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Commentary on Insurance Coverage Litigation in New York
Posted: March 15, 2018

Choice of Law in Insurance Coverage Action Determined by “Principal Location of the Insured Risk”

Determining which state’s law applies is an important issue in any insurance coverage dispute.  Indeed, the outcome may depend on it, as different states have different rules on the interpretation and enforcement of policy provisions, what the claims the insured can bring, and a host of other issues.  Frequently, however, insurance policies do not have choice-of-law provisions.  Thus, the applicable law must be determined under a conflicts of law analysis.  A recent decision from Judge Glenn T. Suddaby of the NDNY (Ben Weitsman & Son of Scranton, LLC v. Hartford Fire Insurance Co., Case No. 3:16-CV-0780 (N.D.N.Y. Feb. 13, 2018)) provides a helpful overview of the conflicts of law rules applied to insurance coverage disputes under New York law.  As Judge Suddaby explains:

In cases involving insurance contracts, courts look primarily at which state “the parties understood was to be the principal location of the insured risk” unless (with respect to the particular issue) some other state has “a more significant relationship” to the transaction and the parties (such as being where the parties resided and/or where the contract was issued and negotiated).  Zurich Ins. Co. v. Shearson Lehman Hutton, Inc., 84 N.Y.2d 309, 318 (N.Y. 1994); Colonial Penn Ins. Co. v. Minkoff, 338 N.Y.S.2d 444, 445 (N.Y. App. Div., 1st Dep’t 1972), aff’d, 33 N.Y.2d 542 (N.Y. 1973); Steinbeck v. Aetna Casualty and Surety Co., 81 A.D.2d 382, 385-86 (N.Y. App. Div.,1st Dep’t 1981); Fireman’s Fund Ins. Co. v. Great Am. Ins. Co., 10 F. Supp. 3d 460, 496 (S.D.N.Y. 2014); cf. Munzer v. St. Paul Fire and Marine Ins. Co., 145 A.D.2d 193, 200-01 (N.Y. App. Div., 3d Dep’t 1989) (characterizing the understood location of the insured risk as the “primary factor” in the application of the “grouping of contacts rule” in an insurance case).

When the insured risk is essentially restricted to one state, the understood location of the insured risk is given “overriding consideration in determining applicable law.”  O’Neill v. Yield House Inc., 964 F. Supp. 806, 810 (S.D.N.Y. 1997).  When, however, the understood location of the insured risk is spread across multiple states, the understood location of the insured risk is given “less significance.” O’Neill, 964 F. Supp. at 810. In such a case, the insured’s principal place of business is the primary factor. In re Liquidation of Midland Ins. Co., 16 N.Y.3d 536, 544 (N.Y. 2011); Certain Underwriters at Lloyd’s, London v. Foster Wheeler Corp., 36 A.D.3d 17, 24, 27 (N.Y. App. Div., 1st Dep’t 2006), aff’d, 9 N.Y.3d 928 (N.Y. 2007); Fireman’s Fund Ins. Co., 10 F. Supp. 3d at 496.

Having said all of that, while grouping of contacts is the primary analytical tool in contract cases, in certain instances “the policies underlying conflicting laws in a contract dispute are readily identifiable and reflect strong governmental interests, and therefore should be considered.” Zurich Ins. Co., 84 N.Y.2d at 318-19 (quoting Matter of Allstate Ins. Co., 81 N.Y.2d at 226). Theoretically, in a proper case, a foreign State’s sufficiently compelling public policy could preclude an application of New York law otherwise indicated by the grouping of contacts analysis, particularly where New York’s policy is weak or uncertain.” Zurich Ins. Co., 84 N.Y.2d at 319.

In this case, the Court found no actual conflict between New York and Pennsylvania law with respect to the policy exclusion at issue. Judge Suddaby noted that if there were a conflict, Pennsylvania law would apply because “the parties to th[e] policies clearly understood Pennsylvania to be the principal location of the insured risk,” and “even if the understood location of the insured risk was spread across multiple states (i.e., Pennsylvania and New York),” the Court would give “controlling weight” to the fact that “Plaintiff Ben Weitsman & Son of Scranton, LLC’s principal place of business was in Pennsylvania.”

