptingany of the defense funds an election would be forced." Walbrook, 726 F. Supp. at 784 n.3.

We agree. If Midwest refused to accept the funds on theconditions Gainsco imposed, it could force Gainsco to chooseeither to defend without a right of reimbursement, or to deny adefense and risk losing all policy defenses if a court found itin breach of the insurance contract.

Gainsco's offer did not place Midwest in a worse positionthan it would have had without the offer. Midwest chose itscounsel, and Gainsco's offer did not affect the choice. Withoutthe offer Midwest would still have been uncertain who wouldultimately pay defense costs, because Midwest sought to recoversuch expenses in its counterclaim against Gainsco. Pendingdetermination of the counterclaim Midwest would face the sameuncertainty it faced here -- it just would not have had use ofGainsco's money while the parties litigated the claim.

Contrary to Midwest's central assertion, we find thatGainsco did not make the payments to Midwest's counsel pursuantto the insurance contract. Instead, Gainsco made these paymentsas an accommodation pending litigation to determine whetherGainsco owed Midwest, under the insurance contract, a defense tothe City of Chicago's lawsuit. Midwest accepted the conditionsGainsco placed on the accommodation by accepting the checks itreceived. Just as our supreme court enforced the terms of theaccommodation the parties made in McKechney, we find theaccommodation here enforceable. The trial court properlyenforced the accommodation by ordering Midwest to reimburseGainsco the amount Gainsco paid for defense against claims notcovered by Gainsco's policy. Accordingly, we affirm the judgmentof the trial court.

Affirmed.

O'MALLEY, P.J. concurs.

McBRIDE, J., dissents.

I respectfully dissent from the majority's decision to allowreimbursement of defense costs in this case of first impression. Although there is authority from other jurisdictions which haspermitted reimbursement of costs based upon a reservation ofrights letter similar to the one here (for example Buss cited bythe majority), I do not believe Illinois case law supports themajority's decision. Under Illinois law, an insurer's duty todefend its insured arises from, and is limited by, the expressundertaking to defend as stated in the contract of insurance. Conway v. County Casualty, 92 Ill. 2d 388, 394, 442 N.E.2d 245(1982). The policy here contained the following language:

"We have the right and duty to defend, at ourexpense, any claim, proceeding or suitagainst you for damages payable by thisinsurance ***. We have no duty to defend aclaim, proceeding or suit that is not coveredby this insurance." (Emphasis added.)

This language states that a defense undertaken by Gainsco wouldbe at its own "expense." There is no contract language providingfor reimbursement of costs in the event a court later finds thatthere is no duty to defend. Because that language could easilyhave been included in the policy and bargained for by theparties, I would not allow for reimbursement.

Further, the Illinois supreme court has repeatedly held thatwhen a complaint against an insured alleges facts within orpotentially within the scope of coverage, an insurer taking theposition that the complaint is not covered has two options:defend under a reservation of rights or seek a declaratoryjudgment that there is no coverage. State Farm Fire and Casualtyv. Martin, 186 Ill. 2d 367, 373, 710 N.E.2d 1228 (1999). Theseare two separate and distinct options. State Farm, 186 Ill. 2dat 373. Only if an insurer fails to take either of these stepsand is later found to have wrongfully denied coverage, "is theinsurer estopped from raising policy defenses to coverage." Employers Insurance v. Ehlco Liquidating Trust, 186 Ill. 2d 127,150-51, 708 N.E.2d 1122 (1999). Gainsco, like other insurers,chose both, it defended under a reservation of rights and soughta declaratory judgment. See Insurers Co. of Illinois v.Markogianakis, 188 Ill. App. 3d 643, 652, 544 N.E.2d 1082 (1998). Additionally though, in a letter reserving its policy rights,Gainsco said it would reserve its rights to recoup its defensecosts. As pointed out above however, the policy does not containany such right. Because Illinois law provides the insurer withthe option of filing a declaratory judgment, without forwardingdefense costs, Gainsco should not be allowed to create a thirdoption the insured never agreed to or anticipated.

In its five page reservation of rights letter, dated July23, 1999, Gainsco begins by pointing out that it has reviewed the"First Amended Complaint" naming its insured Midwest. Afterthat, it details certain provisions, definitions, and exclusionscontained in the subject policy. It indicates, among otherthings, that since the policy applies to damages because ofproperty damage or bodily injury caused by an occurrence, the"claim" is not covered by the policy. The letter also says the"claim" may not be covered because the first Amended Complaintalleges "that the Insured is liable to plaintiffs for ***intentional and/or willful conduct." Then, after pointing outnumerous reasons why the policy does not cover the claim, Gainscostates "subject to the foregoing and without waiving any of itsrights and defenses, including the right to recoup any defensecosts *** the Company agrees to provide a defense in thecaptioned suit *** the Company notes its right to associate withthe Insured and its counsel in the defense of the underlyinglitigation." Toward the end of this letter, it adds thefollowing:

"Please note that any acts taken by or onbehalf of the Company are taken under andpursuant to a full reservation of rights anddefenses under the Policy. Likewise, we willunderstand that any acts taken by or onbehalf of the Insured are taken pursuant to areservation of its rights as well."

In my opinion, this letter was a clear indication by Gainsco thatit would defend its insured under a reservation of policy rights.

Gainsco claims its insured accepted the benefits of animplied agreement that Gainsco would be reimbursed if there wasno duty to defend. Midwest says there was no agreement and thatGainsco was doing only what it was obligated to do under thepolicy. The majority has adopted Gainsco's view and relies uponMcKechney, a 1903 supreme court decision involving a dispute overa construction contract. McKechney, 205 Ill. 372 (1903). I donot think McKechney is particularly helpful in this case becauseit did not involve an insurer and its insured.

