By Joseph P. Kelly and Shelly Hall

Scenario: Law Firm creates employee stock ownership program, or ESOP, per Client’s request. Seven years later, ESOP asks Firm to conduct a risk analysis based on how the ESOP was created. Firm tells ESOP that Client engaged in prohibited ERISA transactions when the ESOP was established. Firm doesn’t notify its malpractice carrier. ESOP eventually sues Client. ESOP’s attorney then sends a letter to Firm stating that Client-Defendant “remembers receiving advice from [Firm]” that he should take ERISA prohibited actions and if Client’s statement is true, Firm probably needed to notify its malpractice carrier.

Firm still doesn’t provide notice of a claim, but it does provide a brief summary about the matter in its next two annual renewal applications. Firm then decides to change malpractice carriers. The application asked about any circumstances that could reasonably give rise to a professional liability claim and Firm identified the ESOP matter. The application then asked whether notice was given to its current insurer. Firm answered “Yes” and “concurrently, or immediately succeeding this application, written notice will be given to the current insurer.”

The application states that there will be no coverage for any matter listed as potentially giving rise to a claim that was reported to another insurer. Despite its application answer, Firm didn’t give written notice to its current insurer. A few months later, Client sues Firm for malpractice. Firm quickly notifies its current carrier of the suit. Carrier says no coverage based on the application. Firm doesn’t notify its prior insurer until over a year later. Prior insurer denies coverage based on its policy’s reporting requirement.

Question: Both insurers were aware of the ESOP matter. Did Firm do enough to trigger coverage for Client’s malpractice suit?

The answer was “No” in Ironshore Specialty Co. v. Callister, Nebeker & McCullogh, P.C., et al, Case No. 2:15-cv-00677-RJS-BCW (D. Utah Dec. 21, 2017). Let’s take a look at the policies to see why the Court said no coverage.

• Policy #1 The front page of the first insurer’s policy states “This is a Claims Made and Reported Policy, please read it carefully.” The court highlighted the importance of reporting a claim during the relevant coverage period. The court found that Firm’s reporting obligations under the policy were clear based on the cover page disclosure, along with a statement in the Insuring Agreement that there’s coverage for claims “first made against the Insured during the Policy Period and reported to the Insurer during the Policy Period.” Accordingly, the Court found that Firm had to strictly comply with the policy’s reporting requirements and that it did not. It wasn’t enough to just list a potential claim in its renewal applications. A formal notice of claim during the Policy Period was required for coverage.

• Policy #2 The application contained a disclaimer stating “NOTICE: THE POLICY BEING APPLIED FOR WILL NOT PROVIDE COVERAGE FOR ANY CLAIM ARISING OUT OF THE MATTERS REQUIRED TO BE LISTED IN 30(a) AND 30(b) ABOVE.” The matters referred to are matters that could reasonably give rise to a claim and matters for which notice had been given to a current insurer. The Court disagreed with Firm that the the disclaimer was just a warning statement of sorts and wasn’t enough to bar coverage. The disclaimer unambiguously stated there wouldn’t be coverage for those matters.

Lesson #1: Report, report, report!

Perhaps Firm thought it should wait for a “Claim” by Client – either a written demand of sorts or a lawsuit – before giving notice to the first insurer. Maybe Firm just hoped it all would go away. Bottom line – best practice is to err on the side of caution and report potential malpractice claims. “Claims made and reported” policies like the first policy here only provide coverage if the claim is made during the coverage period and it’s reported to the insurer during the coverage period. Most policies, including the first policy, provide for reporting of a potential claim as soon as an Insured is aware and, by reporting right away, an insured can trigger coverage once there’s a “Claim”, even if the “Claim” doesn’t come occur after the coverage period. Then it wouldn’t matter that coverage was excluded in the second policy, because coverage under the first policy was secured by notice of potential claim.

Lesson #2: Comply with the policy’s reporting requirements!

