All Risks Covered

Mini-MDL approved to consolidate business interruption cases against one regional insurer

2020-10-06T13:38:00.001-04:00

Last week, the U.S. Judicial Panel on Multidistrict Litigation agreed to at least one mini-MDL, consolidating the business interruption lawsuits filed against Society Insurance Co. At the same time, it decided against consolidation of cases against several other insurers, saying it would be inefficient.

In August the MDL panel ruled against centralizing all COVID-19 business interruption lawsuits because of differences between policies and unique facts of certain policyholders. However, the panel requested additional briefing on mini-MDLs against five insurers. Those five (Lloyds, Cincinnati, Hartford, Society Insurance, and Travelers) insurers accounted for approximately 275 cases (approximately 1/3 of cases filed).

In approving the mini-MDL against Society Insurance Company, the MDL court stated consolidation “will serve the convenience of the parties and witnesses and further the just and efficient conduct of this litigation.” Unlike the other insurance carrier defendants, the panel noted that Society is a regional insurer only operating in six states (Minnesota, Iowa, Illinois, Indiana, Wisconsin, and Tennessee). These cases were transferred to the U.S. District Court for the North District of Illinois, in Chicago.

In a series of separate opinions, the MDL ruled against consolidating the cases against the other insurers involved. Generally speaking, the insurance carriers argued that local courts were already familiar with state law (which governs most substantive insurance law issues), that various states and municipalities issued unique and differing civil authority issues, that a variety of policy forms were at issue, and that any question of damages would require individualized, fact-specific attention.

Supreme Court to hear arguments in captive insurance case on December 1

2020-09-20T20:48:00.000-04:00

Last Wednesday, the Supreme Court released its December arguments calendar. Included on the calendar was CIC Services v. IRS, a case we first blogged about in 2016. Since then, our firm has been involved as counsel for an amicus party, the district court dismissed the case, the Sixth Circuit affirmed in a 2-1 decision, and the Supreme Court has granted certiorari. The issue that the Supreme Court will hear oral arguments on December 1st is:

Whether the Anti-Injunction Act, which prohibits lawsuits to stop the assessment or collection of taxes, also bans challenge to reporting and information-gathering mandates imposed by the Internal Revenue Service, when the violation of those mandates carries tax penalties.

The case has generated significant amicus attention at the high court, with a dozen amicus briefs being filed (10 in favor of CIC Services, two in favor of the IRS). It remains to be seen whether the passing of Justice Ginsburg will result in an alteration of the oral argument calendar.

Incentive fee awards for class plaintiffs struck down by 11th Circuit

2020-09-20T13:38:00.000-04:00

Last week the Eleventh Circuit shocked the legal world by ruling that incentive payments to named representatives in class actions are improper, striking a $6,000 award to the plaintiff in a Telephone Consumer Protection Act class action . Johnson v. NPAS Solutions, LLC, No. 18-12344, “Slip Op.” (11th Cir. 2020).

Incentive awards are a special payment to the named plaintiffs in class actions. Courts began awarding these in the 1980s, and they are commonplace today. Civil rights and consumer protection class action settlements include incentive awards to the named plaintiffs approximately 90% of the time. While these awards are typically small compared to the total settlement or judgment amounts – they often range from $1,500 to $20,000 depending on how involved the named plaintiffs were in the case – the incentive award is usually drawn from the common fund or otherwise paid by the defendant as an awardable cost.

In Johnson, the defendant (a medical debt collector) and the class had agreed to settle the case for $1.432 million (which included a $6,000 payment to the named plaintiff). Only one person opted out of the class and objected. Relying on two cases from the 1880s, the panel held “that Supreme Court precedent prohibits incentive awards like the one” awarded to the plaintiff (and the type customary in virtually all class actions). Id. at 18. Trustees v. Greenough, 105 U.S. 527 (1882), and Central Railroad & Banking Co. v. Pettus, 113 U.S. 116 (1885).

In Greenough, the Supreme Court first held that a plaintiff could seek reimbursement for his costs, attorney’s fees, and reasonable and necessary expenses in bringing a case on behalf of others 105 U.S. at 537. But, at the same time, the high Court also stated that “there [was] one class of allowances” that was “decidedly objectionable.” -- the plaintiff’s “personal services and private expenses.” Id.

Three years later, in Pettus, the Court again held that a plaintiff representing others in an equity suit could claim “expenses incurred in carrying on the suit and reclaiming the property . . .” 113 U.S. at 122. As in Greenough, the representative plaintiff could not claim his personal compensation out of the common fund recovery. Id.

Relying on Greenough and Pettus, the Eleventh Circuit concluded that “the modern-day incentive award” was akin to either a salary which is earned or a bounty to be won, both of which were forbidden by two 19^th century cases. Slip Op. at 23.

The Eleventh Circuit noted that Rule 23 practice and “inertia” had resulted in incentive awards as being “commonplace in modern class-action litigation,” but added “that doesn’t make them lawful, and it doesn’t free us to ignore Supreme Court precedent forbidding them.” Id. at 25, 28.

In dissent, Judge Martin argued that the 11th Circuits own prior cases required the panel “to determine whether the incentive award [] is fair,” and concluding that the $6,000 award was fair. Id.

This opinion creates a clear circuit split – which the panel recognized – and will be top of mind with every class-action lawyer in the country. Incentive fees have become boilerplate in insurance class action settlements; some empirical research indicates 90% of consumer class actions contain incentive fee awards, which average slightly more than $4,000 per plaintiff. The empirical evidence suggests that Judge Martin's conclusion - that the district court did not abuse its discretion in awarding $6,000 - was in line with common practice.

While the focus of this blog is typically business insurance, we will continue to monitor this case as it moves ahead for three reasons:

Insurance companies continue to face class actions against themselves for their own business practices, making this case relevant to them.
This case has major implications for this blog's readers; which include many businesses which could face class action litigation. If courts begin to disallow class action incentive fee awards, plaintiffs' firms will have a harder time finding people who are willing to sign up for the burdens of serving as class representatives (being subject to discovery, depositions, mediations, and court appearances) when the representatives could get the exact same compensation by merely being an unnamed class members.
Finally, we routinely advise clients regarding insurance coverage issues for class actions and are currently representing defendants in nearly a dozen high-stakes class actions. While Johnson v. NPAS Solutions is technically a decision regarding civil procedure, it has major implications for both policyholders and insurers.

What’s next? Plaintiffs and Defendant could petition the Eleventh Circuit for en banc review. But en banc petitions are granted less than 1% of the time. Because this opinion creates a circuit split, the Supreme Court may grant review. But if neither en banc review nor certiorari to the Supreme Court are granted, the opinion will stand. In that event, the 11^th Circuit will be seen as a less-favorable jurisdiction for class actions, and class action objectors in all other circuits will start citing to Johnson.

All Risks Covered team publishes North Carolina Insurance Desk Reference

2017-03-15T11:22:00.001-04:00

The team of Womble Carlyle attorneys who contribute to this blog have curated a number of the blog posts, in addition to other content, into an e-book titled The North Carolina Insurance Desk Reference. You can access it here.

Lawsuit filed to set aside IRS Notice 2016-66

2016-12-30T11:30:00.000-05:00

Two months ago, without any prior warning or public notice, the IRS issued Notice2016-66 which defined a number of common captive insurance transactions as “transactions of interest.” The Notice is limited to captive insurers organized under 831(b). The IRS states that these “transactions of interest” have the “potential for tax avoidance or evasion.” It places reporting responsibilities on the captive insurers and the owners of captive insurance companies, as well as a number of other professions (including lawyers, accountants, actuaries, and captive managers), with stiff monetary penalties for non-compliance.

The Notice has generated a substantial amount of reporting and commentary in the captive insurance community. By imposing reporting requirements on any 831(b) which has used risk pools to achieve risk distribution, had loss rates of less than 70%, or been involved in related-party lending, the Notice applies to the vast majority of 831(b)s which have had operations for the last 10 years. Further, captives (and professional advisors) were given only until January 30, 2017 to comply with filing the new reporting requirements, which include retrospective reporting of transactions for the last 10 years. However, since the time that this lawsuit was filed, the IRS has issued 2017-08 which extends the reporting deadline until May 1, 2017.

Two days ago, on December 28, 2016, CIC Services, LLC filed a lawsuit against the Treasury Department and IRS. It seeks an injunction from the federal district court, which would prohibit the IRS from enforcing the Notice.

More specifically, CIC Services, LLC is a captive manager located in Tennessee.It claims it is entitled to an injunction because (1) the Notice is a “legislative-type rule” which was unlawfully issued without proper compliance with the Administrative Procedures Act (which includes a public notice and comment period) and (2) because the Notice is “arbitrary and capricious and ultra vires in nature” and lacks the proper analytic foundation required under the Administrative Procedures Act.

The thrust of this injunctive lawsuit is that the APA contains a four step process before an administrative rule can be put into place, and the Treasury Department and IRS did not give public notice and seek public comment before publishing the Notice.

It will be interested to see how this lawsuit proceeds in the federal court system. If CIC Services, LLC prevails on a temporary restraining order or early motion for a permanent injunction, the IRS will not be able to enforce the Notice.

Is the Owner-Manager of your Vendor your “Employee?”

