Blowing the Whistle on Willful Misconduct: California Court holds that False Claims Act Suits Are Uninsurable Due to Public Policy

by Carlton Fields
Contact

lombard street san francisco

Willful misconduct is uninsurable. It is a fundamental principle of insurance, and it makes sense to both the lay and the lawyerly.  But few states go as far as to codify this principle in the insurance code. California is an exception.

In Office Depot, Inc. v. AIG Specialty Insurance Company, Case No. 15-02416-SVW-LPRx (C.D. Cal. Jan. 4, 2017), the U.S. District Court for the Central District of California held that Section 533 of California’s Insurance Code relieved AIG Specialty Insurance Company from any obligation to reimburse $77.5 million in indemnity and $15 million in defense expenses incurred by Office Depot due to a False Claims Act suit.

AIG provided Office Depot with $15 million in coverage under the multimedia module of its liability insurance policy. A whistleblower named David Sherwin filed a qui tam lawsuit against Office Depot on behalf of more than 1,000 California state and local government entities (The “Whistleblower Suit”). The Whistleblower Suit asserted a single count under the California False Claims Act (“CFCA”) and alleged that Office Depot employed a “variety of underhanded pricing practices” to defraud California public entities out of tens of millions of dollars.

Office Depot filed a claim with AIG seeking defense and indemnification under the multimedia module. AIG denied coverage and asserted that (1) the Whistleblower Suit did not involve allegations related to media liability; (2) the Whistleblower Suit was barred by numerous exclusions, including but not limited to the contractual liability exclusion, the prior acts exclusion, the price warranty exclusion, and the false advertising exclusion; and (3) the first alleged wrongful act did not occur during either policy period.

Office Depot ultimately settled the Whistleblower Suit by paying $77.5 million.  On April 2, 2015, Office Depot sued AIG seeking reimbursement for the full amount it paid to settle the Whistleblower Suit and for defense expenses. Office Depot also alleged that AIG violated the implied covenant of good faith and fair dealing.

In May 2015, AIG moved to dismiss Office Depot’s indemnity claim based on Section 533 of the California Insurance Code, which states that “an insurer is not liable for a loss caused by the willful act of the insured.” Office Depot, in turn, asserted that Section 533 did not apply to the CFCA. Specifically, Office Depot argued that a party may be liable under the CFCA for “reckless” misrepresentations, and Section 533 does not bar the indemnification of reckless conduct. The Court rejected Office Depot’s arguments and dismissed its indemnity claim with prejudice. Among other things, the Court held that a CFCA claim requires “the intent to induce reliance”—i.e. an intent that the government pays the claim—and thus was more akin to negligent misrepresentation than purely reckless conduct, where the result is not intended by the act. The Court also abated Office Depot’s claim for bad faith pending the disposition of its duty to defend claim.

The parties filed competing motions for summary judgment regarding AIG’s duty to defend. AIG argued that Section 533 precluded the duty to defend for two reasons. First, AIG asserted there was no potential for indemnity coverage based on the Court’s prior Order. Because the duty to defend only arises from the potential for indemnity coverage, and the Whistleblower Suit created no potential for indemnity coverage, there was no duty to defend.  Second, AIG argued that Office Depot had no reasonable expectation of a defense for uninsurable conduct because the policy did not contain any express promise to either (1) cover False Claims Act suits; or (2) defend against allegations of uninsurable conduct.  For its part, Office Depot reargued that Section 533 did not apply to the CFCA and asserted that it had a reasonable expectation of the defense under the multimedia module’s general insuring agreement.

The Court agreed with AIG and found no duty to defend. In holding that there was no potential for coverage, the Court said that “though specific intent of fraud is not required, any person who ‘burie[s] his head in the sand and fail[s] to make simple inquires which would alert him that false claims are being submitted’, certainly expects the harm to occur. This is intentionally harmful conduct.” Further, the Court held that Office Depot had no reasonable expectation of a defense. While Office Depot relied on the general coverage grant, the Court noted there was no specific promise to defend CFCA claims or willful conduct. “General liability clauses,” the Court held, “are not enough.”

Accordingly, the Court held that Section 533 relieved AIG of any obligation to reimburse the approximately $15 million in defense costs incurred by Office Depot. The Court’s Order did not reach AIG’s arguments under the policy’s insuring agreement and exclusions, which AIG asserted independently barred coverage.

This decision reaffirms the strength of Section 533 of the California Insurance Code. Even if the only connection between an insurance policy and California is—as here—the events of the underlying lawsuit, insurers and policyholders must be aware of the potential applicability of Section 533 to allegedly willful conduct.

Image source: By The original uploader was Ramgeis at German Wikipedia [GFDL (http://www.gnu.org/copyleft/fdl.html) via Wikimedia Commons

Written by:

Carlton Fields
Contact
more
less

Carlton Fields on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.