Professional Liability Wrongful Act

This matter arose between the insured and the insurer over a coverage dispute under a professional liability insurance policy. The case is EnTitle Insurance Company v. Darwin Select Insurance Company, 2013 WL 422712.

EnTitle is a title insurance company. Darwin issued four successive insurance policies to EnTitle's parent company, EnTitle Direct Group. The relevant policy in this dispute is the professional liability insurance policy that provided claims-made coverage for a period from August 2, 2010 to July 25, 2011. In its insurance application, EnTitle sought coverage for the professional services of claims handling and adjusting, and at no time did the insurance application disclose to Darwin that EnTitle was providing any other services.

In 2008, EnTitle entered into an issuing agency agreement with Direct Title. Direct Title issued title insurance in numerous states on behalf of EnTitle as a non-exclusive policy issuing agent. In 2010, Direct Title misappropriated client escrow funds by diverting money from escrow accounts into its operating accounts. Direct Title used the funds to pay operating expenses and personal expenses of its principal, Durling. EnTitle was then asked by a number of lenders to pay the losses arising from the misconduct of Direct Title. EnTitle took responsibility for anyone to whom it issued a closing protection letter (CPL) and determined that it was contractually obligated to pay $3,574,220.23 in connection with the claims.

EnTitle sought reimbursement from Darwin. The insurer declined coverage and the insured filed a breach of contract claim. Both sides moved for summary judgment.

The United States District Court for the Northern District of Ohio said that it must first determine whether coverage exists under the language of the policy before determining if any exclusions or exceptions apply. EnTitle asserted that it is legally responsible for Direct Title and that Direct Title engaged in a professional liability wrongful act that triggered coverage under the policy. Darwin argued that the amount paid out under the CPLs is not covered by the policy.

The court noted that a professional liability wrongful act is defined under the policy as “any actual or alleged act, error, omission, misstatement or misleading statement in the performance of or failure to perform professional services by any insured or by an individual or entity for whom the company is legally responsible”. EnTitle claimed that the issuance of CPLs is a professional service. The court agreed.

The court found that CPLs are designed to persuade the underwriter's customers to trust their agents, thereby increasing policy sales. EnTitle issued CPLs to clients it obtained by virtue of its relationship with Direct Title. Each CPL was a binding contract between EnTitle and the client, and this type of contract was customary in the industry. Darwin had knowledge that EnTitle engaged in escrow/closing services through an audit of EnTitle's finances. Accordingly, the court found that EnTitle's issuance of CPLs is a professional service under the terms of the policy.

Next, the court had to determine whether Darwin is legally obligated to indemnify EnTitle for the amount paid out under the CPLs.

The court said that EnTitle did not make any omission, misstatement or misleading statement in the performance of or failure to perform in its issuance of CPLs; the misconduct that occurred was Direct Title's misappropriation of escrow funds, not EnTitle's issuance of the CPLs. The insured claimed it was legally responsible for the acts of Direct Title and the professional liability coverage applied for any entity for whom the insured is legally responsible. EnTitle said it is legally responsible because it contractually obligated itself to reimburse clients for actual loss incurred by them in connection with closings of real estate transactions. However, the court said that the issuance of CPLs did not make EnTitle legally responsible for Direct Title. Instead, the CPLs made EnTitle contractually responsible and a contractual obligation to pay is not the same as a legal obligation to pay. Moreover, EnTitle only reimbursed the losses stemming from Direct Title's misconduct for clients who received a CPL. In the absence of the CPLs, it would not have paid for any of the losses occasioned by Direct Title's fraud. Therefore, EnTitle did not engage in any misconduct and there is no professional liability wrongful act under the definition in the policy. The court found that Darwin was not required to indemnify EnTitle for the payments made under the CPLs.

Editor's Note: The U.S. District Court ruled in this case that the payments made by the insured amounted to the performance of a contractual obligation, a debt that the insured voluntarily accepted. The payments were not a loss resulting from a wrongful act within the meaning of the policy. In this ruling, the court joined other courts that have consistently held that there is no wrongful act involved in a breach of contract claim since the insured is simply being required to pay an amount it agreed to pay.

Voluntary Payment by Insured Results in Loss of Coverage

The commercial general liability insurer brought an action against the insured seeking a declaration that it had no duty to indemnify or defend the insured against a claim brought by homeowners. This case is West Bend Mutual Insurance Company v. Arbor Homes, 703 F.3d 1092 (2013).