Firm told the first insurer about the ESOP matter in two renewal applications. But the first policy had particular requirements for notice of a potential claim. More details were required than what was asked for in the renewal application. If Firm had complied with the first policy’s notice requirements, coverage for Client’s eventual malpractice suit likely would have been triggered.

by: Chris Graham and Shelly Hall

Summary: Today’s post focuses on a recent Seventh Circuit decision, BancorpSouth v. Federal Insurance Co., No. 17-1425 (7th Cir. Oct. 12, 2017), affirming dismissal, for failure to state a legally viable claim, of a bank’s complaint against an insurer for alleged breach of a duty to defend and pay for a $24 million settlement of a consumer class action alleging improper overdraft fees, and related “bad faith.” It involved a duty-to-defend policy and a broad “fee” exclusion and, although other policies provide otherwise, this one had no exception for Defense Expenses. At the end of this post, we discuss other cases involving similar issues, but with different policy wording and, in some cases, different results. If you’re a broker or a risk manager, this case and those discussed at the end show why you should insist on a Defense Costs exception to a fee exclusion.

The coverage suit: In BancorpSouth, a bank sued an insurer for breaching a contract by failing to defend a class action and pay for a related $24 million settlement and for bad faith. Citing the policy’s exclusion “for Loss on account of any Claim … arising from … any fees or charges,” the Southern District of Indiana, applying Mississippi law, dismissed the bank’s complaint for failure to state a legally viable claim. Given the allegations in the complaint, the Court concluded that the insurer had no duty to defend. Because the duty to defend is broader than the duty to indemnify, moreover, the insurer had no obligation for the settlement; nor was there bad faith. The Seventh Circuit affirmed.

Policy wording: Subject to the policy’s terms, the insurer agreed to “pay, on behalf of an Insured, Loss on account of any Claim first made against such Insured during the Policy Period…for a Wrongful Act committed by an Insured or any person for whose acts the Insured is legally liable while performing Professional Services, including failure to perform Professional Services.” The duty-to-defend policy included a “fee” exclusion providing that the insurer “shall not be liable for Loss on account of any Claim…based upon, arising from, or in consequence of any fees or charges.” “Loss” included “Defenses Costs” and settlement costs. But the fee exclusion had no Defense Costs exception.

Class Action Complaint: The bank customer’s “opening allegation stated: ‘This is a civil action seeking monetary damages, restitution and declaratory relief from [the bank] arising from its unfair and unconscionable assessment and collection of excessive overdraft fees.’” The complaint alleged that the bank “maximized the amount of overdraft fees it could charge customers through a variety of means, policies, and procedures” including by “reorder[ing] debts from highest to lowest, instead of chronologically,” “fail[ing] to provide accurate balance information, and purposefully delay[ing] posting transactions,” “fail[ing] to notify customers of overdrafts, despite having the capability to ascertain at the point of sale whether there were sufficient funds in a customer’s account,” and “fail[ing] to make their customers aware that they can opt out of [the bank’s] overdraft policy upon request.” The customer asserted counts for breach of contract, unconscionability, conversion, unjust enrichment, and violation of the Arkansas Deceptive Trade Practices Act. He also sought to represent a class of “[a]ll customers in the United States who … incurred an overdraft fee as a result of the bank’s practice of resequencing debit card transactions from highest to lowest.” As relief, the customer, for himself and the class, sought a declaration that the bank’s “overdraft fee policies and practices” were “wrongful, unfair, and unconscionable,” “[r]estitution of overdraft fees,”‘[d]isgorgement of ill-gotten gains,” ‘[a]ctual damages,” ‘[p]unitive and exemplary damages,” “[p]re-judgment interest,” “costs and disbursements,” and “other relief” as “just and proper.”

Duty to defend: As is typical and as was the case under Mississippi law, whether the insurer had a duty to defend “depend[ed] upon the comparison of the language contained in the policy with the allegations contained in the underlying action.” In this instance, it was about “compar[ing] … [the fee exclusion], which excludes from coverage any claim ‘based upon, arising from, or in consequence of any fees or charges,’ with the allegations in the [customer’s] Complaint.” That the complaint included allegations that didn’t mention overdraft fees didn’t matter. “[T]hese individual allegations cannot be read in a vacuum, and instead, must be read in the context of the entire complaint.” “Read in its entirety, the only harm alleged by the [customer’s] complaint is [the bank’s] maximization of excessive overdraft fees on its customers.”

