Covenant Not To Execute: What It Means, How it Works

Julia Kagan is a financial/consumer journalist and former senior editor, personal finance, of Investopedia.

What is Covenant Not To Execute

A covenant not to execute is a lawsuit agreement in which the plaintiff agrees not to execute a judgment against the defendant. A covenant not to execute in an insurance claim lawsuit is typically provided by a plaintiff who wants to seek a portion of the overall damages from the insured, while also reserving the right to make further claims against other policies until all damages are covered.

Understanding Covenant Not To Execute

The covenant not to execute is a promise by the plaintiff not to seek further damages from the insured. Insurance claim lawsuits involve three main parties: the insured, the insurer, and the claimant. Each party has its separate goals it hopes to achieve. The insured wants to settle for as little as possible. The insurer wants to reduce its loss exposure to the smallest amount. The claimant wants the most money it can get from the lawsuit.

The insurer indemnifies the insured, meaning that it is responsible for defending the insured against the lawsuit. In some cases, however, the insurer does not act in the best interest of the insured and refuses to settle. In this case, the insured and claimant may agree to limit the judgment so that the claimant can go after the insurer.

Key Takeaways

• A covenant not to execute is a promise by the plaintiff, generally the insured or claimant, to limit the amount of damages sought in an insurance lawsuit.
• It is used as a strategic maneuver by the claimant and insured to target the insurer for monetary damages.
• Some state courts have placed onerous restrictions or do not allow for filings of covenant not to execute.

Problems with Covenants Not To Execute

Many insurers argue that a defendant who consents to a judgment but is protected by a covenant not to execute is not legally obligated to pay plaintiffs, and therefore has suffered no loss. A minority of courts have barred such agreements under this logic, concluding that a confession of judgment, in which the insured would never expect to pay out of his or her own resources, nullifies the possibility of coverage. The courts caution that to hold otherwise would invite collusion between the settling parties.

Executing a covenant not to execute can be a tricky strategy and depends on jurisdiction within the given state. There is the majority approach, followed by courts in states like California, and the minority approach, followed by courts in states like North Carolina. In the latter case, courts in North Carolina have argued that a covenant not to execute constitutes a form of release for the insured from legally honoring their obligation. They claim that this also releases insurers from the legal obligation to indemnify claimants.

California has placed conditions for a covenant not to execute to be valid. One of these conditions is that the insurance carrier must deny coverage and defense to the policyholder first before the covenant to execute is implemented. The state also requires settlement agreements between the insured and plaintiffs to be reasonable, non-collusive and in good faith.

Example of Covenants Not to Execute

For example, a construction company purchases a liability insurance policy to protect it against certain risks while it builds a new hospital. Several years after the project is completed, the hospital is found to have construction deficiencies, and the hospital operator files a claim to pay for repairs. The hospital operator, now the plaintiff, makes a settlement demand of the insurer and the construction company, but the insurer is unwilling to accept the plaintiff’s settlement demand. The plaintiff indicates that it is willing to not execute a judgment against the construction company in exchange for the construction company assigning its claim against the insurer to the plaintiff. The plaintiff would thus be free to seek damages from the insurer.