Lack of Prior Knowledge of Claim a Condition Precedent to Coverage

The United States District Court for the District of West Virginia, applying West Virginia law, has held that lack of prior knowledge of a claim constitutes a condition precedent to coverage under an accountant’s professional liability policy.  Camico Mutual Ins. Co. v. Hess, Stewart & Campbell P.L.L.C., 2017 WL 926770 (S.D. W. Va. Mar. 8, 2017).  In so holding, the court found that the insurer was not estopped from declining coverage based on an insured’s prior knowledge of a claim despite issuance of a prior reservation of rights letter that only reserved the insurer’s right to raise “all policy provisions and defenses.”

The named insured, an accounting firm, discovered that one of its employees misappropriated assets from client accounts, resulting in multiple claims against the firm.  The firm’s professional liability insurance policy contained a provision in the insuring agreement stating that no coverage exists for a claim arising from circumstances, which prior to the effective date of the policy, any insured might reasonably expect would be a basis for a claim.  The policy also contained an endorsement providing limited coverage up to $100,000 for certain “known claims” by insureds.  The firm tendered the claims for coverage under the professional liability policy, and the insurer issued several reservation of rights letters agreeing to provide coverage subject to a $100,000 sublimit, but incorrectly referred to the sublimit as applicable to claims arising from “misappropriation, misuse, theft, or embezzlement of funds” instead of “known claims.”  The insurer also reserved all rights pursuant to “all policy provisions and defenses.”

The insurer ultimately filed a declaratory judgment action seeking a declaration that it had no obligations beyond the $100,000 sublimit, arguing that the firm had failed to fulfill a condition precedent to coverage because the former employee, an insured under the policy, was aware prior to the effective date of the policy that her activities might reasonably serve as the basis of a claim.  The firm argued that the insurer should be estopped from trying to limit coverage because the insurer failed to raise the prior knowledge condition in its reservation of rights letters.

The court granted summary judgment to the insurer.  First, the court found that under the terms of the insuring agreement, a lack of prior knowledge is “clearly a condition precedent to coverage,” which the firm had failed to satisfy.  In so holding, the court rejected the firm’s estoppel argument, determining that the firm could not demonstrate any detrimental reliance since the insurer was not seeking reimbursement of any of the funds already tendered.  In addition, the court found that although the insurer had already agreed to pay the $100,000 sublimit, the insurer properly reserved its right to raise “all policy provisions and defenses” in its prior reservation of rights letters.  The court noted that even though the insurer did not cite the $100,000 “known claims” sublimit in its reservation of rights letters, “the funds nevertheless were paid and are consistent with the [applicable] sublimit.”