2016-11-30T09:28:00.000-05:00

Expansion of Coverage: North Carolina Crime Coverage Part: Embezzlement

Is the Owner-Manager of your Vendor your “Employee?”

On November 14, 2014, the Eastern District of North Carolina entered summary judgment in favor of an insured seeking coverage for embezzlement for actions by owners of a vendor. Colony Tire Corp. v. Fed. Ins. Co., No. 2:15 CV 27, 2016 WL 6683590 (Nov. 14, 2016 E.D.N.C.)

The insured was seeking coverage under a claims-made policy for theft that occurred between 2002 to 2014. The embezzlement losses were approximately $492,350.00. The insurer denied coverage claiming that Colony, the insured, could not establish that the loss was caused by an “Employee” under the Policy.

The money was stolen from Colony through its payroll and tax vendor, Employee-Services.Net (“ESN”). Through the contract between ESN and Colony, ESN was allowed to withdraw funds from a designated bank account to pay Colony’s payroll and taxes. Owners/Managers/Principals of ESN, James Staz and William Staz (collectively “the Stazes”) pled guilty to embezzling over $14 million from ESN’s many clients, including Colony.

Essentially, the Stazes would withdraw money from Colony’s account, claiming that the money would be used to pay payroll taxes. In reality, the taxes would go unpaid, and the money would fund the Stazes’ extravagant lifestyle, which included alcohol, strip clubs, jewelry, a luxury car, and a luxury home “with a lavish three-tiered pool, a cascading waterfall, wet bar, and dining area.”

The critical issue for the court was whether the Stazes were “Employees” under the policy. In the policy, the definition of Employees included “contractual independent contractor.” In the definition, “contractual independent contractor” had to be a natural person. Thus, from the outset, ESN, as a business entity, could not be a “contractual independent contractor.” Further, to qualify as a contractual independent contractor, there had to be a written contract between Colony on one hand, and on the other hand either (a) the natural person or (b) an entity “acting on behalf of” the natural person.

The written contract was between Colony and ESN. The Stazes were not a part of the contract. Thus, to qualify as “contractual independent contractors,” the court had to determine whether ESN was an entity “acting on behalf of” the Stazes pursuant to part (b) of the definition.

The court interpreted the phrase “acting on behalf of” broadly due to its ambiguity. Thus, not only did the phrase mean to act within the scope of a formal agency relationship, the Court also construed the phrase to mean actions in the general interest of or in the general benefit of the natural person. Given this broad definition of “acting on behalf of,” the Court determined that ESN acted on behalf of the Stazes when it contracted with Colony. Thus, the Stazes were Employees as defined by the policy. Because they were Employees, there was coverage for the loss and directed the insurer to pay the loss. The Court then directed the insured to prepare additional briefings on potential costs, attorney’s fees, and interest that it sought through its prayer for relief.

An important portion of the analysis, in our opinion, was the Court’s use of the Federal indictment for the Stazes. Using the facts of the indictment, the Court concluded that ESN’s purpose was to facilitate the Stazes’ embezzlement scheme. No one, other than the Stazes, benefited from ESN’s existence. Further, the Court emphasized that ESN was a tool used by the Stazes for their criminal actions: “the Stazes “through [ESN] defrauded ESN clients.” Id. at *5 (emphasis in original). While not explicitly done in this case, such findings could support a veil piercing theory under North Carolina law, which would yield similar results through equitable means.

Given the results of this case, it would not be surprising to see a re-write of the “contractual independent contractor” provision in the future. However, litigators could also distinguish this case on the basis of the facts. The facts in the indictment supported showing that the Stazes used ESN for their exclusive, personal benefit. One could potentially argue that similar facts, establishing this high-bar, close to a veil-piercing standard, would need to be found in order to meet the burden of “acting on behalf of” language. This would be distinguished from actions by a "lone wolf" employee at a vendor who steals funds without benefiting the owners.

Opioid Use and NC Workers’ Compensation

2016-11-18T16:32:00.000-05:00

As we have previously reported, the North Carolina Industrial Commission was tasked to investigate a prescription formulary for North Carolina State workers. The results of the investigation were published earlier this year. The Commission considered the potential savings, benefits, and implementation procedures of a drug formulary, not just for State workers, but for the workers' compensation system as a whole. Also requested specifically by the General Assembly, the Commission also investigated the use of narcotic drugs and the growing health problem of opioid use.

The results of the investigation included a general statement that given the complexity of drug formulary implementation, the Commission recommended additional time and resources be spent evaluating the costs and benefits associated with a formulary. The Commission recognized that, in the meantime, a generic mandate could have potential savings. Specifically for this post, the Commission stated that strong consideration should also be given as to how opioids are treated in the North Carolina workers’ compensation system.

A new Wall Street Journal article published recently offers a new option in which the Commission may have interest. The article discusses that insurers, such as Liberty Mutual and Broadspire, are using algorithms to suggest other treatment options after a certain number of opioid refills.

Given that the North Carolina Industrial Commission has utilized new technology to help identify non-insureds, the use of a computer program to aid management of this potential epidemic is very interesting. It would not be surprising if the Commission’s further work on this subject included new technology in this area.

Hurricane Matthew flood claims may not be entirely preempted by federal law

2016-10-18T11:07:00.002-04:00

In the wake of Hurricane Matthew and its associated flooding (particularly in North Carolina and South Carolina), a recent case of first impression in the Sixth Circuit may be cited by both damaged businesses and insurers and insurance brokers in the Carolinas. Harris v. Nationwide Mutual Fire Insurance Company, __ F.3d __, 2016 WL 4174381 (6th Cir. Aug. 8, 2016).

Writing for a unanimous panel, Judge Ralph B. Guy, Jr. held that the National Flood Insurance Act (established in the wake of flooding in Florida and Louisiana after Hurricane Betsy in 1965) did not preempt claims based on state law for negligence in the procurement of an insurance policy for a home situated in a flood-prone area. Although this case was decided on principles of federal abstention, it has major ramifications for those practicing insurance law. While it is not binding on any courts in the area affected by Hurricane Matthew, policyholder counsel will likely cite to it as persuasive authority in support of negligence claims against insurance brokers and other professionals involved in the purchase of homes or insurance.

The case arose when a married couple suffered a flood loss during a 2010 flood of the Cumberland River. They brought a claim against their mortgage bank (Regions), a flood-zone certifier, their insurance company (Nationwide) and their insurance broker (David Vandenbergh). On appeal, the issue was whether the homeowers’ state law claims for negligence during the procurement of their Standard Flood Insurance Policy were preempted by Congress when it passed the National Flood Insurance Act (NFIA) The panel unanimouslyheld that while the NFIA preempted coverage claims against the insurer, it did not preempt negligence claims regarding procurement of the policy.
The case was remanded to the district court for further proceedings and, presumably, for trial.

The Court explained that:

“The NFIA indisputably preempts state-law causes of action based on “the handling and disposition of SFIP claims.” Gibson [v. American Bankers Ins. Co.], 289 F.3d at 949. . . . . The Fifth Circuit has distinguished claims-handling causes of action from policy-procurement causes of action, and held that the NFIA does not preempt state-law claims “to the extent that they implicate [insurers'] acts or omissions regarding issuance of the policy because those claims are procurement-based, not claims-handling-based.” Spong v. Fid. Nat'l Prop. and Cas. Ins. Co., 787 F.3d 296, 306 (5th Cir. 2015). In determining whether a plaintiff's cause of action arises from claim handling or policy procurement, the Fifth Circuit looks to whether the plaintiff was “already covered” by a SFIP, or instead was a “potential future policyholder.” Id. We agree with the Fifth Circuit's approach and hold that the NFIA does not preempt policy-procurement claims such as plaintiffs'.”

In adopting the same distinction as the Fifth Circuit, the Court noted that:

“Damages stemming from policy-procurement claims, unlike those arising from policy-coverage claims, are not “flood policy claim payments.” 44 C.F.R. § 62 App. A, Art. I. . . . . Policy-procurement damages, therefore, pose no danger to the federal interests prompting preemption in the claims-handling context, i.e., “reduc[ing] fiscal pressure on federal flood relief efforts.” C.E.R. 1988, Inc., 386 F.3d at 270.”

Addressing questions of federal abstention:

“[G]eneral conflict-preemption principles do not compel barring state-law policy-procurement claims. It is possible to comply with both state tort laws and FEMA regulations, and state laws regarding misrepresentation and breach of fiduciary duty in the policy-procurement process do not “stand[ ] as an obstacle to the accomplishment and execution of the full purposes and objectives of Congress” in enacting the NFIA. Id. at 269Id. at 269 (quoting Green v. Fund Asset Mgmt., L.P., 245 F.3d 214, 222 (3d Cir. 2001)).”

As Hurricane Matthew's floodwaters recede from the Carolinas, Harris and Spong are likely to be cited as the parties duel over whether claims for negligent procurement in the purchase of insurance can proceed to trial.

Hurricane Matthew insurance tips for businesses

2016-10-10T08:25:00.002-04:00

With Hurricane Matthew downgraded to a tropical cyclone, it is time for affected businesses, property owners, and insurers to focus on quantifying the amount of damage caused by the storm. By some estimates, Hurricane Matthew will generation over 100,000 insurance claims and between $4 billion and $7.5 billion in property losses. Although the focus is typically on pre-storm preparation, the immediate steps taken this week will be important to any business owner seeking to present an adequate claim to its insurer for property damage.