Arbor builds single-family homes and contracted with Willmez Plumbing for plumbing services in connection with the construction of new homes. The contract required Willmez to obtain general liability insurance and umbrella liability insurance naming Arbor as an additional insured.

Willmez did the plumbing work on a new home being constructed for the Lorches. After the construction was completed and the Lorches moved in, they noticed a foul odor emanating from the lower part of the house. An investigation revealed that Willmez had failed to connect the home's plumbing to the main sewer line, and raw sewage was being discharged into the crawl space of the home. Arbor then had the plumbing properly connected, decontaminated furniture and insulation, and overall paid more than $65,000 for cleaning, repairs and follow-up testing for the home.

Arbor told Willmez to place its insurer, West Bend, on notice of the claims and requested that the insurer contact Arbor if more information was needed. Arbor did not hear from West Bend and assumed the insurer had no problems with the settlement it made with the Lorches.

Arbor did file a lawsuit against Willmez alleging negligence, breach of contract, and constructive fraud. Arbor's lawyer sent a copy of the complaint to West Bend, noting that Arbor was an additional insured on the policies and asking for discussions to resolve the dispute. West Bend filed a declaratory judgment action denying coverage and alleging lack of notice and the application of three policy provisions: the fungi and bacteria exclusion, the voluntary payment provision, and the completed operations provision.

The district court granted summary judgment to West Bend and Arbor appealed.

On appeal, Arbor contended that a provision excluding coverage for damages caused by fungi and mold in a commercial general liability policy issued to a plumber renders the coverage illusory. Arbor also said that coverage may not be denied under the voluntary payments provision because West Bend denied for years that Arbor was an additional insured, and thus, West Bend would not have participated in settlement discussions even if it had been given the opportunity to do so. Finally, Arbor argued that the completed operations exclusion should not apply since the plumbing work was never completed as promised.

The United States Court of Appeals, Seventh Circuit, began its analysis of the case with the voluntary payments provision of the insurance policy. The court noted that the policy assigns several duties to the insured in the event of an occurrence that may result in a claim, and the most important of these is the voluntary payments provision. That provision stated that no insured will, except at that insured's own cost, voluntarily make a payment, assume any obligation, or incur any expense without the consent of the insurer. The court found this provision to be reasonable and prudent.

The court said that neither Arbor nor Willmez obtained West Bend's consent before settling. Arbor construed the insurer's silence as a lack of objection to the settlement. Moreover, Arbor produced no evidence that West Bend consented to the settlement, whereas West Bend produced uncontroverted evidence that it knew nothing of the damage to the house or the terms of the settlement until after Arbor's lawsuit against Willmez was underway.

The court found that West Bend did not have an opportunity to participate in the investigation or settlement of the claim and so, the insurer is entitled to enforcement of the plain language of the policy. The court noted that the voluntary payments provision is not a notice provision per se, but a consent provision. That is, under the clear language of the provision, the insurer must consent to a payment, obligation, or expense before the insurer is liable for that amount. The voluntary payment provision relieved West Bend of the obligation to pay and the ruling of the trial court was affirmed.

Editor's Note: The voluntary payment provision in a liability policy is often overlooked by the insured and for whatever reasons, the insured will then compensate the claimant for injuries or accept responsibility for repairing damaged property. The policy language, as the Circuit Court noted, is clear that the consent of the insurer is required before the insured makes any such payment or accepts any responsibility for a loss. The policy is a contract and if the insured does make a payment or accept responsibility for a loss without the consent of the insurer, the insured is breaching the contract, thus relieving the insurer from its duties to the insured.

Separation of Insureds Clause and Additional Insured Coverage

The insured brought a declaratory judgment action against its insurer seeking a declaration that the general liability policy required the insurer to defend and indemnify an additional insured. This case is Patrick Engineering v. Old Republic General Insurance Company, 973 N.E.2d 1036 (2012).

In 2004, ComEd entered into a two-part consulting services agreement with Patrick Engineering. Patrick provided engineering design services to ComEd. The agreement required Patrick to procure general liability insurance and to name ComEd as an additional insured on the policy.