As the Court explained further:

The very first paragraph of the … Complaint specifically states that the crux of the lawsuit centers on [the bank’s] “unfair and unconscionable assessment and collection of excessive overdraft fees.” Moreover, the complaint defines the class of plaintiffs as customers who “incurred an overdraft fee.” Finally, every claim for relief asserted is specifically premised on the imposition of overdraft fees. The bank argued that the insurer had a duty to defend inasmuch as, per the complaint, “policies and procedures caused the customers’ alleged injuries, and [excluded] overdraft fees were one type of damages suffered as a result.”

Rejecting that argument, the Court explained: “To be sure, language focusing on ‘overdraft policies and procedures’ appears in a number of places, but it is always connected with the wrongful collection or imposition of overdraft fees.” The bank also argued that the fee exclusion was ambiguous, inasmuch as it didn’t say whether the “fees” were “payable to or by” the bank. Rejecting that argument, the Court explained that the fee exclusion by its plain wording, broadly applied to a “Claim … arising from … any fees or charges,” whether paid by or to the bank. The Court also rejected the bank’s argument that reading the fee exclusion as including overdraft fees paid by customers to the bank would make the “coverage for ‘Defense Costs,’ defined in the policy to include attorneys’ fees, illusory.” The Court explained that the ‘exclusion has no effect on [the bank’s] recovery of any attorneys’ fees on account of claims that are based on something other than fees or charges, such as a claim based on the quality of services provided by [the bank].” The Court also stressed that an insurer’s “decision” to include a fee exclusion in a professional liability policy “serves a necessary purpose of avoiding ‘moral hazard.’” Without the exclusion, the insured “could freely create other customer fee schemes knowing that they would be readily reimbursed by” its insurer.

Comments: Here’s a summary of other recent cases addressing coverage for overdraft class actions and issues similar to those in BancorpSouth:

• Fidelity Bank v. Chartis Specialty Ins. Co., Civil Action No. 1:12-CV-4259-RWS (N.D. Ga. 2013), applying Georgia law, addressed a “fee-dispute” exclusion, applicable to “Loss in connection with any Claim made against any Insured . . . alleging, arising out of, based upon or attributable to, directly or indirectly, any dispute involving fees, commissions or other charges for any Professional Service rendered or required to be rendered by the Insured, or that portion of any settlement or award representing an amount equal to such fees, commissions or other compensations; provided, however, that this exclusion shall not apply to Defense Costs incurred in connection with a Claim alleging a Wrongful Act.” Given the “fee-dispute” exclusion’s Defense-Costs exception, the insurer funded the bank’s defense of the overdraft class action. But it refused to pay the settlement. The District Court granted the insurer a summary judgment, holding that the settlement was uninsurable because the payments amounted to restitution and in any event fell within the fee-dispute exclusion.

• U.S. Bank National Association v. Indian Harbor Insurance Company, Case No. 12-CV-3175 (PAM/JSM) (D. Minn. Dec. 16, 2014), applying Delaware law, addressed exceptions to primary and excess policies’ “Loss” definitions, for “[m]atters which are uninsurable under the law pursuant to which this Policy is construed” or “principal, interest, or other monies either paid, accrued, or due as the result of any loan, lease or extension of credit by [the bank]”; and an exclusion for “any payment for Loss in connection with any Claim made against [the bank] . . . brought about or contributed in fact by any . . . profit or remuneration gained by [the bank] to which [it] is not legally entitled . . . as determined by a final adjudication in the underlying action.” The bank settled the underlying overdraft class action for $55 million, and sought coverage for $30 million of that amount plus defense expenses, excess of a $25 million deductible. The District Court granted the bank a summary judgment, rejecting the insurers’ argument that the settlement was uninsurable as restitution. Without deciding whether restitution was insurable, the Court—citing the “final adjudication” wording in the policies’ ill-gotten gains exclusion—explained that the “policies unambiguously require that a final adjudication in the underlying action determine that a payment is restitution before the payment is barred from coverage as restitution.” See Kevin LaCroix’s December 22, 2014 D&O Diary blog post for a detailed discussion of this aspect of this somewhat controversial decision. When procuring the policies, US Bank’s broker and risk manager had no need to worry about a Defense Costs exception to a fee exclusion; there was no exclusion.