Safety is always the first priority. Do not put yourself, your employees, of first responders in danger. Currently in North Carolina, the predictions are for worsening flooding in many low lying parts of the eastern part of the state, with peak flooding not reaching some areas until Wednesday (four days after the storm passed).

Once the threat of imminent danger has receded, the next step should be to document your loss. Thorough documentation of the damage to your property will be invaluable. Hopefully you will also have photographs or video from before the storm, so that any claim presented to an insurer can show both the before and after photographs of the condition of the property. Because cell phones and digital cameras are not limited by physical film, do not hesitate to shoot dozens or hundreds of photographs. Videos may be helpful as well.

At the same time you are documenting the damage, you should immediately put your insurer on notice of the loss. You should call your insurer to begin putting them on notice as soon as you arrive at the property if you assess any physical loss. After you give initial notice, you can follow up with complete details, provide the photographs you have taken, etc. The insurer will likely eventually send an adjuster to physical inspect the damage to the property.

It is important to quickly give notice for several reasons. As a legal matter, giving prompt notice prevents having a claim denied by an insurer on the basis of a late notice defense. As a practical matter, because of the large number of claims that will be filed within a short period of time, some insurers will likely handle the claims on a first-come, first-serve basis. Getting your claim in quickly gets you closer to the front of the line.

If immediate repairs are needed, take plenty of additional photos of the damage, the repairs in progress, and the final repairs. Maintain copies of documentation regarding the repairs, and provide those to your insurer. If your business had to buy or rent additional equipment as a result of the damage, or you suffered inventory loss, you will want to maintain detailed documentation of these costs as well.

Finally, whichever employee you assign to provide information to the insurer should maintain a journal or notebook. This should include copies of all documents submitted to the insurance company, along with a log of all conversations with the insurer or its representatives. The log should include the contact information of anyone from the insurer that you have contacted with, the date and time, the topics you discussed, and any additional information which you believe may be useful in the future or in the event of a dispute.

Charlotte-area riots and looting could be covered by insurance

2016-09-22T10:37:00.000-04:00

Businesses in Charlotte, North Carolina will most likely be covered by property insurance for damage caused by protesters. Additionally, some may be able to recover lost business income.

Over the last two evenings, Charlotte has been the site of protests as a result of the police shooting of Keith Lamont Scott, a 43 year old man. On Tuesday night, protestors blocked Interstate 85 near the UNC-Charlotte area, and looted a nearby Wal-Mart. On Wednesday night, the Uptown area near the Epicenter was the site of most of the demonstrations. The protests, and resulting police response, have caused business disruptions in various parts of Charlotte.

Today, it is reported that many of the largest employers in the urban center of the city, including Bank of America, Duke Energy, and Wells Fargo have asked or permitted employees to work from home. Governor Pat McCrory has declared a state of emergency and requested the assistance of the National Guard.

Local news reported that a number of Uptown Charlotte businesses were damaged or looted during the violent overnight protests. These included the NASCAR Hall of Fame, the Charlotte Hornet’s team store, the Charlotte Convention Center, the United Way of Central Carolinas, the Bank of America headquarters, and several restaurants.

Property Insurance
Generally, businesses have a commercial property or business-owners property policy (sometimes called a BOP). The standard ISO commercial property and business-owners property policies have provisions that cover riot, civil insurrection property damage, and looting. This would include physical damage to a building, as well as merchandise that may have been stolen. Damage from fire will also be covered as a named peril.

On the other hand, photographs from social media and news reports show many shattered windows in Charlotte. Plate glass window insurance is usually offered as an add-on or additional insurance, and is not covered by many standard policies.

Businesses which are routinely in possession of someone else’s property – such as a shoe repair or auto repair shop – would likely need to have specific bailee insurance to cover the cost of replacement of a customer’s property which was damaged.

Business Interruption
If any curfew is imposed in Charlotte, or other restrictions on access to a business by either its customers or employees, the company may have a claim for business interruption or lost business income, depending on what coverages were selected. These policies typically provide require the insurer to pay for necessary extra expenses and lost business income as a result of a civil authority prohibiting access to the business.

The usual business interruption policy will only be triggered if there is sufficient physical damage to the business’s property such that the business must suspend its operations. Business owners should carefully read their policies however, as the trigger for business interruption may not begin for 24, 48, or 72 hours after the first civil authority prohibits access to their premises. Although the policy may not require an additional deductible prior to business income coverage being available, the 24 to 72 hour waiting period serves as a “time deductible.” Even once the business interruption coverage is triggered, it will not be retroactive to the date of the event. In other words, for damage caused on Wednesday night, business interruption coverage will not begin until Saturday night. As a result, some losses will not be recoverable under the standard policy. The business interruption during the first 72 hours could be covered by a captive insurer, however.

Often, this is a critical period of time for business owners immediately after a civil insurrection. During this waiting period, policyholders should take prompt repair measures to mitigate their damages even though lost profits will not be recoverable. Extra expense coverage, on the other hand, typically is triggered as soon as the first civil authority action.

Businesses with claims should immediately take photographs and put their insurance companies on notice. If claims are denied, there are typically internal appeals processes available to policyholders. If claims continued to be denied, business owners should consult with a knowledgeable insurance attorney about their options.

Steps to effectively cancel an insurance policy

2016-05-27T08:58:00.003-04:00

The North Carolina Court of Appeals recently released an unpublished opinion further illuminating how insurers can effectively cancel worker's compensation policies. However, nothing in the case limits its application solely to workers' compensation (or assigned risk workers' compensation policies). As a result, this case gives some guidance to insurers who wish to effectively cancel policies of all sorts of insurance for any valid reason (such as payment of premium).

In McNeill v. McNeill, Travelers provided a worker's compensation policy to the employer. Pursuant to the policy's terms and North Carolina statutory law, Travelers then requested certain information from the employer, including its IRS 1040 and Schedule C tax information. After two months elapsed, and because the employer had not responded with any information, Travelers sent a cancellation letter to the address on the policy (certified mail, return receipt requested), giving notice that the policy would be cancelled in four weeks. The certified mail indicated that the cancellation letter was delivered.

During the case, the parties deposed Betty Hurst of the North Carolina Rate Bureau. She testified that this was an assigned risk policy, and that Travelers' request for the employer's 1040 and Schedule C forms were "typical" and allowable under the North Carolina Workers' Compensation Assigned Risk Plan.

The Court of Appeals explained that, under N.C.G.S. 58-36-105(a)(2), an insurer may cancel a worker's compensation policy if the insured commits an "act or omission . . . that constitutes material misrepresentation or nondisclosure of a material fact in obtaining the policy, continuing the policy, or presenting a claim under the policy." To effect the cancellation, the insurer must follow the steps of N.C.G.S. 58-36-105(b).

The Court then applied North Carolina Rule of Civil Procedure 4 (specifically, Rule 4(j2)(2) to the insurance cancellation statute, and concluded that the insurer sending a cancellation letter, via certified mail, to the employer's last known address (which was the same as the address appearing on the policy), and the letter being received, was sufficient under Rule 4 and N.C.G.S. 58-36-105 to effect a cancellation of the policy.

Further, the Court stated that "it does not offend these principles [of administrative law or the law of the Industrial Commission] to hold that Travelers cancelled Defendant's workers' compensation policy for his failure to produce 1040 and Schedule C forms."

Because this opinion is an unpublished opinion of the Court of Appeals, reported pursuant to North Carolina Rule of Appellate Procedure 30(e), it is non-binding on future panels. Specifically, "an unpublished decision of the North Carolina Court of Appeals does not constitute controlling legal authority." However, citation is still allowed under Rule 30(e)(3) if there are no other published opinions on a material issue in a future case. There is nothing in this opinion that should limit its application solely to workers' compensation cases. Because the issue of effective cancellation of insurance policies frequently comes up, this case may prove important for practitioners in the future.

Late notice to insurer costs Maryland bank millions

2016-04-26T08:02:00.000-04:00

Insurance law generally imposes on a policyholder the duty to give timely notice of claims to its insurance company. Sometimes, because of forgetfulness, ignorance, neglect, or a number of other reasons, companies fail to immediately give notice of loss and potential losses to insurers. In those circumstances, insurers often raise the defense of “late notice.” As a result, a number of courts have devised a “notice prejudice rule” which limits the use of the late notice defense to situations when the delayed notice actually caused prejudice to the insurer.

In St. Paul Mercury Insurance Company v. American Bank Holdings, Inc., the Fourth Circuit, applying Maryland law, addressed the question of what qualifies as “prejudice.” In that case, American Bank Holdings, Inc., did not provide notice to its insurer until after a $98.5 million default judgment had been entered against it in the underlying claim. St. Paul raised the defense of late notice, argued that it was prejudiced, and denied coverage.