Posted: March 8, 2018

Standard Policy Forms May Serve as Secondary Evidence of a Lost Policy’s Terms

On February 26, 2018, United States Magistrate Judge H. Kenneth Schroeder of the WDNY issued a decision in American Precision Indus., Inc. v. Federal Ins. Co., Case No. 14-CV-1050-RJA-HKS, holding that an insured could obtain discovery of standard forms used by the insurer as “secondary evidence” of a lost insurance policy’s terms.

An insurance policy is a contract, and the determination whether the insured is entitled to coverage depends on the policy’s terms.  But what if the policy itself goes missing?  This is not as far-fetched as it may sound, particularly with regard to occurrence-based policies, where a covered claim could be made years after the policy period.  In American Precision, the plaintiff sought coverage for asbestos-related claims under a CGL Policy issued in the 1970s.  Neither the insured nor the insurance company could find a copy of the 40 year-old policy, but there was “secondary evidence” of its existence, including “contemporaneous certificates of insurance, correspondence, and premium audits referencing or describing the Policy.”

Showing that the policy exists, however, only gets the insured part way — to grant relief, the court still needs to determine what the policy did (and did not) cover.  Insurers do not prepare insurance policies from scratch, but rather rely on standard forms.  The plaintiff in American Precision brought a motion to compel production of all versions of the forms the insurer used during the relevant time period for the type of liability policy at issue.  Magistrate Judge Schroeder granted the motion, explaining:

An insured seeking coverage under a lost or “missing” policy may rely on secondary evidence (i.e., evidence other than the policy itself) to prove the existence and terms of an insurance policy, provided the insured demonstrates that it has made a diligent but unsuccessful search and inquiry for the missing policy.

District courts within the Second Circuit have relied on “specimen” or standard policy forms as secondary evidence of a lost or destroyed policy’s terms.  Witness testimony connecting vital components of coverage can provide reliable and competent secondary evidence of a lost policy’s terms.

Given that neither party has been able to locate the Policy, and North River’s affirmative defense that API must prove the terms of the Policy’s coverage, the policy forms sought by API are indisputably relevant to its case and must be produced.

(Citations omitted).

 

Posted: March 2, 2018

Policy’s Anti-Assignment Provision Only Precludes Assignments Before Loss

A recent decision by Nassau County District Court Judge Scott Fairgrieve (M.V.B. Collision Inc. v. State Farm Ins. Co. (Dist. Ct. Nassau Co. Feb. 20, 2018), 2018 NY Slip Op 28043) provides a helpful survey of the case law on the enforceability of a policy provision prohibiting assignment or transfer of the insured’s rights under the policy.  As Judge Fairgrieve explains, the rule in New York is that such anti-assignment provisions are enforceable only as to assignments made before the insured sufferers a covered loss.  Thus, once the insured has a coverage claim, the right to collect that claim can generally be freely assigned or transferred, notwithstanding a policy provision prohibiting, or requiring the insurer’s consent for, any assignments.

A First Department decision cited by Judge Fairgrieve explains that “this principle is based on a judgment that while insurers have a legitimate interest in protecting themselves against additional liabilities that they did not contract to cover, once the insured against loss has occurred, there is no issue of an insurer having to insure against additional risk and, in that circumstance, the only question is who the insurer will pay for the loss.”  Arrowood Indem. Co. v. Atlantic Mut. Ins. Co., 96 A.D.3d 693, 694 (1st Dep’t 2012).  (citations omitted).  Judge Fairgrieve also cites similar decisions from the Second and Third Departments and the federal courts. 

Posted: February 27, 2018

Accident that was the “Unintended Consequence of an Intentional Act” is a Covered “Occurrence” under CGL Policy

On February 21, 2018, the Second Circuit issued a decision in Philadelphia Indemnity Ins. Co. v. Central Terminal Restoration Corp., Case No. 17‐1636‐cv, holding that a car accident caused by a driver to whom the insured had served alcohol when he was visibly intoxicated, in violation of New York’s dram shop law, was a covered occurrence under a commercial general liability policy.

