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The U.S. Court of Appeals for the Ninth Circuit has reversed a district court's decision that a letter demanding payment of promissory notes was a claim asserting wrongful conduct by the insureds.

The Case

Scott G. Kelly and John T. DeWald (together, the “plaintiffs”) operated a real estate investment and development firm that created numerous subsidiary entities to manage projects, assets, and liabilities. One of their investors, Kenneth Brehnan, loaned the plaintiffs' companies approximately $359,875 and received promissory notes in exchange.

On August 12, 2010, Mr. Brehnan emailed the plaintiffs a demand letter (the “Brehnan Demand”) in which he provided “a reminder of Notes that are due” and said the following: “I expect all of these Notes to be paid off at [the] beginning of September 2010. . . . I would like to try not to proceed with legal remedy . . . as being recommended by my legal team. . . .”

Mr. Brehnan did not allege or assert misconduct by the plaintiffs as directors and officers of their companies.

In May 2011, Mr. DeWald applied for a claims-made directors and officers insurance policy with Starr Indemnity & Liability Company; Starr issued the policy effective May 11, 2011 to May 11, 2012.

In November 2011, Mr. Brehnan's attorney sent a more detailed demand letter and warned that Mr. Brehnan might bring claims of “breach of contract, breach of fiduciary duties, fraud, and securities fraud” against the plaintiffs.

The plaintiffs contacted Starr to obtain a defense.

Starr, which at that time did not know of the Brehnan Demand, agreed to defend the claim subject to a reservation of rights while it investigated.

In April 2012, Mr. Brehnan provided the plaintiffs with a draft complaint. In August 2012, he formally filed suit. Both complaints specifically mentioned the Brehnan Demand.

After reviewing the April draft complaint, Starr disclaimed coverage, a position it reaffirmed after reviewing the finalized complaint that was filed in August.

The plaintiffs settled with Mr. Brehnan for $350,000 and subsequently sued Starr, alleging breach of contract and negligence and claiming that Starr had a duty to defend them against the Brehnan action.

The U.S. District Court for the Southern District of California granted summary judgment in favor of Starr, finding that the Brehnan Demand was a claim first made prior to inception of the Starr insurance policy and, therefore, that Starr had no duty to defend or indemnify the claim.

The plaintiffs appealed to the Ninth Circuit.

The Starr Policy

The Starr insurance policy provided indemnification for losses:

arising from a Claim first made during the Policy Period . . . against such Insured Person for any Wrongful Act. . . .

The policy defined “wrongful act” as:

any actual or alleged act, error, omission, neglect, breach of duty, breach of trust, misstatement, or misleading statement by [the plaintiffs].

The Ninth Circuit's Decision

The Ninth Circuit reversed the district court's grant of summary judgment to Starr.

In its decision, the circuit court ruled that the district court had erred in concluding that the Brehnan Demand constituted a claim made for a wrongful act.

Rather, the circuit court reasoned, Mr. Brehnan had demanded money owed pursuant to contracts with the plaintiffs' companies, which “at most” established a question of fact whether the claim was covered by the Starr policy.

The circuit court concluded that because it was unclear whether the Brehnan Demand constituted a claim covered by the Starr policy, it could not rule that Mr. DeWald had made a material misrepresentation when he failed to disclose it in the application despite being asked about circumstances that might lead to potential claims.

The case is Kelly v. Starr Indemnity and Liability Co., No. 17-56334 (9th Cir. April 29, 2019).

Steven A. Meyerowitz, a Harvard Law School graduate, is the founder and president of Meyerowitz Communications Inc., a law firm marketing communications consulting company. Mr. Meyerowitz is the Director of the Insurance Coverage Law Center and editor-in-chief of journals on insurance law, banking law, bankruptcy law, energy law, government contracting law, and privacy and cybersecurity law, among other subjects. He may be contacted at smeyerowitz@meyerowitzcommunications.com.