Although the bank was eventually successful at overturning the $98.5 million default judgment, it still spent $1.8 million resisting collection on the judgment and having the judgment set aside. All of this was because the underlying complaint had been served on the bank’s CFO, who had left employment at the bank. Another officer later found the complaint and transmitted it to an outside lawyer, who claims he never received the complaint. This procedure was described by the district court as “a variety of screw-ups” such that “significant suit papers that should have gotten immediate attention didn’t.” Writing for a unanimous panel, Judge Niemeyer of the Fourth Circuit explained that “corporate screw-ups” are not a basis to excuse the failure to give timely notice to an insurer, if the corporation expects to be indemnified for the defense of the claim.

“Actual prejudice” was shown in this case by the insurer, because the bank’s failure to give timely notice prevented the insurer from selected counsel, consulting with counsel on the defense of the claim, prevented the timely raising of a personal jurisdiction defense, and prevented the possibility of settlement discussions with the underlying plaintiff either prior to the entry of default judgment or prior to the expenditure of $1.8 million spent to resist and set aside the default judgment. These were all rights which the insurer has under the insurance contract, and all rights which it was not able to exercise because of the bank’s failure to give timely notice. As a result, actual prejudice was shown and St. Paul's declaratory judgment was granted on the basis that it had no duty to pay for American Bank's defense costs.

Long tail claims and "ancient documents" - revisions to Rule 803(16)

2016-04-22T06:41:00.001-04:00

Companies and institutions with long-tail claims – think asbestos, pollution, and sexual molestation – sometimes become involved in bet-the-company insurance coverage litigation. Faced with a barrage of tort lawsuits, the company turns to the liability insurers it has used for decades. If the insurers are successful in denying coverage, the company may face insolvency. Determining the presence and applicability of coverage requires establishing that the company purchased liability insurance in the 1960s, 1970s, and 1980s, and what the terms and exclusions of those policies were. In those coverage cases, the terms of paper documents that have been stuffed away in filing cabinets since Watergate and the Vietnam War, become the key pieces of evidence.

However, an influential committee of federal judges has initiated the process of removing the exception for ancient documents from the Federal Rules of Evidence. More specifically, the Judicial Conference Advisory Committee on Evidence Rules, a subcommittee of the Committee on Rules of Practice and Procedure (itself a subcommittee) of the Judicial Conference of the United States has proposed amendments to Federal Rule of Civil Procedure 803(16) and is accepting public comment and taking testimony regarding its deletion. This rather innocuous proposal may have major ramifications for insurance coverage lawyers.

Under the proposal from the Advisory Committee on Evidence Rules, Rule 803(16), the hearsay exception for “ancient documents,” would be deleted. Under current Rule 803(16), if a document is more than twenty (20) years old, and appears authentic, it is admissible for the truth of its contents. Although the rational for the ancient document exception is shaky – merely because something is old is no reason to believe it is more likely to be true – the inclusion of a hearsay exception for ancient documents is pragmatic. Often, it is simply implausible or functionally impossible to locate a witness who can testify with first-hand knowledge about a document that is decades old.

According to the Advisory Committee on Evidence Rules, the growing presence of electronically stored information, which will be easily retained in excess of 20 years, will lead to the abuse of Rule 803(16) to admit unreliable hearsay in the future.

Simply put, policyholders with long-tail claims, be they pollution, asbestos, or any other, often rely on ancient documents in proving those claims. Coverage disputes involving ancient insurance policies often rely on fractions of a complete insurance policy, and expert witnesses (known as “insurance archeologists”) are used to reconstruct material terms of policies from legally-sufficient secondary evidence. See, e.g., Dart Industries, Inc. v. Commercial Union Ins. Co., 28 Cal. 4th 1063 (2002).

The commercial reality is that insurance companies are not required by law, in most jurisdictions, to retain a copy of the policies of insurance which they issue. Instead, that burden rests on the policyholder. This is particularly true in the event that the policyholder becomes the plaintiff in a civil action, which carries the burden of proof. In those instances, the policyholder and the insurer may have to use accounting entries, check registers, stray portions of policy pages, the declarations page, or correspondence with insurance brokers in order to prove or disprove the existence of a policy and its material terms.

In current practice, witnesses with knowledge who can testify about these records are often unavailable because of lack of memory, the inability to locate a particular witness, or death. As a result, Rule 803(16) provides an exception to the hearsay rule to allow admissibility of these documents. If the proposed abrogation of Federal Rule 803(16) is approved (and eventually incorporated into the Federal Rules of Evidence), a party attempting to prove the contents of an insurance policy from the 1970s will be required to produce a witness or additional business records which confirm that the proffered policy is a business record which was made at or near the time indicated on the document in the regular course of that enterprise’s business. Rule 803(6).

Deletion of Rule 803(16) from the federal rules of evidence will also make the forum battle in coverage actions outcome dispositive in some cases. Cases litigated in state courts, where the ancient document rules will continue to apply, will be able to prove the existence of certain policies or specific terms. Filing the same case in federal court federal court would be a non-starter and perhaps sanctionable under Rule 11 if the plaintiff knew the case would rely on ancient insurance policy documents for which the attorney knew no sponsoring witness or associated business records were available to support.

Because long-latency claims continue to haunt companies, insurers, and the court system, there is still a role for the ancient documents exception in the Rules of Evidence. Although the period for public written comment has closed, public testimony will be taken. You can find the dates and details of public hearings here. In addition to a number of lawyers, seven sitting United States Senators have written to oppose the abrogation of the ancient documents exception.

A review of med-mal insurance premiums, 26 years, by state

2016-04-06T08:08:00.001-04:00

A group of interdisciplinary scholars (from Northwestern, the University of Hawaii, and the University of Wisconsin) a have recently collected, refined, and published a 26-year dataset of medical liability insurance premiums on SSRN. Medical Liability Insurance Premia 1990-2015: Dataset, Literature Review, and Summary Information. This paper, and its accompanying Appendix, Codebook, Dataset, and Code are available for download for free.

The researchers, led by Bernard Black of the Northwestern University School of Law and the Kellogg School of Management, state in the abstract that "We hope that the availability of this cleaned dataset will prompt further research on the effects of med mal premiums on provider behavior." I have no doubt that it will. Just looking at the data (and articles cited within), it appears to be a great resource for scholars, lawyers, think-tanks, and legislators when considering issues of medical liability insurance, insurance rates across states, and the impact of tort reform (specifically, statutory caps on economic damages) on liability insurance premiums.

Sanctions for failing to investigate insurance under Federal Rule 26

2016-03-15T06:46:00.004-04:00

In two recent cases, lawyers have been sanctioned for failing to understand their client’s insurance program. These cases (along with others from the past) illustrate that courts are increasingly placing a burden on defense lawyers to have a basic understanding of insurance and to thoroughly discuss insurance matters with their clients.

North Carolina attorney sanctioned for failing to disclose umbrella policy

Last December, the United States District Court for the Western District of North Carolina sanctioned an insurance defense lawyer with a $1,000 sanction because the Court found that she failed to properly discuss and review the applicable insurance her client had for a claim. Further inquiry would have revealed a $10 million umbrella policy above the first $1 million layer of commercial general liability insurance. Palacino v. Beech Mountain Resort, Inc., 2015 WL 8731779 (W.D.N.C., Dec. 11, 2015).

Under Federal Rule of Civil Procedure 26(a)(1)(A)(iv), a defendant must disclose, relatively early in a case, “any insurance agreement under which an insurance business may be liable to satisfy all or part of a possible judgment in the action or to indemnify or reimburse for payments made to satisfy the judgment.” In this case, the umbrella policy was only disclosed after mediation and after discovery closed. The Court concluded that this was a violation of Rule 26, as “Defendant was legally obligated to disclose both [insurance] policies in its Initial Disclosures, and its failure to do so violated its obligations under the Federal Rules of Civil Procedure and the Court’s Pretrial Order.”

By only disclosing the first $1 million in coverage under the CGL policy – presumably the policy which the attorney was retained under – the attorney neglected to investigate the full range of available insurance and to disclose the $10 million umbrella. The attorney submitted an affidavit stating that, in responding to Rule 26, the Risk Manager for the defendant was asked to provide all applicable insurance policies. However, the Court ruled that this was not enough. It noted that the attorney's affidavit in opposition to sanctions did not state that the attorney "independently verified the completeness of the information provided" or that "additional steps [were taken] to ensure that the information" provided in the Initial Disclosures was complete "or that a reasonably inquiry was made prior to providing the Initial Disclosures." The Court goes on to state that the attorney should have been able to "represent to the Court that she undertook [an] independent inquiry to verify whether the information provided by [the Risk Manager] was complete prior to signing the" Initial Disclosures. However, the Court gave no guidance as to how a retained defense attorney is to show that “a reasonable inquiry [into insurance policies] was made prior to providing the Initial Disclosures” other than asking the Risk Manager – presumably the most knowledgeable employee of the defendant – to provide all insurance policies. Does this require asking other employees of the client? Reaching out to the client's insurance broker? Physically inspecting the client's files?

In addition to the $1,000 sanction against the attorney, the client was also fined $500 for its failure to uncover and disclose the umbrella policy.

Tenth Circuit affirms sanction for failing to disclose D&O policy

In Sun River Energy, Inc. v. Nelson, 800 F.3d 1219 (10th Cir. 2015), decided last September, the Tenth Circuit affirmed an award of sanctions against counsel for failing to disclose the company’s directors and officers (D&O) insurance policy in its initial disclosures.