A typical CGL Policy, such as the policy at issue in Philadelphia Indemnity Ins. Co., provides coverage for “bodily injury” resulting from an “occurrence” (defined as “an accident”), unless the injury is “expected or intended from the standpoint of the insured.” In this case, the accident resulted from an intentional act by the insured — selling alcohol to an intoxicated person. The Second Circuit held that it was nevertheless a covered occurrence because the insured did not intend to cause the subsequent injury, even if it was a foreseeable consequence. The Court explained:

We agree with the district court that a violation of the Dram Shop statutes that results in a car accident qualifies as “an occurrence” under New York law. Certainly, CTRC did not intend or expect the accident that followed the fundraising event. That CTRC intended to sell alcohol to Gilray also does not render the subsequent injuries “intended” by CTRC for purposes of excluding coverage, even if those injuries were arguably foreseeable to CTRC.  See Allegany Co-op Ins. Co. v. Kohorst, 678 N.Y.S.2d 424, 425 (4th Dep’t 1998) (holding that “[t]here is coverage if the damages alleged in the complaint arise out of a chain of unintended though foreseeable events that occurred after the intentional act” (internal quotation marks omitted)). . . .

A number of other New York courts, in a line of cases reaching back to then-Judge Cardozo’s opinion in Messersmith v. American Fidelity Co., 232 N.Y. 161 (1921), have also found that CGL policies cover injuries where an accident at issue is the unintended result of an intentional act. See, e.g., Salimbene v. Merchants Mut. Ins. Co., 629 N.Y.S.2d 913, 915 (4th Dep’t 1995) (“Accidental results can flow from intentional acts. The damage in question may be unintended even though the original act or acts leading to the damage were intentional.”); Allegany, 678 N.Y.S.2d at 424-25 (holding that an insurance company was required to defend and indemnify its insured because injuries resulting from an intentionally set fire still constituted an “accident” where the insured did not intend the subsequent injuries).

Posted: February 15, 2018

Court Recognizes “Narrow Exception” to Duty to Defend Where Extrinsic Evidence, Unrelated to the Merits of the Underlying Claim, Negates any Duty to Indemnify

On January 31, 2018, Judge Spatt of the EDNY issued a decision in Striker Sheet Metal II Corp. v. Harleysville Ins. Co. of N.Y., Case No. 16-cv-5916 (ADS)(AYS), holding that an insurance company was relieved of its duty to defend where “extrinsic evidence” (including an email from the insured in response to questions from the insurer) demonstrated conclusively that the accident at issue was excluded from coverage.

In Striker Sheet Metal an employee of the insured company was injured while in the process of unloading HVAC ductwork from the insured’s truck and delivering it to a construction site. The policy at issue excluded coverage for any “bodily injury” “arising out of” the “use” of “any ‘auto’,” owned by the insured, and defined “use” to include the “handling of property . . . [w]hile it is being moved from an . . . ‘auto’ to the place where it is finally delivered.” The complaint in the employee’s personal injury suit was “largely devoid of any of the specific factual circumstances surrounding the incident” and made “no mention that he was in the process of delivering HVAC ductwork when he was injured.” However, in written responses to questions from the insurance company, the insured employer stated that the injury occurred while the employee was “unloading the truck,” which was owned by the insured.

Although the undisputed facts triggered an exclusion to coverage, the insured argued that the duty to defend was governed solely by the allegations in the complaint, which did not plead these facts. Judge Spatt disagreed, explaining:

New York State law recognizes a narrow exception to the duty to defend, which permits a disclaimer of defense prior to litigation or a withdrawal during the course of litigation, if extrinsic evidence to the complaint or insurance policy is unrelated to the merits of the plaintiff’s action and plainly takes the case outside the policy coverage. . . .

The insurer is only relieved of the duty to defend where the extrinsic evidence offered allows a court to eliminate the possibility that the insured’s conduct falls within the coverage of the policy. . . .

(Emphasis added; citations omitted).

