Insured Versus Insured Exclusion Bars Coverage for Claim by Liquidating Trust

The United States Court of Appeals for the Sixth Circuit, applying Michigan law, has held that an insured vs. insured exclusion bars coverage for a claim against an insured company’s former officers assigned during bankruptcy to a liquidating trust. Indian Harbor Ins. Co. v. Zucker, 2017 WL 2641085 (6th Cir. June 20, 2017).

The insured, a holding company, owned community banks in seventeen states.  The company filed for Chapter 11 bankruptcy.  As part of its bankruptcy plan, the company, as debtor in possession, assigned all of its causes of action to a liquidating trust, which in turn asserted a claim against former company officers for mismanagement.  The company’s D&O insurer denied coverage based on exclusion for “any claim made against an Insured Person … by, on behalf of, or in the name or right of, the Company.”  Coverage litigation ensued, and the district court ruled for the insurer.

On appeal, the Sixth Circuit affirmed the judgment in favor of the insurer.  The court rejected the insureds’ argument that the insured vs. insured exclusion referred to “the Company” only in its pre-bankruptcy form, ruling instead that the company’s voluntary transfer of the claim through the bankruptcy process did not render the exclusion inapplicable.  The court noted that the insureds’ argument “would not make sense” in light of the “Change in Control” clause in the policy, which provided that coverage would continue even during bankruptcy of the Company.  While recognizing that the debtor in possession and the pre-bankruptcy debtor were legally distinct entities for bankruptcy purposes, the court determined that they should not be treated differently for purposes of applying the insured vs. insured exclusion.

One judge dissented, opining that the exclusion should not apply to claims brought by any bankruptcy trustee, including a liquidating trustee, because such entities are legally distinct from the pre-bankruptcy company.