In that case, the Plaintiff had a "Directors and Officers Liability Insurance Policy including Employment Practices and Securities Claims Coverage" which arguably provided coverage for certain counterclaims which the Defendant may have made. However, by the time the policy was disclosed, any potential coverage under that “claims made” policy had lapsed.

The federal magistrate judge, in issuing the underlying sanction, wrote that counsel never “took a serious look at whether there was applicable insurance” and “exhibited deliberate indifference to the obligation of providing relevant insurance information under Rule 26.”

Importantly to defense counsel, the Tenth Circuit flatly rejected the attorney’s excuse that “counsel need not bother to review the actual terms of an insurance policy . . . before denying the existence of the potential coverage, so long as he believes the existence of coverage would be very unlikely or unusual.” Instead, defense counsel is obligated to review all applicable policies and then provide the information required by Rule 26 when completing Initial Disclosures. Implicit in the Tenth Circuit’s ruling is that the lawyer must have a basic understanding of insurance law and whether certain policies may provide coverage for the claims at issue.

Finally, no discussion of defense counsel’s potential insurance obligations is complete without reference to Shaya B. Pacific, LLC v. Wilson, Elser, Moskowitz, Edelman & Dicker, 827 N.Y.S.2d, 231 (N.Y. Sup. App. Div. 2006). In that New York case, the court held that an attorney could be liable for negligence/malpractice for failing to investigate his client’s insurance coverage for a claim or failing to notify the insurer of a claim. However, the determination of negligence would also turn on “the scope of the agreed representation.” Clarifying the scope of representation - by excluding any obligation to consult on insurance coverage - is thus important to attorneys who do not feel comfortable opining on insurance matters.

Tightening up regulations over commercial vehicle insurance

2016-03-03T15:10:00.000-05:00

On March 1, 2016, WRAL Investigates reported that North Carolina Insurance Commissioner Wayne Goodwin wants state lawmakers to tighten up regulations over commercial vehicle insurance, stating that some out-of-state trucking companies are claiming in-state residency to obtain lower insurance rates.

It is no secret that North Carolina has some of the lowest vehicle insurance rates in the country. These insurance policies, however, are available only to residents and businesses that reside in the state. According to WRAL, ten years ago, drivers from New York and New Jersey were registering their cars in North Carolina in order to get cheaper car insurance. But, the General Assembly changed the law to stop this from happening.

Today, the same issue is occurring in the $670 million-a-year commercial vehicle insurance market. Reportedly, North Carolina Insurance Commissioner Wayne Goodwin is seeking to have a similar statutory enactment passed. In recent years, the North Carolina Reinsurance Facility raised its commercial rates because of significant claim losses. Goodwin attributes this increase in commercial rates to out-of-state trucking companies claiming in-state residency to obtain lower insurance rates. Goodwin has been quoted as saying: "They have accidents in other states and the like. It impacts insurance rates for the legitimate businesses that are here, and it's becoming a growing problem."

WRAL Investigates confirmed North Carolina freight insurance coverage for Senn Freight Lines in Newberry, S.C. A spokesman for Senn stated that the company has no North Carolina operations, although an internal insurance memo indicated that Senn claims one truck registered and one driver licensed in the state. According to the Secretary of State's Office, another trucking company, Fast Transport, Inc., is listed as a North Carolina registered corporation. However, the address listed for Fast Transport is in a remote residential neighborhood in Wake Forest, and a spokesman for Fast Transport stated that the Wake Forest house is the trucker's accounting headquarters. According to WRAL's investigation, Fast Transport claims dozens of trucks in Florida, Georgia, and Texas but only one truck in North Carolina.

The Insurance Commissioner's position seems to be that only North Carolina companies should be able to take advantage of the state's lower insurance rates. He wants "to protect and help the legitimate companies that are doing business in North Carolina from being taken advantage of by businesses...that are misleading the state and misleading insurance companies as to their presence in the state.

As a result, Goodwin's office is drafting legislation to present to the General Assembly when lawmakers reconvene in April that would better differentiate between North Carolina companies and posers exploiting the law to get cheaper rates.

No Coverage, but Liability for Unfair or Deceptive Practices: The Question of Damages in North Carolina and a Current Case to Watch

2016-03-02T14:48:00.000-05:00

There is a current case pending in the Western District of North Carolina that will likely add to North Carolina’s divergent case law regarding the measure of damages in an unfair and deceptive practices claims against insurers.

Background

Unlike other states, North Carolina recognizes liability for unfair and deceptive practices or bad faith even absent insurance coverage. “Thus, even if an insurance company rightly denies an insured's claim, and therefore does not breach its contract, as here, the insurance company nevertheless must employ good business practices which are neither unfair nor deceptive.” Nelson v. Hartford Underwriters Ins. Co., 177 N.C. App. 595, 609, 630 S.E.2d 221 (2006).

So, in cases where there is no insurance coverage, if an insurer is liable for bad faith or unfair and deceptive practices, one of the most important questions is: What are the Damages that get Trebled? On one hand, there is case law that supports that the full contract damages should be trebled. Cullen v. Valley Forge Life Ins. Co., 161 N.C. App. 570, 578-79, 589 S.E.2d 423, 430, (2003). On the other hand, there is case law that supports that only the damages that were proximately caused by the actual bad faith or unfair and deceptive trade practice. Gray v. North Carolina Ins. Underwriting Ass’n., 352 N.C. 61, 75, 529 S.E.2d 676, 685.

Current Case

For the purposes of the Motion to Dismiss, the Court assumed the facts in Plaintiff’s Complaint as true. Since Defendant has not yet answered, our discussion will also assume the veracity of Plaintiff’s facts in the Complaint.

In Biltmore Avenue Condominium Association Inc v. Hannover American Insurance Company, 1:15 CV 43 (W.D.N.C. Feb. 17, 2016), the Plaintiff was an owner of a medical office building who purchased commercial property insurance from Defendant. The policy was for $2,000,000.00, but there was a broadening endorsement that provided $500,000.00 for various potential losses. A fire occurred in the building on July 28, 2011. Plaintiff requested coverage for $2,500,000. After a series of communications, Defendant ultimately paid $2,000,000 in coverage, but denied the $500,000 under the broadening endorsement. Plaintiff wanted the additional $500,000 for reimbursement on the newly installed/upgraded sprinkler system.

Plaintiff filed a claim for breach of contract and violation of North Carolina’s Unfair and Deceptive Practices Act. For the breach of contract claim, the Court dismissed the claim pursuant to the three year statute of limitations. Because the statute of limitation for violation of North Carolina’s Unfair and Deceptive Practices Statute was four years, it was still a timely claim.

Defendant argued that because the alleged damage for the Unfair and Deceptive Practice ($500,000 endorsement value) was the same alleged for the Breach of Contract, there was actually no damages to Plaintiff for violation of N.C. Gen. Stat. § 75-1.1. Defendant argued that there must be independent damages, separate and apart from a breach of contract. Therefore, Plaintiff’s Unfair and Deceptive Trade Practice claim should be dismissed for failing to show a required element-- injury.

Resolution

The District Court, in adopting the Magistrate’s Recommendation, dismissed the Breach of Contract claim and found that Plaintiff pled a claim for violation of North Carolina’s Unfair and Deceptive Practices Statute.

In reviewing the argument the Court emphasized that eventually, it or a factfinder will have to decide on the true measure of damages in this case. “If Plaintiff is able to prove such a claim [violation of N.C. Gen. Stat. § 75-1.1], its damages may be the same as what its contract damages would have been; and they may be different. But that inquiry is not before the Court on the present motion pursuant to Rule 12(b)(6).“ Id. 1:15 CV 43 (W.D.N.C. Feb. 2, 2016).

Defendant filed a Motion for Reconsideration, and the Court maintained its decision. “The Plaintiff’s Complaint states a claim for unfair and deceptive trade practices. If Plaintiff is able to prove such a claim, its damages may be the same as what its contract damages would have been; and they may be different. But, as stated in its prior Order, that inquiry is not before the Court on the present motion pursuant to Rule 12(b)(6). Accordingly, the Court will deny the Defendant’s motion for reconsideration and will grant Defendant’s motion for additional time to file its Answer.” Id. 1:15 CV 43 (W.D.N.C. Feb. 17, 2016).

Issues to Monitor

The District Court Judge correctly noted the current state of North Carolina’s law. In this situation, some cases allow for full contractual damages to be used and some cases recognize damages distinct from breach of contract damages. In this case, the Court twice has alluded that this inquiry will be one that will eventually be presented to the Court or fact finder.

Hopefully, this case will provide some guidance for future cases. Particularly, as it seems that the Defendant may have a viable “no causation” defense. It has suggested that Plaintiff was required to replace and upgrade the sprinkler system due to regulations and not due to any statement by Defendant.

It will be interesting if the Court provides some guidepost or insight on how to approach this issue in the future. Potential considerations could be: was the violation in the procurement of the policy as a whole? Was the violation in the adjustment after the claim occurred? Did the violation only result in a delayed award? In those cases, would interest be an appropriate measure?