• First Community Bancshares v. St. Paul Mercury Ins. Co., 593 F. App’x 286, 288 (5th Cir. 2014) involved a fee-dispute exclusion for a claim “based upon, arising out of or attributable to any dispute involving fees or charges,” with no Defense Costs exception, but with duty-to-defend wording. The Fifth Circuit, applying Texas law, affirmed a summary judgment for the bank and against the insurer holding that the insurer had a duty to defend. “Construing the [underlying class action] petitions liberally … at least some of the allegations … are not excluded by the fee-dispute exclusion.” Some of the allegations—“regarding [the bank] providing misleading information on its account practices and customers’ account balances–… do not have a causal connection to a disagreement that necessarily includes fees ….” As the Seventh Circuit in BancorpSouth stated: “Crucial to the … [First Community] holding … was [the Fifth Circuit’s] finding that the primary harm was not the assessment and collection of fees, but rather ‘that “customers could not ascertain their account balances and could not accurately plan spending, withdrawals, and deposits.’” In contrast, the BancorpSouth underlying class-action complaint showed that “excessive overdraft fees were the central and only harm”; so there was no duty to defend or pay the settlement. Although the insurer in First Community was required to defend notwithstanding a fee-dispute exclusion with no Defense-Costs exception, it was only because plaintiff’s complaint fortuitously included some allegations falling outside of that exclusion and the bank benefited from pro-policyholder rules for determining an insurer’s obligations under a duty-to-defend policy. The bank in BancorpSouth had no such luck.

• PNC Financial Services. Group, Inc. v. Houston Casualty Co., 647 F. App’x 112, 120 (3d Cir. 2016) (not precedential) involved policies insuring “Loss,” meaning “Claim Expenses” and “Damages”—defined as “a judgment, award, surcharge, or settlement … and any award of pre- and post- judgment interest, attorneys’ fees and costs,” but with an exception for “fees, commissions or charges for Professional Services paid or payable to an Insured” (the “Professional Services Charge Exception”). “Claim Expenses” (defense costs) for a fee suit, thus, weren’t subject to the Loss definition’s Professional Services Charge Exception or to any fee exclusion; so the insurer here would have been required to pay Claim Expenses exceeding a $25 million self-insured retention. The Third Circuit, applying Pennsylvania law, held that the $102 million paid by the bank to settle the underlying overdraft charge class actions (including $30 million for class counsel fees) fell within the Professional Services Charge Exception; defense expenses presumably fell within the $25 million self-insured retention. As the Seventh Circuit in BancorpSouth explained, the insurer in the PNC case had no duty to indemnify the insured where “the class was defined as those who incurred an overdraft fee” and “settlement payments were based on the number of overdraft fees incurred.” As in BancorpSouth: “The essence of [the bank customer’s] Complaint [in PNC was] clearly [the bank’s] maximization of overdraft fees. Since there’s no other was to construe the … Complaint, [the insurer in PNC] had no duty to defend the overdraft fee claims because they are excluded from coverage.” So too in BancorpSouth.

