The United States District Court for the Northern District of Illinois, Eastern Division has relied on previous policy interpretations of an exclusion with a different title but essentially the same relevant language in order to determine if the exclusion applied. The case is Cushman and Wakefield Inc. v. Ill. Nat'l Ins. Co., No. 14-C 8725, 2018 U.S. Dist. LEXIS 67523 (N.D. Ill. Apr. 20, 2018).

Cushman & Wakefield, Inc. (Cushman) performed real estate appraisals on behalf of some Credit Suisse entities, in connection with loans made to developers of large, master-planned residential communities (MPC's). In preparing the appraisals, Cushman used a Total Net Value (TVN) methodology. TVN is defined as the “sum of the market value of the bulk lots of the entire planned community, as if all of the bulk lots were complete (in terms of backbone and infrastructure) and available for sale to merchant builders, as the date of the appraisal. . . It does not reflect the deduction for developers profit or the time value of money.” The TNV appraisal method did not violate appraisal standards, but it was not a common method of appraisal. At the times, the banks used it to value the MPC's. When the housing market crashed, between 2008 and 2010, several loans went into default and lawsuits surrounding the use of the TNV appraisal method were brought against Cushman. The lawsuits alleged that Cushman's role was to appraise the MPCs improperly using the TNV definition, which resulted in the MPC's to be appraised at a higher value than they should have been assigned. Then Credit Suisse could earn fees by servicing larger loans using the MPCs as collateral.

Cushman went to their insurance company, Illinois National Insurance Company (Illinois National) and reported the first of the claims, and Cushman received a letter saying that after a $2.5 million captive retention was paid, Illinois National would start paying defense costs. Then several more claims came in to Illinois National regarding Cushman's use of the TVN method. One of the questions the court addressed was whether the claims were related or not. If the claims were deemed to be unrelated, they could exceed four towers of Illinois National's coverage instead of just one, if they were determined to be related. Three years after the claims were filed, Illinois National sent a coverage letter asserting that several exclusions from the policy applied to the claims. Two of the exclusions included in the insurance policy that may have applied in the case were Miscellaneous Endorsement 5, and the Prior Knowledge exclusion.

Miscellaneous Endorsement 5 precluded coverage in cases where a claim is filed that deals with an investment that does not perform as well as predicted, and the purchasers aren't happy with how it performed, or when the insured offered a guarantee that was not fulfilled. In either of the cases above, no coverage would apply. Illinois National had previously submitted regulatory filings in several states that included an exclusion called the Investment Advisor Exclusion that featured nearly identical language to the endorsement at issue here. Although Illinois National thinks that this endorsement should be interpreted using the dictionary definition for “investment” because it is undefined in the policy. In using the dictionary definition for investment, the exclusion would also apply to real-estate appraisals. The court determined that the same interpretation should be applied to Miscellaneous Endorsement 5 that applies to the Investment Advisor Exclusion. Cushman has an industry custom and practice expert who asserts that “under the custom and practice in the liability insurance market, the exclusion would apply only to claims that arise when a real estate company decides to dabble in the kinds of activities that are conducted by investment advisors, not to claims that arise when the company engages in its core real estate professional activities, such as conducting property appraisals”. Illinois National representatives have testified that the exclusion is used in any policy where they think the insured might be giving investment advice, and that Illinois National is definitely not in the business of insuring anything an investment advisor might do. Because Illinois National mentions only the occupation of investment advisors multiple times, the court interpreted this as an indication that Exclusion 5 applied only to investment advisors, and that the exclusion did not preclude coverage in the case at hand.

The Prior Knowledge Exclusion in the policy states that it does not apply to “any Claim arising from any Wrongful Act committed prior to the beginning of the Policy Period if on or before the inception date of this Policy any Insured knew of such Claim or Occurrence that could be reasonably expected to result in such a Claim.” Illinois National interprets the language of this exclusion to mean that the knowledge of “any insured” governs while Cushman quotes the definition of Claim in the policy which is “knowledge of a Claim or a Wrongful Act that could reasonably be expected to result in a Claim shall mean knowledge by the General Counsel or Risk Manager of the Named Insured”, and so reads the exclusion to mean that only the knowledge of General Counsel and the Risk Manager counts as knowledge for the exclusion. The court determined that even in applying the more expansive view of Illinois National, Illinois National failed to show that the Prior Knowledge Exclusion barred coverage. The court found that appraisers may have had concerns but that does not mean that they knew that issuing TNV appraisals was inherently misleading, nor that a reasonable person with knowledge of the facts surrounding the appraisals might expect such activity to be the basis of a claim. The court determined that under the facts provided, the Prior Knowledge Exclusion did not apply.

Editor's Note:

While this case was convoluted with several motions for summary judgment, multiple parties, and denials issued after the claim had been partially paid, the important outcomes of the case are outlined in the above analysis. The court in this case decided to use prior decisions to interpret the policy exclusions, despite Illinois National's arguments. This decision is relevant due to the popularity of property cases where in underlying actions plaintiffs are getting creative in their damage theories by reframing underlying facts in order to comply with strict class action filing standards.

This case is a good harbinger for policyholders going forward. Courts will insist that carriers look at the underlying facts rather than invoking exclusions, and prior to attempting to apply an exclusion three years into a claim such as Illinois National did in this case. This will also serve as a warning to insurers. If there is a specific risk that an insurer does not wish to cover, it should be directly addressed in the policy so there is no ambiguity for a court to have to deal with later.