Marijuana inventory covered under commercial insurance policy (D. Colo)

2016-03-02T08:04:00.001-05:00

As the legal markets for marijuana – medicinal and recreational grow – so do the commercial insurance implications. The United States District Court for Colorado just issued an insurance coverage opinion in a case where a marijuana company sued its insurer. Green Earth Wellness Center, LLC v. Atain Speciality Insurance Company, No. 13-CV-03452-MSK, 2016 WL 632357 (D. Colo. Feb. 17, 2016). The case may have national significance going forward because Judge Kruegar, in a 27 page opinion, ruled that the inventory itself, i.e., the marijuana, was insurable under the a "Commercial Property and General Liability Insurance Policy." The ruling contains her opinions on a number of exclusions and whether they apply to commercial marijuana production.

The Plaintiff-Policyholder, Green Earth, was in the business of commercial marijuana cultivation, which it sold through its own medical marijuana dispensary. According to the opinion, smoke and ash from a nearby forest fire entered the ventilation system of Green Earth, intruding into the growing operation, and causing damage to Green Earth’s plants and inventory.

Predictably, the Insurer argued that Green Earth was not entitled to coverage because the policy included language that excluded coverage for “contraband” and “property in the course of illegal . . . trade.” More broadly, the Insurer argued that general public policy prevented coverage for marijuana companies.

The Court characterized Green Earth as having two main types of claims under the policy: a claim for $200,000 for plants currently growing, and a claim for $40,000 of marijuana which was already harvested and being prepared for sale.

Regarding the $200,000 in standing or growing plants, the Insurer argued that the exclusion for “growing crops” applied (and, indeed, the insurance quote provided to Green Earth plainly stated “Coverage does not extend to growing or standing plants.”). This exclusion is straightforward enough and was applied by the Court. “Growing crops” includes “any body of plants tended for their agricultural yield, at least until they are harvested.” Simply put, the policy is not crop insurance, even if your crop is marijuana.

The claim for $40,000 in inventory was more complex. This case, as much as others, highlights that the law of the forum is incredibly important to insurance coverage disputes. As a threshold matter, the Court applied Colorado state law, and this being a contract, only applied Colorado state law. Then, applying common insurance law maxims, the Court found that the policy failed to define “contraband” and, in light of Green Earth’s legal business in the Colorado medical marijuana trade, that the “contraband” exclusion was ambiguous. The Court went on to state that the “contraband” exclusion is ambiguous in light of the conflict “between the federal government’s de jure and de facto public policies regarding state-regulated medical marijuana.” Further, in Green Earth’s favor, the Insurer knew about Green Earth’s business in the marijuana industry prior to issuing the policy but never voiced any exception to insuring plants, marijuana-in-process, or the finished inventory.

The Insurer, in a last-ditch effort, then argued that in light of federal law, its own insurance policy was an illegal contract. The Court ruled that because the Insurer entered into the contract knowing full-well the scope of Green Earth’s business, it was obligated to either (1) comply with the contract or (2) pay damages for having breached it. This argument by the Insurer seems misguided: by intentionally arguing that an Insurer is in the business of marketing and selling insurance contracts that it believes are illegal under federal law, it essentially admits to collecting unearned premium for selling “illusory coverage” or committing other unfair or deceptive trade practices which are often prohibited by state statute and subject to double or treble damages.

There are other minor issues in the opinion as well. Green Earth, having survived summary judgment, will now have to prove its breach of contract, bad faith, and delayed payment claims at trial.

This ruling is important for a number of reasons. First, for the Court applied conventional insurance law to marijuana and cannabis growing. Second, it highlights the importance of choice of law, conflicts of law, and venue. In the case of marijuana-related businesses, and in the face of this opinion, the conflicts of law issues can be outcome-dispositive in future insurance coverage disputes. If the Court would have applied another state’s law, the Court may not have found the term contraband ambiguous, and the marijuana grower may have lost. Third, commercial marijuana growers need to investigate obtaining crop insurance if they wish to insure standing and growing plants.

60 Minutes investigation of lawyers should caution the captive insurance industry, too

2016-02-17T09:04:00.001-05:00

About two weeks ago, the popular Sunday evening investigative journalism program, 60 Minutes, aired a segment with Steve Kroft which purported to show “what happens when hidden cameras capture New York lawyers being asked to move highly questionable funds into the U.S.” In short, CBS broadcasted video evidence that 15 out of 16 attorneys in Manhattan sat down to discuss legal strategies and techniques for a potential client – who purposefully hoisted a series of red flags - for laundering tainted, corrupt profits into the United States. The New York Times published a similar story. Although the formation of a domestic or foreign captive insurer was never mentioned by name in either piece, both stories are a reminder of the importance of ethical conduct within the captive industry.

The CBS segment – largely shot with hidden cameras by the international non-profit Global Witness – showed German-accented man acting as a financial consultant for a potential client who was a mining minister of a west African nation. Global Witness was able to secure consultations with 16 lawyers in Manhattan, even though the consultations were set up by reading from a script purposefully designed to set off a number of red flags.

The representative of the potential client disclosed that the Mining Minister earned a salary similar to a teacher in the United States, but sought to transfer substantial sums – possibly over $300 million – into the United States in order to purchase real estate, a $10 million brownstone apartment, a Gulfstream jet, and commission a yacht. This money was “earned” by the fictional minister by awarding non-U.S. foreign mining companies favorable mining concessions in Africa.

Out of the 16 separate lawyers which were shown on hidden camera, only 1 attorney refused to continue the conversation with the potential client after a few minutes. Some of the attorneys seemed delighted at the prospect of the new client, and even began to discuss fee arrangements. The remainder of the attorneys, suggested 60 Minutes, gave general legal advice on the ways “that the suspicious funds could be moved into the U.S. without compromising the minister’s identity.” This included setting up a series of shell companies, both domestic and offshore or in European domiciles such as the Isle of Man or Lichtenstein, the use of straw men, the avoidance of large international (and regulated) banks, and the use of individual or small partnership money managers who are less concerned about corporate reputation. At one point, an attorney advised setting up a complicated transaction and then doing a test with an expendable amount of money – perhaps only $1 million – so that “if anything goes wrong, it’ll be painful, but it won’t be life threatening.” Another advised that it would be important to avoid banks and countries that are “vigilant about money laundering.”

The Global Witness report, and the accompanying 60 Minutes segment and NY Times story, are turning a bright light onto legal ethics. Only 1 out of 16 attorneys ended the consultation because of the red flags. Two others specifically told the potential client that, if they did go forward with the representation, “if [they became] aware that a crime was being committed, [they] have an obligation to report that.” That obligation stems from New York State Bar’s Rules of Professional Conduct.

Professionals in the captive insurance industry should always be aware of the same types of clients. In the investigation, the potential client even used the word “bribes” at one point, to describe how the funds were originally obtained. The red flags included:

Government officials in the position to accept bribes;
An intense desire for secrecy;
No seemingly legitimate source of the income (recall that the potential client only earned a salary equivalent to a teacher in the United States, yet sought to purchase a $10 million brownstone);
A requirement to move the money from where the corrupt proceeds were obtained (Africa) to where they can be enjoyed (the United States);
The need for a number of financial intermediaries and professional assistance (rather than simply depositing the money into a large international bank).

Although there are no reported instances of captive insurance companies being used for money laundering, if the industry wants to continue building its reputation as a legitimate risk finance tool, it must remain vigilant about the potential for abuse. Towards that end, domestic state regulators typically already have the statutory authority to oversee the licensing and operation of captive insurers. Working hand-in-glove, captive professionals need to also be aware of the red flags raised above.

Similarly, the North Carolina Captive Insurance Association has adopted an aspirational Code of Professional Conduct. That Code has several canons of conduct which would apply if the fictional African mining minister or his representative appeared in your office. Canon 2 states that “[c]aptive professionals must not willfully violate any laws or regulations, in both their personal conduct and in their advice to clients. Captive professionals should be familiar with the laws of the domiciles where they advise clients and operate captives, as well as applicable federal law. Captive professionals should avoid conduct or activities that are reasonably certain to cause unjust harm to others.” Underlying this ethical canons is the commentary that professionals should conform their conduct to the policies, rules, laws, and regulations within the applicable jurisdiction; should not seek to aid, abet, or assist a client in the commission of a felony; and should not allow personal financial gain (the prospect of earning a large fee) from interfering with professional judgment and adherence to the law.

Most importantly, captive professionals should simply be aware that unscrupulous individuals are moving within the American economy and seeking professional assistance in the laundering of large sums of tainted money. No captive professional wants to be the focus of the next hidden camera investigation. For the good of individual professional reputations and for the good of the industry, professionals should be aware of the hallmarks of money-laundering, consider ethical codes of conduct, and apply common sense to any potential new client or proposed transaction.

Corporate duties of bank directors in North Carolina (part 3)

2016-02-16T09:09:00.002-05:00

In Part 1, we introduced you to the history of Cooperative Bank and the background of Federal Deposit Insurance Corporation v. Rippy, 799 F.3d 301 (4th Cir. 2015), also known as FDIC v. Willetts. In Part 2, we further explained the history of the litigation.

The Fourth Circuit’s ruling is in harmony with the majority of cases regarding the business judgment rule.
What the Fourth Circuit does not say is just as important as what it does. The Fourth Circuit does not say that the ultimate decision to make these 86 lot loans and 9 commercial loans was actionable. It did not rule that the business judgment rule prohibited making these failed loans. Instead, Rippy is in alignment with most other business judgment rule cases.