The plaintiffs’ bar has targeted banks and others with class actions alleging they improperly charged fees to consumers. Many suits involved multiples of millions in alleged harm and resulted in multi-million dollar settlements. Defense costs also ran into multiples of millions. In 2010, new Federal rules provided consumers a chance to avoid overdraft fees on certain debit card transactions and ATM withdrawals. But, as a simple Google search will show, that didn’t end the overdraft fee class actions. Earlier this year the Consumer Protection Financial Bureau adopted a rule barring banks, credit-card companies, and financial service firms from requiring consumers to agree to arbitration clauses and class-action waivers. But the Trump administration just struck that rule. So presumably we’ll see fewer consumer class actions involving improper fee charges.

Bottom line: But if you’re a broker or risk manager, why not make sure the policy you’re buying at least has Defense Costs coverage for these types of cases.

by: Chris Graham and Shelly Hall

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The issue: Today’s post is about a recurring issue for claims-made liability insurers and their policyholders: whether a claim arises out of the same or related “Wrongful Acts” as alleged in an earlier claim. If you’re the underwriter, you won’t want to insure a claim that that arises out of the same or related Wrongful Acts as alleged in an earlier claim; or, if you wrote the risk when the earlier claim was made, you’ll at least want to make sure the earlier and new claims are treated as a single claim so that only one limit of liability applies. If you’re a policyholder, you’ll obviously want as broad of coverage as is available. The “relatedness” issue has been litgated frequently. And the litigation outcome will depend on the contract wording and the facts alleged in the underlying claims. Today’s post is about a recent case involving an “interrelated wrongful acts” definition—including pro-insurer “common nexus” wording—that meant that the policyholder would lose.

A Big Easy shoot-out, a City surveillance system, and alleged bid rigging and kick-backs: New Orleans; 2003. There’s a shoot-out. Surveillance cameras capture it. Police as a result nab the bad guys. Great thing! Let’s do it City-wide, says the Mayor. Let’s invite bids. And then the “fun” begins. There are at least three companies involved; we’ll call them “A,” “B,” and “C.” There also are City employees who, depending on who you believe, allegedly steer the work to A, B, or both in exchange for subcontracts and other “favors.” A thinks B is colluding with City employees to cut it out of the City work. C thinks A and B are doing the same thing to it.

A’s 2007 lawsuit against B: In 2007, A sues B, the City employees, and their companies. A alleges that it collaborated with the City to develop a surveillance system; the City and A signed a contract in July 2004; the City promised to keep A’s “technology” confidential; City employees told A that A needed to hire them as subcontractors, but A refused; the Mayor’s Office of Technology then contracted technology work to B; and then B and City employees stopped authorization of A’s work and failed to order and authorize payment for cameras, shared A’s confidential information, and conspired to manufacture a copy of A’s system, sell it to Monster Company, and illegally sell it throughout the State. A and B eventually settle.

B’s 2009 claims-made policy: Fast-forward to 2009. B purchases a Digital and Technology Professional Liability Policy, effective July 1, 2009 to July 1, 2010. Subject to its terms, the policy covers certain claims made during the policy period. As is typical for claims-made policies, this policy carves-out coverage for claims—associated with the circumstances of past claims, such as A’s 2007 lawsuit against B. Thus, “[a]ll claims arising out of the same wrongful act and all interrelated wrongful acts of the insureds shall be deemed to be one claim, and such claim shall be deemed to be first made on the date the earliest of such claims is first made, regardless of whether such date is before or during the policy period.” “[I]nterrelated wrongful acts” means “all wrongful acts that have as a common nexus any fact, circumstance, situation, event, transaction, cause or series of related facts, circumstances, situations, events, transactions or causes.” So what happens next?

C’s 2009 lawsuit against B: C sues B, A, and City employees and their companies, about the same surveillance system at issue in A’s 2007 suit against B. C alleges that it co-developed the system; City employees steered the City contract to A; A in exchange agreed that City employees would assume C’s role in the project and be involved in system sales outside the City; City employees also steered City technology work to B; B in exchange steered its subcontract work to City-employees; and B and those City employees misappropriated C’s confidential information.

The coverage litigation: B tendered the defense of C’s 2009 lawsuit to its claims-made insurer, which refused to defend. B then sued for a declaration of coverage. So who wins?