Judge Spatt acknowledged “that the precise delineations of the use of extrinsic evidence to prevent an insurer from exercising its duty to defend are unclear under New York law.” One important limitation, however, is that the extrinsic evidence must be “unrelated to the merits” of the case for which the insured seeks defense coverage. City of N.Y. v. Liberty Mut. Ins. Co., 2017 WL 4386363, at *13 (S.D.N.Y. Sept. 28, 2017); see also National Union First Ins. Co. v. Xerox Corp., 6 Misc. 3d 763, 776 (Sup. Ct. N.Y. Co. 2004) (dismissing insurer’s declaratory judgment action where facts relevant to coverage defenses “will likely be fully determined in the context of the various securities actions”); Nationwide Mutual Ins. Co. v. Dennis, 14 A.D.2d 188, 189 (3d Dep’t 1961) (“the policy in this State has been to deny the [insurer’s] declaratory judgment where the matter in dispute can be determined in the [underlying] action”). Judge Spatt concluded it was appropriate in this case to consider “extrinsic evidence, from the insured,” which (1) was “wholly irrelevant to the principal merits of the Underlying Action,” and (2) “conclusively establishes that [there is] no possible factual or legal basis on which Harleysville might eventually be obligated to indemnify its insured under any policy provision.” (Emphasis in original; citations omitted).

This decision illustrates that an insured’s communications with the insurer in the claims handling process can have a significant impact on the availability of coverage. Insureds are, therefore, well advised to seek the advice of coverage counsel early in the process.

Posted: February 5, 2018

Law Firm Entitled to Business Interruption Coverage Even Though Its Contingency Fees Would Not Have Been Earned Until After the Policy Period

On January 23, 2018, Justice Masley of the New York County Commercial Division issued a decision in Bernstein Liebhard LLP v. Sentinel Ins. Co., Ltd., 2018 NY Slip Op 30169(U), holding that a law firm was entitled to business interruption coverage for the loss of new matters, even though its contingency fees for those matters would not have been received during the policy period.

The plaintiff, Bernstein Liebhard LLP (“Bernstein”), a mass tort law firm, sought coverage for loss of business income after a fire destroyed its offices. The firm’s business insurance policy covered “Net Income . . . that would have been earned or incurred if no direct physical loss or physical damage had occurred.” However, recovery for such business income losses was limited to 12 months after the date of the damage. As the Court explained, the law firm “had the capacity, lawyers, and staff to prosecute the cases for which it would have been retained during the applicable period, but the equipment damaged by the fire prevented it from taking those cases. Thus, but for the fire, Bernstein would have earned its fees when those cases settled or were tried to verdict, possibly years later.”

The insurer, Sentinel Insurance Company (“Sentinel”), argued that Bernstein was not entitled to any recovery for new matters for which the firm would have been retained, but for the fire damage, during the 12-month period because it would not have earned any contingency fee for those cases until years later. Justice Masley disagreed, explaining:

[R]ecovery is not precluded where there is a certain loss within the applicable period, even if the loss cannot be quantified until sometime thereafter. Here, an economist or other expert could identify the relevant existing mass tort cases during the 12-month period, and opine as to the present value of those cases, despite the fact that the amount of the loss may not have been determinable until years after the fire. . . .

To deny Bernstein coverage would be to punish it for its business model; that is, a mass tort business that is paid on a contingency-fee basis, as opposed to a traditional hourly basis. . . .

The business that Sentinel provided insurance coverage to, Bernstein, is a law firm; nothing it does concludes in one year. Sentinel accepted Bernstein’s payments and insured its business income losses. When it issued the Policy in July 2013 for the period August 1, 2013 to August 1, 2014, Sentinel knew that Bernstein was in the business of representing mass tort clients on a contingency-fee basis. Applying Sentinel’s theory of the coverage in this matter, there is no circumstance under which it would actually pay out for business income losses under the Policy. Sentinel’s interpretation of the Policy, therefore, renders the insurance illusory.