The FDIC had a qualified expert witness who testified that the process used to approve the loans, which ultimately soured, did not meet generally accepted sound banking practices. This was enough to rebut the presumption of the business judgment rule. The Court was not second-guessing the decision to make these loans; but it concluded that the officers had failed in the process of deliberation and consideration before funding the loans. In other words, judges “do not measure, weigh, or quantify directors’ judgments. We do not even decide if [a director’s judgment] is reasonable . . . Due care in the decision-making context is process due care only. Irrationality is the outer limit of the business judgment rule.” Brehm v. Eisner, 746 A.2d 244, 264 (Del. 2000) (emphasis in original) (and stating “irrationality” can equate with the waste of corporate assets test); State v. Custard, 2010 NCBC 6, 18 (N.C. Sup. Ct. 2010) (“North Carolina courts have frequently looked to the well-developed case law of corporate governance in Delaware for guidance.”).

Under North Carolina (and Delaware) law, absent bad faith, conflict of interest, or disloyalty, an officer or director’s business decisions “will not be second-guessed if they are the product of a rational process, and the officers and directors have availed themselves of all material and reasonably available information.” State v. Custard, 2010 NCBC 6, 18 (N.C. Sup. Ct. 2010) (citing In re Citigroup Inc. S’holder Derivative Litig., 964 A.2d 106, 124 (Del. Ch. 2009). As quoted with approval by the North Carolina Business Court:

[C]ompliance with a director's duty of care can never appropriately be judicially determined by reference to the content of the board decision that leads to a corporate loss, apart from consideration of the good faith or rationality of the process employed. That is, whether a judge or jury considering the matter after the fact, believes a decision substantively wrong, or degrees of wrong extending through “stupid” to “egregious” or “irrational”, provides no ground for director liability, so long as the court determines that the process employed was either rational or employed in a good faith effort to advance corporate interests. To employ a different rule-one that permitted an “objective” evaluation of the decision-would expose directors to substantive second guessing by ill-equipped judges or juries, which would, in the long-run, be injurious to investor interests. Thus, the business judgment rule is process oriented and informed by a deep respect for all good faith board decisions.

State v. Custard, 2010 NCBC 6, 18 (N.C. Sup. Ct. 2010) (citing In re Citigroup Inc. S’holder Derivative Litig., 964 A.2d 106, 124 (Del. Ch. 2009) (emphasis removed in part, added in part).

Courts will not second-guess the ultimate decision arrived at, so long as the procedure utilized by boards and officers is sufficient. Directors and officers are reasonably informed in making corporate decisions if they have considered the material facts to a transaction which were reasonably available at the time. Ehrenhaus v. Baker, 2008 NCBC 20 (N.C. Sup. Ct. 2008) (citing Smith v. Van Gorkom, 488 A.2d 858, 874 (Del. 1985).

Without expressly stating it, Rippy means that procedure matters. The officer’s failed to comply with recognized banking practices in obtaining loan approvals. When the officers failed to “avail themselves of all material and reasonably available information” they “did not act on an informed basis” and thus were not entitled to the protection of the business judgment rule.

The Fourth Circuit also ruled that the Great Recession was not an intervening or superseding proximate cause as a matter of law.

Intertwined and underlying the manager’s defenses is the narrative that the real estate bubble and financial collapse of the late 2000s was the real proximate cause of the bank’s failure or was an intervening or superseding cause. Indeed, the managers argued that the burden was on the FDIC to prove that the manager’s conduct in approving 86 loans, and not the exogenous factors of a nationwide real estate collapse, frozen credit markets, and a bank panic, was the real (proximate) cause of the bank’s failure. The Fourth Circuit took note of this argument, stating:

Certainly, it is convenient to blame the Great Recession for the failure of Cooperative, and in turn for the losses sustained by the FDIC-R when it took over the Bank. However, there is evidence in the record, as outlined above, that suggests that “in the exercise of reasonable care,” the Bank officers could have “foreseen that some injury would result from their acts or omissions, or that consequences of a generally injurious nature might have been expected.” Even before the Recession, exam reports from both of Cooperative’s regulators indicated that the Bank was utilizing unsafe practices. And while the Recession undoubtedly contributed to the failure of the Bank, it may have been only one of many contributing factors. This is a genuine issue of material fact, and thus this is a question for a jury.

This paragraph has particular salience. Under the Fourth Circuit panel’s opinion, the FDIC’s case survives summary judgment while admitting that the Recession “undoubtedly” was a partial proximate cause of the bank’s failure.

The Fourth Circuit also affirmed the entry of summary judgment on all claims of gross negligence against all directors and officers.

Settlement.

The panel remanded the case back to Judge Boyle for a trial on the ordinary negligence and breach of fiduciary duty claims against the officers. However, the Bank had the option of petitioning for en banc review before the full Fourth Circuit rather than just a three-judge panel.

Ultimately, on January 6, 2016, a consent order and settlement agreement were filed with the Court. The document stated that The Cincinnati Insurance Company would pay $4.1 million on behalf of the remaining defendants to settle all outstanding claims, and that "no additional funds will be sought from the remaining defendants."

Takeaways for bank directors purchasing D&O insurance

Corporate boards and officers, and particular bank boards and officers, should review and follow their internal procedures regarding corporate decision-making in accordance with Rippy. In addition, banks should always have adequate D&O insurance coverage to protect their directors and officers against these types of claims.

Bank directors and officers must also be aware of the FDIC’s recent warnings regarding the increased use of exclusions in commercial market D&O policies. The FDIC did not point out any particular exclusions, although it was most likely referring to the regulatory action exclusion. Post-recession litigation by the FDIC has already generated coverage litigation, some of which has upheld a broad regulatory exclusion in certain D&O policies.

In that statement, the FDIC has encouraged “each board member and executive officer to fully understand the answers” to at least four specific questions regarding D&O insurance coverage:

What protections do I want from my institution’s D&O policy?
What exclusions exist in my institution’s D&O policy?
Are any of the exclusions new, and if so, how do they change my coverage?
What is my potential personal financial exposure arising from each policy exclusion?

The FDIC’s guidance also reminds bank managers that “FDIC regulations prohibit an insured depository institution or depository institution holding company from purchasing insurance that would be used to pay or reimburse an institution-affiliated party (IAP) for the cost of any civil money penalty (CMP) assessed against such person in an administrative proceeding or civil action commenced by any federal banking agency.” This prohibition prevents the purchase of insurance to indemnify the bank for paying civil money penalties on behalf of its managers. This would include penalties imposed when an officer or director violates a law or regulation, commits an unsafe banking practice, breaches a fiduciary duty, or engages in willful misconduct. The FDIC did not give any guidance regarding whether an individual manager can purchase their own personal umbrella policy to indemnify them for civil monetary penalties.

While this decision is interesting, it does not actually change the law in North Carolina regarding the legal liability of corporate directors and officers. What the opinion does is highlight the need for a bank’s directors and officers to follow their own procedures and for the bank to provide D&O insurance for its directors and offices in case these procedures were not followed.
A version of this article originally appeared in the Professional Liability Underwriting Society's Journal.
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11 Id. at 312.

12 Note that defendant Fredrick Willetts, III was both CEO and Chairman of the Board of Directors. He was both an officer and a director. The exculpation statute provides no protection to Mr. Willetts for violations of the duty of care committed as an officer.

13 Rippy, 799 F.3d at 313.

14 In this way, the business judgment rule operates as a standard of judicial review, and not simply as a standard of board and officer conduct.

15 Rippy, 799 F.3d at 316.

16 Advisory Statement on Director and Officer Liability Insurance Policies, Exclusions and Indemnification for Civil Money Penalties, FDIC FINANCIAL INSTITUTIONS LETTER, FIL-47-2013 (Oct. 10, 2013).

17 See, e.g., Reis et al. v. Federal Insurance Co.,No. CV 11-09835 RSWL (C.D. Cal. July 12, 2013).

UIM Coverage in North Carolina: A Novel Interpretation Rejected

2016-02-12T17:46:00.000-05:00

In Bacon v. Universal Insurance Co., No. COA 15-370, decided on January 5, 2016, the North Carolina Court of Appeals was called upon to address an insurance company’s novel interpretation of North Carolina’s underinsured motorist statute. In an underinsured motorist (UIM) coverage case, the North Carolina Court of Appeals held that while the Plaintiff’s insurance policy with Universal had bodily injury limits of $1 million, his UIM coverage was only $50,000, not $1 million.

Plaintiff was involved in an automobile accident sustaining serious injuries. The other driver, who was determined to be at fault, had an insurance policy with State Farm with limits of $50,000 which was tendered to the Plaintiff. Shortly thereafter, Plaintiff tendered an underinsured motorist claim to his own insurance company, Universal.

