California Supreme Court: Policyholders Can Sue Excess Insurers Before Exhaustion

In Fox Paine & Co., LLC v. Twin City Fire Ins. Co., the California Supreme Court held that insureds may bring claims for declaratory relief or tortious breach of the implied covenant of good faith and fair dealing against excess insurers, even if the underlying coverage has not been exhausted.

FPC, an investment firm, held a $50 million follow-form coverage tower — a $10 million primary policy and four $10 million excess layers. A deteriorating relationship between FPC’s cofounders, Fox and Paine, produced years of litigation between them.

FPC’s insurance broker tendered notice of that litigation on behalf of FPC and all other insureds. A partner at a separate fund Paine had launched later wrote the primary carrier, representing that the tender letter had been submitted on behalf of Paine only. The excess carriers knew of that letter and said nothing to Fox.

The primary carrier paid Paine its policy limits, and the first two excess carriers settled with Paine. Fox learned of the settlement three years later, after both carriers had told him in writing that no proceeds had been paid. When Fox sued, the carriers above the first excess layer demurred, arguing that the dispute was not ripe because underlying layers had not been exhausted. Because the first excess carrier had paid only $6 million of its $10 million limit, they argued, no policy above that layer could attach. The trial court agreed, the Court of Appeal affirmed, and the Supreme Court granted review.

The Holding

The Court explained that Fox could bring a declaratory relief claim against the excess carriers because exhausting underlying insurance is not necessary for an “actual controversy” under Cal. Code. Civ. Proc. § 1060 to arise. Though a tower of coverage may introduce a “wrinkle” in a § 1060 analysis, the Court explained, “a dispute can be ripe, and a court can provide sufficiently clear and directive declarations of rights and responsibilities under multiple excess policies, even though coverage under these policies is contingent on the exhaustion of all underlying insurance.” Fox Paine & Co., LLC, at *29.

Nevertheless, an insured seeking a declaration of rights under excess policies must still adequately allege covered losses. If the insured alleges the loss is fully known and it cannot reach an excess policy on its face, it is subject to demurrer. Id. at *34. If the loss is uncertain, the court assess the “reasonable likelihood” the claims are covered under the excess policy. Id. at *36.

The Court also explained that the implied covenant of good faith attaches “at the inception of the insurance agreement,” and may be breached even if the carrier remains “in technical compliance with the express terms of the policy.” Id. at *60-61. At the pleading stage, the insured need only allege coverage “will attach—or that it would attach, if not for the excess insurer’s bad-faith conduct—and that the insurer’s misconduct has impaired the insured’s recovery of benefits owed to it under the policy.” Id. at *63 (emphasis in original).

Why It Matters to Corporate Policyholders

1.  Insureds can now bring the entire tower into a single declaratory relief lawsuit. Thus, policyholders no longer have to secure a judgment one carrier at a time; the litigation is effectively consolidated. Accordingly, bad faith claims against excess carriers surviving demurrers may also alter the economics of the litigation. Because of these new parties and earlier claims, claim-file discovery could become more robust in declaratory relief lawsuits involving excess carriers, and settlements may be negotiated earlier because excess carrier exposure begins earlier.

2. The California Supreme Court limited the carrier-friendly Ninth Circuit case, Iolab Corp. to scenarios where a loss is fully known. In Iolab Corp., the Ninth Circuit explained that a plaintiff seeking declaratory relief must exhaust primary coverage first because those excess carriers’ obligations may never be triggered. Id. (citing Iolab Corp. v. Seaboard Surety Co., 15 F.3d 1500, 1502-1505 (9th Cir. 1994)). The California Supreme Court explained that such a categorical pleading bar is incorrect, but did harmonize the case by applying the reasoning to scenarios where “an insured alleges a fully known loss,” only. Id. Accordingly, carriers may no longer wield Iolab Corp. as a categorial pleading bar that enforces the exhaustion requirement.

3. Similarly, the California Supreme Court harmonized California law and disapproved of Ludgate Ins. Co. v. Lockheed Martin Corp., 82 Cal. App. 4^th 592 (2000), and Lockheed Martin Corp. v. Continental Ins. Co., 134 Cal. App. 4^th 187 (2005), two California Court of Appeal exhaustion requirement cases, “to the extent they could be so construed,” as “endorsing a pleading rule contrary” to the Court’s holding in Fox Paine & Co. Id. at *40.

Fox Paine & Co., LLC v. Twin City Fire Ins. Co., No. S287404, 2026 Cal. LEXIS 3943 (July 27, 2026).