Failure to Provide Notice of Related Suit and Exclusion for Insufficiency of Escrow Funds Preclude Coverage for Title and Escrow Company

An Oklahoma federal district court has held that an insurer properly denied coverage for a lawsuit because notice to the insurer of an earlier suit seeking temporary injunctive relief did not also qualify as notice of the later suit involving the same conduct and seeking damages. Thames v. Evanston Ins. Co., 2015 WL 7272214 (N.D. Okla. Nov. 17, 2015). As an alternative basis for its decision, the court applied an exclusion for claims arising out of the “insufficiency in the amount of escrow funds” notwithstanding that the underlying claim also alleged that non-excluded events contributed to the loss.

A customer retained an insured title and escrow company to provide closing and escrow services for a real estate purchase. The first closing date could not be met, and closing was initially delayed, because the company never prepared certain documents. Later, the company informed the customer that the funds in his account were insufficient to cover the purchase price. Shortly thereafter, the customer sued the company and its sole officer and director, seeking temporary injunctive relief in connection with the funds in his escrow account. The company and its director noticed the claim under the company’s professional liability policy, and their attorney advised the insurer of the possibility that the director “misallocated or stole the escrow funds.” The insurer denied coverage for that claim. Subsequently, in a separate action, the customer initiated a second lawsuit against the insureds, but notice of that lawsuit was never provided to the insurer. The insureds eventually negotiated a confessed judgment against the claimant, who in turn brought suit to garnish the insurer’s policy.

Following a bench trial, the court entered judgment in favor of the insurer. First, the court ruled that the insureds’ failure to provide notice of the second lawsuit precluded coverage. In so doing, the court rejected the customer’s argument that notice of the initial action for injunctive relief served as notice of the later suit because the two matters arose out of the same or similar facts, and because the insurer could have discovered the second lawsuit had it conducted a reasonable investigation. Instead, the court noted that the policy’s reporting provision required notice of “every demand, notice, summons or other process,” which did not occur here. The court also rejected the customer’s argument that providing notice would have been “useless,” given the insurer’s coverage position, ruling instead that “proper claim reporting and notice of every suit is a condition precedent to coverage under the policy.”

As an alternative basis for its decision, the court applied an exclusion for claims “based upon or arising out of any conversion, misappropriation, commingling, defalcation, theft, disappearance, [or] insufficiency in the amount of escrow funds….” As a threshold matter, the court ruled that the phrase “arising out of” necessitated a broad reading, requiring only “but-for” causation, in that it only requires “some causal connection between the excluded events listed” and the loss. Here, the court noted that but for the insufficiency in the amount of escrow funds, the transaction would have closed and the customer would not have initiated suit. The court also ruled that the judgment arose from the misappropriation of the escrow funds, and thus that an alternative prong of the exclusion applied, noting the evidence before the court in support of that conclusion. Finally, the court rejected the customer’s argument against application of the exclusion because he would have never had a claim had the insureds not initially failed to prepare the necessary closing documents. Instead, the court observed that there would have been no claim had it not been for the insufficiency of escrow funds, and under those facts (and the “but for” test applicable to “arising out of” language), the exclusion plainly applied.