Justice Masley’s decision invokes the general principle that “an illusory contract – that is, an agreement in which one party gives as consideration a promise that is so insubstantial as to impose no obligation – is unenforceable.” Lend Lease (US) Const. LMB Inc. v. Zurich American Ins. Co., 28 N.Y.3d 675, 684 (2017) (citations omitted). “[A]n insurance policy is not illusory if it provides coverage for some acts subject to a potentially wide exclusion.” Id. at 685 (citations omitted). In this case, however, Justice Masley found that, under the insurer’s interpretation of the policy, the law firm would never be able to claim business interruption coverage. Thus, the policy had to be read in a manner that would give the coverage provision meaning in light of the realities of the firm’s business.

Posted: January 31, 2018

Insurer Not Entitled to Rely on Facts Outside Complaint to Avoid Duty to Defend

On January 18, 2018, Justice Sherwood of the New York County Commercial Division issued a decision in Zurich Am. Ins. Co. v. Don Buchwald & Assocs., Inc., Index. No. 655533/2016, holding that an insurer could not rely on “extrinsic discovery” to avoid its duty to defend.

In Zurich, an insurer sought a declaratory judgment that it had “no duty to defend or indemnify defendants in an action proceeding in Florida on the grounds that . . . the acts alleged in the underlying action were outside the scope of defendant Tony Burton’s . . . employment with defendant Don Buchwald & Associates, Inc.”  The insurer sought discovery “relating to the issue of whether Burton’s actions were outside the scope of his employment.” But Justice Sherwood denied the insurer’s motion to compel, explaining:

The discovery plaintiff seeks fails with respect to plaintiff’s duty to defend. Under New York law, plaintiff is required to provide a defense unless it can demonstrate that the allegations of the complaint in the underlying action cast that pleading solely and entirely within the policy exclusions, and, further, that the allegations, in toto, are subject to no other interpretation. So long as the allegations in that complaint suggest a reasonable possibility of coverage, plaintiff must provide a defense. Importantly, such a duty remains even though facts outside the four corners of the pleadings indicate that the claim may be meritless or not covered. Accordingly, the extrinsic discovery plaintiff seeks has no bearing on its duty to defend, as its duties there are determined solely by examining the allegations of the complaint in the underlying action.

(Citations omitted.)

Notably, although an insurer may not look to evidence outside the “four corners” of the complaint to avoid its duty to defend, New York law does not permit the insurer to employ a “wooden application of the ‘four corners of the complaint’ rule” “when it has actual knowledge of facts establishing a reasonable possibility of coverage” – even if those facts are not pled in the complaint. See Fitzpatrick v. American Honda Motor Co., 78 N.Y.2d 61, 66-67 (1991). In other words, extrinsic facts cannot be used to avoid the duty to defend, but in some circumstances must be considered to establish a duty to defend.

Posted: January 29, 2018

Undefined Term in Policy Exclusion Not Ambiguous Where it Has a “Clear Meaning in Federal Law”

On January 22, 2018, the Second Circuit issued a decision in Beazley Ins. Co. v. ACE American Ins. Co., Case No. 16‐2812‐cv, holding that an undefined term in a policy exclusion was not ambiguous because it had a “clear meaning in federal law.” Beazley Ins. Co. is an insurance coverage action relating to investor lawsuits against NASDAQ in connection with Facebook’s IPO. At issue was a “professional services” exclusion in NASDAQ’s D&O policy, which provided that the insurer “shall not be liable for Loss on account of any Claim . . . by or on behalf of a customer or client of the Company, alleging, based upon, arising out of, or attributable to the rendering or failure to render professional services.” (Emphasis added).

The D&O carrier argued that this exclusion applied because the investors who traded in Facebook shares were “customers” of NASDAQ (and their claims arose from NASDAQ’s “rendering professional services”). The policy did not define the term “customer,” and the plaintiff – an E&O carrier to which NASDAQ had assigned its rights under the D&O Policy – argued that the term was ambiguous and should be construed against the insurance company, especially because it appeared in a policy exclusion.

