Can D&O Insurance Cover Banks Anymore?

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[author: Ryan Chapoteau]

Last week, Democratic Rep. Barney Frank of Massachusetts introduced H.R. 5860.  This new bill, titled the “Executive Compensation Clawback Full Enforcement Act,” seeks to prohibit insurance coverage for regulatory clawbacks of an employee’s compensation from a failed financial institution as well as civil penalties imposed by governmental authorities on corporate executives of financial institutions.  The legislation complements the Dodd-Frank Act, the principal financial reform law currently being implemented, which allows the FDIC to act as the receiver of failed “systemically important” financial institutions and recover clawback damages from individuals responsible for such failure.

If H.R. 5860 passes, insurance companies may not provide coverage to directors and officers, as well as employees, for such penalties.  Rep. Frank is trying to bolster the sanctions within the Dodd-Frank Act receivership provisions and make individuals accountable for their risky financial transactions rather than permitting risk-shifting to their insurance providers.  Besides bankruptcy clawbacks, this bill also forbids coverage for monetary penalties issued by the FDIC.

So can D&O policies even cover banks anymore?  Of course.  While these new Dodd-Frank regulations seem to hinder coverage at first, they may actually provide coverage opportunities.  Dodd-Frank legislation now requires companies to have insurance policies covering their executives’ compensation for at least three years before issuing a required accounting restatement, regardless of any actual or alleged financial misconduct.  See Dodd-Frank Act § 954; 15 U.S.C. § 78j-4.  Insurance companies have been affected by accounting restatements before:  the 2002 Sarbanes-Oxley Act allowed the SEC to target bonuses given to executives upon a finding of misconduct or noncompliance with financial reporting regulations.  While it would have been prudent for financial institutions to seek coverage for these matters, legislation now mandates that these companies maintain insurance; however, their employees cannot seek this coverage if H.R. 5860 passes.  It will be interesting to watch how this encompassing financial reform bill will define and regulate coverage in the financial industry.