The decision: In a decision involving a scenario along the lines described above, a Colorado Federal Judge said that the insurer wins. Ciber, Inc. v. ACE American Insurance Company, Civil Action No. 16-cv-1189-WJM-NYW, Dist. Court, D. Colorado, July 9, 2017. According to the Court:

Based on the broad definition of “interrelated wrongful acts” …, as well as the substantially similar factual web surrounding the [2007] and [2009 lawsuits], the Court is persuaded by ACE’s contention that the two proceedings involve a “single scheme”—namely, [(B’s)] alleged participation in a conspiracy to use city employee-run entities as subcontractors to circumvent the July 2004 Contract and misappropriate the surveillance camera project.

In the Court’s view, the allegations in the [2007] and [2009 lawsuits] both arose out of a “single scheme” directed at the developer of the wireless surveillance system (whether [A] alone or in partnership with [C], involving a single contract (the July 2004 Contract), implicating the same transaction or series of transactions involving the surveillance camera project, and seeking a single outcome (to cut out the originators of that system from current and future business dealings). This “single scheme” provides the Court with a sufficient basis upon which to conclude that the [2007] and [2009 lawsuits] share (or are connected and linked by) a common “series of related facts, circumstances, situations, events, transactions or causes.”

The 2009 lawsuit, thus, would be treated as a single claim with the 2007 lawsuit and deemed made in 2007, before inception of the July 1, 2009-2010 policy period; so there’s no coverage.

B argued that “the dictionary’s primary definition [of nexus] is ‘a causal link’ [and] courts construe this causation requirement to include both but-for cause and proximate cause”; “[s]everal courts have followed [this causation] approach in denying insurance carriers’ attempts to limit coverage under interrelated wrongful act provisions”; and that “[b]ecause there is no causal link between all claims in the [2007 lawsuit] and those in the [2009 lawsuit], there is a possibility of coverage, leaving ACE with a duty to defend.”

But according to the Court: “Looking at the plain language of the term ‘interrelated wrongful acts’ and its definition under the Policy…there is no basis to conclude that this Policy term incorporates a causal relationship or ‘but-for’ test.” The Court, thus, would “only examine the record to determine whether there is a ‘connection’ or ‘link’ between the facts or occurrences underlying the alleged ‘wrongful acts’ present in the [2007 and 2009 lawsuits].”

In reaching its decision, the Court distinguished the policyholder’s “causation” cases as based on different related wrongful cats wording. It also cited ACE Am. Ins. Co. v. Ascend One Corp., 570 F. Supp. 2d 789, 798 (D. Md. 2008), KB Home v. St. Paul Mercury Ins. Co., 621 F. Supp. 2d 1271, 1277 (S.D. Fla. 2008), Nat’l Title Agency, LLC v. United Nat’l Ins. Co., 2016 WL 1092485, at *3 (D. Utah Mar. 21, 2016), and Old Bridge Mun. Utilities Auth. v. Westchester Fire Ins. Co., 2016 WL 4083220, at *4–5 (D.N.J. July 29, 2016), which rejected a “but-for” test for “nearly identical definitions of the term ‘interrelated wrongful acts.’”

Comments: Compared to this ACE policy, there are narrower “interrelated” or “related wrongful acts” definitions in certain claims-made policies including definitions requiring a causal connection, including the policy at issue in one of the cases cited by ACE’s policyholder. One claims-made community association D&O policy provides, for example, that “’Related Wrongful Acts’ shall mean Wrongful Acts which are causally connected by reason of any common fact, circumstance, situation, transaction, casualty, event or decision.” Given the “interrelated wrongful acts” definition in the ACE policy, ACE didn’t have to show a causal connection between facts or occurrences underlying the wrongful acts alleged in the 2009 suit and those alleged in the 2007 suit. Plaintiffs in the 2007 and 2009 suits differed, but both suits alleged the same scheme involving the policyholder’s supposed “kick-backs” to City employees in exchange for allegedly steering it City work. This is the kind of scenario the “interrelated wrongful acts” wording was aimed at