Plaintiff contended that because $1 million was the limit for bodily injury liability coverage under his policy with Universal, he was entitled to $1 million in UIM coverage based on the first clause of N.C. Gen. Stat. §20-279.21(b)(4) which reads as follows: “the limits of such underinsured motorists bodily injury coverage shall be equal to the highest limits of bodily injury liability coverage for any one vehicle insured under the policy.” Although there is language later in subdivision (b)(4) allowing the insured to purchase greater or lesser UIM limits, Plaintiff contended that that language contradicted the first clause and therefore the first clause should be given effect. Universal rejected Plaintiff’s claim and Plaintiff filed suit against Universal seeking a declaration that he was entitled to $1 million in underinsured motorist coverage. The trial court granted summary judgment for Universal and Plaintiff appealed.

On appeal, the North Carolina Court of Appeals rejected Plaintiff’s claim, stating that “it is clear that the statutory requirements that an insurance policy’s UIM coverage ‘shall be equal to the highest limits of bodily injury coverage for any one vehicle insured under the policy’ … is only applicable when the insured does not select a greater or lesser limit. The act provides a default UIM coverage limit in an amount equal to the bodily injury limit under the policy (up to maximum limits of $1 million per person and $1 million per accident) but permits an insured to deviate from this default coverage limit by purchasing UIM coverage in a greater or lesser amount, so long as the policy’s UIM coverage exceeds $30,000 per person and $60,000 per accident.” In this case, Plaintiff had purchased from Universal an insurance policy providing $1 million in liability coverage and $50,000 per person and $100,000 per accident in UIM coverage for bodily injury. Therefore, the policy only provided Plaintiff with $50,000 – rather than $1 million – in UIM coverage.

Finance Fox: The Future of Insurance?

2016-02-04T11:25:00.000-05:00

By Gemma Saluta and Jonathan Reich

It is common for North American insurance companies to take inspiration from international markets. One new product of interest is Switzerland based, FinanceFox. From an app that you download on your phone, you can compare insurance companies and receive personal advice. Finance Fox advertises that you can compare insurance policies from different insurers and across multiple lines of insurance from their app. The customer pays nothing, and Finance Fox receives payments from the insurance companies “for reducing administrative tasks and managing insurance contracts on their behalf.” This is typically a broker’s fee that is anywhere from 8% to 15% of the premium. The user appoints Finance Fox to be its personal broker, so that the company can represent the user in any insurance matter. As with many benefits that get renewed every year, the company likely has the opportunity to realize a larger profit margin as customers renew policies.

So the question then becomes, is this viable for the US market? We certainly see current insurance companies putting out their own apps, but we rarely see on that tries to compare products from multiple companies, let alone act as a broker. In order for this product to take hold in the US, we have identified several issue areas that would have to be addressed:

Multiple state licensing requirements
Licensing requirements across different lines of insurance
The practicality by the user of reviewing insurance documents over a small screen
Clarification regarding issues of procurement
Multiple state laws regarding agency
Ensuring adequate communication so that the customer receives the policy he or she requests
Data Security

Our economy is pushed by innovation. This online marketplace for multiple policies across multiple insurers is a novel concept. Hopefully, we can learn from the European market response whether this concept is worth pursuing in the United States.

Does the FDIC only sue bankers who have D&O insurance?

2016-02-02T10:12:00.001-05:00

No. At least, that is the conclusion put forward in Why does the FDIC sue? by Christoffer Koch (Federal Reserve Bank of Dallas) and Ken Okamura (Said Business School, University of Oxford), which was recently posted on SSRN.

This paper is the first which empirically investigates the litigation strategy of the FDIC with regards to failed commercial banks.

Anyone familiar with litigation and regulatory action can see there are two competing hypotheses: either (1) the FDIC is primarily motivated in replenishing governmental coffers and thus seeks out "deep pocket" defendants who are backed up by ample directors & officers insurance or (2) the FDIC is motivated primarily by regulatory concerns and litigates to shape bank executive behavior and correct poor governance.

The answer to this question is important to anyone buying, selling, or advising on the purchase of directors & officers insurance coverage, especially in the bank and non-insurance financial sector. The conventional wisdom and anecdotal evidence both point towards D&O insurance being the pot of gold at the end of the litigation rainbow. Or, as the authors report, "one former banking regulator [who] said the existence of D&O insurance is the starting point for FDIC officials when they evaluate whether or not to file the suits . . . all the banking agencies are going to be bringing actions against deep pockets." And certainly, banks often carry substantial amounts of D&O coverage. Immediately after the financial crisis, Towers Watson reported that in 2009 the financial services sector (excluding insurance) had median coverage of $30 million and mean coverage of $81.7 million, the 25th percentile being $20 million and the 75th percentile being $100 million.

This paper, and its underlying research, was based on 161 civil tort cases against individual directors & officers litigated by the FDIC arising from 408 failures which occurred prior to June 2012. These FDIC lawsuits have been characterized by the American Association of Bank Directors as being largely brought against former directors of community banks and based on the approval by the board or board committee of a handful of large loans that caused losses contributing to the bank's failure.

The authors found that "regardless of the recovery potential, that there is no "too-small-to-get-sued."

Instead, the authors found evidence that FDIC litigation is largely correlated with, and directed against, bank executives who are "gambling for resurrection" (to borrow a term from game theory and international politics). That is, bank executives who are "more optimistic, underprovisioning for losses, and more aggressively pursuing asset growth with riskier funding sources." The authors characterize this as the FDIC "imposing a retroactive duty of care to deposit holders and a requirement that the directors and officers focus on the safety and stability of the financial institution." As a result, bank executives who seek to "accelerate asset growth reliant on riskier funding sources" are more likely to be targets of FDIC litigation, rather than simply those who were prudent enough to purchase bountiful amounts of directors & officers insurance.

These findings, if borne out through further research, also have interesting implications for the intersection of D&O insurance and moral hazard.

North Carolina Court of Appeals revisits uninsured and underinsured motorist coverage

2016-02-01T10:12:00.001-05:00

The North Carolina Court of Appeals recently issued an unpublished opinion on UIM and UM automobile insurance coverage. Unpublished opinions, under North Carolina Rule of Appellate Procedure 30(e)(3), do "not constitute controlling legal authority" and citation to such opinions "is disfavored."

In Bacon v. Universal Insurance Co., authored by Judge Mark Davis, the Court of Appeals held that even though the plaintiff had a commercial auto insurance policy with $1,000,000 in coverage limits, he was not entitled to $1 million (much less the treble damages for unfair claims handling practices) of uninsured or underinsured motorist coverage following an accident for the following reasons.

First, the record on appeal revealed that the Plaintiff had been informed by his insurer that UM and UIM coverage was available to him and the limits would be set equal to the highest limits for bodily injury liability coverage under the policy unless he elected different limits. The Plaintiff chose to purchase UM coverage of $50,000 per person and $100,000 per accident, as revealed on various insurance documents which he signed.

Second, the UM endorsement at issue in this case defined "uninsured motor vehicle" to include underinsured, as well as completely uninsured, vehicles.

Third, the driver which hit the Plaintiff had insurance coverage, which tendered $50,000 to the Plaintiff for his injuries. Pursuant to the terms of the UM endorsement and N.C.G.S. 20-279.21(Financial Responsibility Act), that driver who hit the Plaintiff was not underinsured, and thus the Plaintiff was not entitled to UIM benefits from his own insurer.

After finding that Universal's denial of coverage was proper and supported by North Carolina insurance law, the Court then deemed arguments regarding unfair trade practices or bad faith to be abandoned on appeal, as such arguments wholly related to the assertions that Universal failed to honor its obligations under the insurance policy.

The Court opinion is a mix of a review of the factual record, and the application of the canons of statutory construction to North Carolina's Financial Responsibility Act. Importantly, the case demonstrates the importance of record keeping and documenting the policyholder's election of UM/UIM limits which were above the statutory minimum but significantly lower than the maximum allowable.

Further, as a matter of insurance law, the Court notes that it had to look beyond the declarations page of the policy:

While the declarations page is silent as to the amount of UIM coverage available to Plaintiff under the Policy, the Act, which is “written into every automobile liability policy as a matter of law,” Hendrickson, 119 N.C. App. at 449, 459 S.E.2d at 278 (citation, quotation marks, and brackets omitted), mandates that Plaintiff be entitled to receive UIM coverage limits “equal to the limits of uninsured motorist bodily injury coverage purchased pursuant to subdivision (3) of this subsection,” N.C. Gen. Stat. § 20-279.21(b)(4). We therefore conclude that the Policy provides Plaintiff with $50,000 — rather than $1,000,000 — in UIM coverage.

North Carolina nears 100 captive benchmark

2016-01-28T10:40:00.002-05:00

We are pleased to congratulate the North Carolina Department of Insurance, which recently announced that North Carolina’s captive insurance program now oversees nearly 100 captive insurance companies.

For 2015, North Carolina Department of Insurance approved 44 new captive insurance companies, bringing the total number of captives domiciled in North Carolina to 96. Additionally, certain of those captive are licensed protected cell companies housing 240 cells or series. In the prior year, 2014, North Carolina grew by 49 captives.

Insurance Commissioner Wayne Goodwin reported that "From the start, we have been committed to growing and continually improving the captive insurance program in North Carolina.” He continued by saying “I am proud that, in such a short time, we have become one of the fastest growing states for captive insurance in the country.”

With two great successive years of 44 and 49 formations, North Carolina is rapidly becoming a presence in the captive insurance industry. For comparison, South Carolina gained 20 captives in 2014 and 30 in 2015.