However, the Second Circuit affirmed the district court’s holding that the term “customer,” as applied to retailer investors who traded on NASDAQ, was not ambiguous, explaining:

The district court properly relied on custom and usage of the term[] “customers” in determining that the retail investors were “customers” of NASDAQ within the meaning of the ACE D&O policy. . . . [S]ecurities law is paradigmatically a federal field. In assessing whether there is a prevailing federal definition, we consider not whether there is complete unanimity among the courts that have addressed the question, but rather whether there is an overwhelming current of judicial opinion, that is, a meaning used by the vast majority of federal courts.

We have little trouble finding that the vast majority of federal courts to consider the issue find retail investors to be “customers” of a stock exchange. In Lank v. New York Stock Exchange, our Court held that “[t]he primary purpose of the Exchange Act was to protect customers of the stock exchanges that is, public investors.” 548 F.2d 61, 64 (2d Cir. 1977) (emphasis added). “One method of effectuating this was to impose on the exchanges a statutory duty to protect investors by regulating (the exchanges’) members.” Id. (citation and internal quotation marks omitted). District courts also regularly characterize retail investors as “customers” of stock exchanges. . . . It appears most federal courts take the meaning of “customer” in this context as a given.

*        *        *

[T]he fact that the professional services exclusion is a standard clause does not alter the analysis here. The parties are not required to tailor language for every policy in order for terms to have industry-specific meanings. Who counts as a customer of a particular insured within the meaning of the generic exclusion will often depend on the nature of the industry in which the insured does business. What is relevant here is that the insurer sold the policy to its insured, a stock exchange, against the backdrop of well-established federal securities law that unambiguously considers retail investors to be customers of the exchange.

(Some citations omitted).

This decision illustrates that the absence of an express definition for a term used in an insurance policy does not automatically render the term ambiguous. In an appropriate case, courts will look to outside the policy to custom and usage in the insured’s industry to define policy terms.

Posted: January 23, 2018

Generalized Request for Coverage Not Sufficient to Establish Claim Against Insurance Broker for Failure to Procure Policy Covering a Specific Risk

On December 21, 2017, the Third Department issued a decision in Cromer v. Rosenzweig Ins. Agency Inc., 2017 NY Slip Op 08926, affirming the dismissal on summary judgment of negligence and breach of contract claims against an insurance broker because the plaintiff failed to establish that the insured made a specific request for coverage that was not provided in the policy.

Individuals and businesses frequently obtain insurance coverage through brokers, and may rely on the broker’s advice as to what coverage to purchase. An insured who suffers a loss that turns out not to be covered may blame the broker for procuring the wrong policy or misrepresenting the scope of coverage. But can the insured bring a claim against the broker? In some cases, yes. The Third Department’s decision in in Cromer provides a useful overview of the law in this area, explaining:

As a general rule, an insurance broker has a common-law duty to provide requested coverage within a reasonable time and may be held liable for negligence or breach of contract when a client establishes that a specific request was made for coverage that was not provided in the policy.

*             *             *

Although an insurance broker’s common-law duty to his or her clients does not include a continuing duty to advise the clients on appropriate coverage or to recommend additional coverage that the clients did not request, an insurance broker may nevertheless be found liable for failing to provide appropriate advice regarding insurance coverage where it is determined that a special relationship has been established with his or her client. Whether such a special relationship exists is best determined on a case-by-case basis upon consideration of such factors as whether the broker received compensation for his or her consultation services distinct from the payment of premiums, whether the broker and the client had a specific interaction with respect to the insurance coverage such that it was apparent that the client was relying on the advice of the broker or whether there existed a course of dealing over an extended period of time that would have put an objectively reasonable insurance broker on notice that his or her advice and/or expertise were being relied upon.

(Citations omitted).

In Cromer, the insured had no claim against the broker because he made only a generalized request for a commercial general liability policy, and the broker satisfied any “duty of advisement” by informing the insured that the policy he was buying did not cover injuries to construction workers, and explaining how the insured could obtain that coverage if he wanted it.