Buss, a California decision the majority relies upon, whichwe are not bound to follow, is clearly distinguishable. In thatcase, after the insurance company forwarded its reservation ofrights letter to its insured, the parties "entered into anagreement supported by consideration" that if a court ordereddefense costs to be shared pro rata, Buss would reimburse itsinsurance company. Buss, 65 Cal. Rptr. 2d at 370. Since therewas no agreement established here, and certainly no considerationfor such an agreement, I would reverse.

Grinnell, also relied upon by the majority, is equallyunpersuasive because it does not look to Illinois law at all ininterpreting the question of reimbursement. Grinnell, 996 F.Supp 836 (1998). Before today, Grinnell has never been followedby any Illinois court.

Walbrook, 726 F. Supp 777, 784 (1989), is of questionablevalidity under Illinois law; it holds an implied agreement toreimbursement is created despite an insured's objection to aninsurer's reservation of defense costs.

Not one of these cases discusses an insurer's right inIllinois to file a declaratory judgment when it disputescoverage. Not one of these cases suggests that a provision likethe one in this policy was present in the relevant insurancepolicies, specifically that the "right" to defend will be at theinsurer's "expense." Because Gainsco exercised its "right" todefend, it agreed to defend, and the policy provides it will beat Gainsco's "expense," it is not entitled to reimbursement ofits expenses in defending its insured.

As pointed out by Midwest, Illinois law does not generallyallow parties to a contract to go outside the contract terms inan attempt to recover money damages based upon equitable orquasi-contract principles. La Throp v. Bell Federal Saving andLoan Ass'n, 68 Ill. 2d 375, 391, 370 N.E.2d 188 (1977)("wherethere is a specific contract which governs the relationship ofthe parties, the doctrine of unjust enrichment has noapplication"); Industrial Lift Truck Service v. MitsubishiInternational, 104 Ill. App. 3d 357, 360, 432 N.E.2d 999(1982)(asa general rule no quasi-contractual claim can arise when acontract exists between the parties concerning the same subjectmatter on which the quasi-contractual claim rests) .

I would also reverse the trial court's decision because nospecific theory of relief was pled in Gainsco's declaratoryjudgment complaint. Although Gainsco claims it was entitled todefense costs based upon a theory of unjust enrichment, it hasbeen somewhat vague about this theory of relief both here and inthe trial court. Either way, its complaint does not state anylegal basis for relief; for that reason I believe the ordershould be reversed.

The majority also suggests that Midwest should have turneddown the defense of the suit and forced the issue. I do notagree. Only in hindsight did either party learn that there wasno duty to defend. To tell an insured that it cannot acceptdefense payments because of some language that was slipped into afive page reservation of rights letter again seems wrong,particularly when Illinois precedent gives an insurer the rightto file a declaratory judgment to dispute coverage.

Additionally, in its reservation of rights letter, Gainscostated that "any acts taken" are taken under "a full reservationof its rights and defenses under the policy." The question thenbecomes, were the defense costs initially paid by Gainsco "actstaken under a full reservation of its rights and defenses." Ifso, shouldn't Gainsco be held to the provision that its "right"and "duty" to defend will be at its own "expense?" It shouldalso be noted that this motion for reimbursement of costs wasdecided similarly to a motion for summary judgment. Therefore,unless we can say that Gainsco was entitled to a judgment of itscosts as a matter of law, the motion should have been denied. Ata minimum, there are unresolved questions of material fact as toGainsco's intent when it originally paid the defense costs. SeeInsurance Co. of the West v. Haralambos Beverage Co., 195 Cal.App. 3d 1308, 1323, 241 Cal. Rptr. 427 (1987)(summary judgmentorder reversed for trial on whether insured entered into anagreement to reimburse insurer or whether under a theory ofequitable restitution the insurer conferred a benefit incidentalto the protection of its own interest).⁽¹⁾ Therefore, I wouldreverse the decision of the trial court.

It also seems unfair for Gainsco to call upon the policyprovisions to reserve its rights and defenses, yet later disavowthat same policy in terms of the payments it has made. In itsletter, Gainsco specifically said it was agreeing to provide adefense in the "captioned suit," but now disavows that as well. Without being too repetitive, Gainsco could have filed adeclaratory judgment without agreeing to defend at the same time. As pointed out above, it does not lose its policy defenses byexercising that option. Only when an insured does not exerciseeither option, can estoppel apply. Ehlco, 186 Ill. 2d at 150-51. Although I am not encouraging this second option as a matter ofcourse, Illinois law provides for it.

Finally, there is authority from other jurisdictions whichsupports denying the reimbursement of defense costs sought here.See e.g. Terra Nova Insurance Co., Ltd., v. 900 Bar, Inc., 887 F.2d 1213, 1219-20 (1989)(concluding generally, under Pennsylvanialaw, that even when the insurer defends under a reservation ofrights letter, it may not later recover costs expended indefending the insured, on the ground that the insurer's provisionof a defense is as much for its own benefit as for theinsured's).

For all of the above reasons, I would deny reimbursement ofdefense costs. In the alternative, I would remand this matterfor a trial to determine whether the defense costs in this casewere actually paid pursuant to the policy or whether there was anagreement between the parties that Gainsco would be reimbursed byMidwest because of a subsequent court order that there was noduty to defend.

1. Though not specifically overruled, in Buss the SupremeCourt of California considered and disapproved of Insurance Co.of the West. Buss, 65 Cal. Rptr. at 378 n.14.