In 2008, ComEd directed Patrick to design the relocation of ComEd's utility poles in Lombard, Illinois. While working on the relocation project, ComEd smashed through an underground sewer facility in at least four separate locations. Lombard filed a lawsuit against ComEd, alleging that ComEd acted negligently. ComEd tendered its defense to Old Republic, the insurer with which Patrick had procured general liability insurance. Old Republic denied coverage for ComEd based on the professional services exclusion. Patrick brought a declaratory judgment action against Old Republic. The trial court ruled in favor of the insurer and the insured appealed.

The Appellate Court of Illinois, Second District, said that the issue in this case is the interpretation of the general liability policy, particularly the interplay among the separation of insureds clause, the additional insured endorsement, and the professional services exclusion.

The insured contended that the trial court did not properly apply the separation of insureds clause in finding that the professional services exclusion applied to ComEd. Patrick contended that since ComEd is an additional insured, the applicability of the professional services exclusion to ComEd has to be determined separately from Patrick. Patrick performed professional services and is subject to the professional services exclusion, but ComEd, as a separate insured, can claim coverage for its own, nonprofessional causal role.

The court noted that courts have interpreted separation of insureds clauses to provide each insured, whether named or additional, with separate coverage, and that the insurer has an obligation to additional insureds distinct from its obligations to the named insured. In this instance, the court found that the professional services exclusion expressly refers to Patrick, the named insured, as opposed to ComEd, the additional insured. The court said that ComEd was an additional insured under Patrick's liability policy, but since the damage caused by the relocation work of ComEd did not arise out of the rendering of any professional service by Patrick, the exclusion did not apply to ComEd.

The ruling of the trial court was reversed.

Editor's Note: The Illinois Court of Appeals acknowledges that the separation of insureds clause requires the insurer to treat the named insured as a separate entity from the additional insured. In this instance, the exclusionary language applied specifically to the named insured and so, coverage could not be denied to the additional insured, a separate insured.

Notice of Disclaimer

In an action to recover damages for personal injuries, the insurer appealed from an order requiring it to defend and indemnify the insured. This case is Sierra v. 4401 Sunset Park, LLC, 957 N.Y.S.2d 219 (2012).

Scottsdale Insurance Company issued a certificate of insurance to 4401 Sunset Park, LLC and Sierra Realty Company in accordance with a construction agreement in connection with a project in which several apartments were to be renovated. In 2008, Sierra was injured while working in the apartment building. The primary insurer of 4401 and Sierra, Greater New York Insurance Company, wrote to Scottsdale, tendering a claim for the defense and indemnification of the underlying action on behalf of 4401 and Sierra. Scottsdale disclaimed coverage on the grounds that the letter from Greater New York constituted late notice of the accident and did not comply with the terms of the Scottsdale policy. Scottsdale did not send the disclaimer letter to 4401 or Sierra, just to Greater New York Insurance.

4401 and Sierra filed an action for summary judgment against Scottsdale seeking a declaration that Scottsdale had a duty to defend and indemnify them in the underlying action. Scottsdale moved for summary judgment in its favor. The Supreme Court, Kings County, granted summary judgment against Scottsdale and this appeal followed.

The Supreme Court, Appellate Division, noted that where a primary insurer (in this case, Greater New York) tenders a claim for a defense and indemnification to an insurer (in this case, Scottsdale), that had issued a certificate of insurance to the parties indicating that they are additional insureds, that insurer must comply with the disclaimer requirements of Insurance Law §3420(d)(2) by providing written notice of disclaimer of coverage to the additional insureds. The fact that the tendering insurer provided untimely notice of the accident does not excuse the insurer's unreasonable delay in disclaiming coverage.

The court decided that the failure of Scottsdale to provide written notice of disclaimer to 4401 and Sierra rendered the disclaimer of coverage ineffective against them. Under the circumstances of this case, the court said, Greater New York was not the real party in interest such that the notice of disclaimer to it would be rendered effective as against 4401 and Sierra. The court remitted the matter back to the Supreme Court, Kings County, for the entry of judgment declaring that Scottsdale is obligated to defend and indemnify 4401 and Sierra in the main action.

Editor's Note: This ruling by the appeals court affirms the point that state law has to be followed by insurers in their dealings with insureds, both named insureds and additional insureds. Scottsdale mistakenly thought that the notice of disclaimer sent to the party that had tendered the underlying claim to Scottsdale was sufficient to allow a denial of coverage. State law required that the disclaimer also be sent to additional insureds and Scottsdale's failure to comply with state law rendered its disclaimer ineffective.