Posted: January 16, 2018

Court Grants Preliminary Injunction Directing Excess Insurers to Advance Defense Costs in Prosecution for Alleged Securities Fraud

On December 27, 2017, Justice Sherwood of the New York County Commercial Division issued a decision in Freedom Specialty Ins. Co. v. Platinum Mgt. (NY), LLC, 2017 NY Slip Op 32728(U), granting a preliminary injunction directing three excess D&O insurers to advance defense costs for the defense of a federal securities fraud prosecution, and related civil actions. (N.B. Our firm represents one of the insureds in this case, and I argued the preliminary injunction motion on behalf of all the insureds. See Law360’s coverage of the oral argument on the preliminary injunction motion here.)

The insureds in Freedom Specialty are former officers and employees of Platinum Partners, a New York hedge fund, who sought advancement of defense costs under Platinum’s D&O policy and four excess policies (each for $5 million) for a securities fraud prosecution in the EDNY, and a related SEC enforcement proceeding. The primary insurer and the first-tier excess insurer acknowledged coverage and advanced defense costs up to the limits of those policies. However, the insurers responsible for the top three excess tiers (the “Excess Insurers”) filed suit, seeking a declaratory judgment that they had no obligation to provide coverage.

Among other defenses, the Excess Insurers claimed breaches of “Warranty Statements” signed in connection with the applications for the policies, which stated, in substance, that “No Insured has knowledge . . . of any wrongful act of any Insured,” or of any “fact, circumstances or situation which (s)he has reason to suppose might result in a claim being made against any of the Insureds.” The Excess Insurers alleged that the Warranty Statements were breached because the Insureds did not disclose “information contained in the EDNY Indictment and SEC Proceeding” – that is, the very allegations of wrongdoing that the insureds deny and for which they seek insurance coverage to mount their defense.

The insureds filed counterclaims, and moved for (1) a preliminary injunction directing the Excess Insurers to advance their defense costs, and (2) a stay of discovery in the coverage action pending the resolution of the underlying criminal proceedings.

Justice Sherwood granted the insureds’ motion in full. Citing the First Department’s seminal decision in Federal Ins. Co. v. Kozlowski, 18 A.D.3d 33 (1st Dep’t 2005), Justice Sherwood explained that, “under a directors and officers liability policy calling for the reimbursement of defense expenses . . . insurers are required to make contemporaneous interim advances of defense expenses where coverage is disputed, subject to recoupment in the event it is ultimately determined no coverage was afforded.” The Court found that the Insureds had shown a likelihood of success on their claim for advancement because the Excess Insurers could not rely on the Government’s unproven allegations to establish a breach of the Warranty Statements, or any other purported defenses to coverage. As Justice Sherwood explained, “[t]he Insureds have not been found guilty of any of the charges contained in either the EDNY Indictment or the SEC Complaint,” and “until there has been a final adjudication of wrongdoing by the Insureds, the Excess Policies remain in effect and the Excess Insurers are required to pay the legal defense costs of their insureds.”

Justice Sherwood further concluded that the Insureds “face irreparable harm without advancement of Defense Costs,” in that they “will be unable to mount adequate defenses, particularly in the EDNY criminal proceedings, where . . . the government has already produced approximately 15 million pages of documents with discovery still ongoing, and the Insureds are in need of funds to pay for the expert witnesses and consultants that are essential to their defense.” The Court also found that the balance of equities favored granting the injunction because “[t]he harm that the Insureds may suffer stemming from being unable to adequately defend themselves, including personally losing their liberty, outweighs any possible economic loss that the Excess Insurers may experience.”

Finally, the Court granted the Insureds’ motion to stay discovery, holding that “the demand for discovery in furtherance of the Excess Insurers’ putative defenses against coverage” was “premature” because “[a] declaratory judgment action cannot be used to conduct discovery regarding the very facts at issue in the EDNY Indictment and the SEC Complaint.”

This decision illustrates the important distinction between the duty to advance defense costs, and the ultimate duty to indemnify. The duty to advance attaches whenever there is a “possibility of coverage.” Westpoint Int’l, Inc. v. Am. Int’l S. Ins. Co., 71 A.D.3d 561, 563 (1st Dep’t 2010). Thus, the fact that the insurer asserts coverage defenses does not relieve it of the duty to advance – particularly where the purported defenses depend on facts that are at issue in the underlying proceedings for which the insured seeks coverage.