Insurer Did Not Breach Any Duty to Insured Where Payment of Defense Costs Exhausted Policy Limit

The United States District Court for the Western District of New York, applying New York law, held that an insurer did not owe a fiduciary duty to its insured when the insured was represented by independent defense counsel, nor did the insurer breach its contractual duties to its insured in paying defense costs, which ultimately exhausted the policy limit.  Korn v. Federal Ins. Co., 2019 WL 4277187 (W.D.N.Y. Sept 10, 2019).

A sole owner of nursing homes and elder care facilities was indicted on charges of wire fraud and making false statements to the FBI and IRS.  The owner’s directors and officers insurer provided a defense in the criminal proceeding, subject to a reservation of rights.  The insurer determined that non-panel counsel should be retained and provided several recommendations for defense counsel to the individual, one of whom was retained.  The insurer advised the individual at the outset that payment of defense costs would likely entirely erode the policy limit and advised the insured on several occasions of the status of the policy’s erosion.  The criminal proceeding was pending for six years, and payment of defense costs fully eroded the policy’s limit well before its conclusion.

The owner filed a coverage action for breach of fiduciary duty, breach of contract, and breach of the implied covenant of good faith and fair dealing.  The court granted the insurer’s motion for summary judgment on all counts.

First, the court rejected the owner’s claim that the insurer was liable for breach of fiduciary duty on the grounds that New York law generally does not recognize a fiduciary duty or vicarious liability on the part of an insurer premised upon the acts of outside defense counsel retained for an insured’s defense.  The court confirmed that this case did not present exceptional circumstances where such a duty would be recognized.

Second, the court rejected the owner’s claim that the insurer breached its contractual duties by failing to ensure that his defense in the criminal proceeding progressed at a proper rate to reach resolution before exhaustion of the policy limit, failing to file its internal guidelines, and failing to appropriately staff his defense team.  The court held that the policy failed to set forth any of the claimed obligations, and therefore the breach of contract claim failed as a matter of law.

Third, the court held that the owner’s claim for breach of the implied covenant of good faith and fair dealing failed as a matter of law because New York law does not recognize a separate cause of action on that basis when a breach of contract claim based on the same facts is also pled.

Finally, the court held that the owner’s claim for emotional and mental distress failed as a matter of law where he did not establish a breach of contract, nor any legal duty independent of the policy, and did not proffer admissible evidence of bad faith.