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(Article from Insurance Law Alert, January 2015)

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Our March 2014 Alert reported on a New York trial court decision holding that a Dishonest Acts Exclusion did not bar coverage for settlement payments made by Bear Stearns to the Securities and Exchange Commission because guilt had not been established by final adjudication or judgment. J.P. Morgan Sec. Inc. v. Vigilant Ins. Co., 2014 WL 804129 (N.Y. Sup. Ct. New York Cnty. Feb. 28, 2014). This month, an appellate court affirmed the ruling. J.P. Morgan Sec. Inc. v. Vigilant Ins. Co., 2015 WL 175512 (N.Y. App. Div. 1st Dep’t Jan. 15, 2015).

The Dishonest Acts Exclusion at issue barred coverage for claims arising out of any "deliberate, dishonest, fraudulent or criminal act or omission," but only if a "judgment or other final adjudication" in the underlying case established such guilt. The appellate court ruled that the exclusion did not apply where the underlying claims were resolved by settlement and administrative order, which are not equivalent to a final adjudication, notwithstanding the incorporation of certain adverse "findings" in the order. The appellate court explained that the settlement did not "establish" Bear Stearns’ guilt, noting the company’s refusal to admit guilt and its express reservation to contest findings in unrelated proceedings. The appellate court distinguished decisions in which New York courts ruled that a consent decree established that a policyholder’s payments constituted uninsurable disgorgement, stating that the present case is "strictly concerned with the unrelated issue of whether an exclusion for ‘adjudicated’ wrongdoing applies where the purported ‘adjudication’ is a consent decree or other settlement agreement entered into by the insured, with the caveat that it is not admitting guilt other than for the purposes of the settlement."

However, the appellate court reversed the portion of the trial court decision that dismissed the insurers’ affirmative defense based on the public policy against permitting insurance coverage for intentional wrongdoing. The appellate court ruled that although the absence of an "adjudication" precluded application of the Dishonest Acts exclusion, there is no adjudication requirement for an affirmative defense based on public policy grounds. The insurers were therefore entitled to rely on findings set forth in the settlement order to support a public policy-based defense.

For more information, please visit the Insurance Law Alert Resource Center.