A recent 9th U.S. Circuit Court of Appeal ruling saying Texas law governs a policyholder’s $40 million defense coverage dispute with an American International Group Inc. unit and two excess insurers amplifies the importance of prevailing in choice of law disputes, legal experts say.
The decision in EB Holdings v. Illinois National Insurance Co. et al. reversed a ruling by a federal judge in Las Vegas that Nevada law should apply to the dispute, thereby allowing the insurers to simply argue they had no defense obligations because the policyholder made a material misrepresentation on its policy renewal application.
The ruling is significant because “it has a seismic impact on an insured’s ability to defeat the insurer’s misrepresentation defense and obtain coverage,” said Los Angeles-based Lilit Asadourian, an insurance recovery partner at Barnes & Thornburg LLP.
EB Holdings requested a defense from AIG unit Illinois National Insurance Co. and two excess insurers for a Nevada state court lawsuit accusing it of fraud and market manipulation. The Dallas-based oil exploration supply company sued the insurers in December 2020 after they denied the request because the D&O policies did not provide coverage for some of the defendants in the underlying suit.
Illinois National said in an affirmative defense that EB Holdings’ failure to list $1.6 billion in financial liabilities on a 2015 renewal application allowed it to rescind the policy. The trial judge awarded summary judgment to the insurer after applying Nevada law, which would allow the insurer to rescind the policy, and EB Holdings appealed.
The trial judge will now use Texas law to decide if EB Holdings intended to deceive its insurers when omitting the financial information.
Policyholders often fight with insurers over choice of law issues and forum in D&O cases because they are so critical to the outcome of a lawsuit and because there are many public policy restrictions on what is covered in D&O claims, such as punitive damages, penalties and disgorgement, Ms. Asadourian said
The three-judge panel reached its conclusion that Texas law should apply largely because it is where EB Holdings’ policy was underwritten and where the company is headquartered.
The decision was expected given the significant weight the appeals court gave to those factors, said Hartford, Connecticut-based Lee S. Siegel of Hurwitz Fine PC, who represents insurers.
While courts deciding a choice of law dispute typically give more weight to factors such as a company’s state of incorporation and the state of performance, the number of factors favoring one state’s law does not always determine the outcome. Courts sometimes put more weight on factors that are more significant to provide justice in the situation, Mr. Siegel said.
Standard form insurance policies drafted by the Insurance Services Office do not include choice of law provisions because they are used in every state, each of which has its own rules and regulations. As a result, insurers provide state amendatory provisions outlining how that state’s law applies to the policy, Mr. Siegel said.
For businesses owning facilities in multiple states, an insurer will issue amendatory provisions for each location.
Because insurance policies are contracts, the parties have the ability to agree to apply a specified state’s law to a dispute, said Michael S. Levine, a Washington-based insurance recovery partner at Hunton Andrews Kurth LLP. For example, insurers often favor New York law, which has long been favorable to them.
When a coverage dispute arises, Mr. Levine recommends that policyholders carefully analyze which states’ laws could apply to their dispute before filing a lawsuit. The court only needs to determine choice of law when there is a conflict between the laws of the two states.
At base, “insurance contracts are creatures of state law. When you think of it through that lens, it becomes clear that the outcome may well be determined based on which state’s law controls the dispute. This ruling is an example of that scenario,” he said.
