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Federal Court Rejects Reinsurer's Argument That Excess Insurer's Liability Was Contingent Upon Exhaustion by Full Payment of the Underlying Policy Limit

by ~ Nicholas C. Cramb (Email) (Web Site)

In Lexington Ins. Co. v. Tokio Marine & Nichido Fire Ins. Co. Ltd., No. 11 Civ. 391, 2012 WL 1278005 (S.D.N.Y. March 28, 2012), the United States District Court for the Southern District of New York (Batts, J.) held that Lexingtonís excess coverage obligations, and thus the obligations of its reinsurer, Tokio Marine, were not contingent upon exhaustion by full payment of the underlying primary policy limit.

Lexingtonís insured, the Port Authority of New York and New Jersey, sustained over $1 billion of damage as a result of the September 11, 2001, terrorist attack on the World Trade Center Ā more than twice the total limits of its property insurance. In making a claim to recover some of that loss from its insurers, the Port Authority asserted that the attack constituted two occurrences.[1] The insurers initially paid only on a one-occurrence basis, however, limiting the Port Authorityís recovery. Coverage litigation ensued.

The Port Authorityís property insurance, so far as is relevant here, included a primary policy with a per-occurrence limit of $10 million issued by American Home and two excess policies issued by Lexington with: (i) a per occurrence limit of $11.5 million, which was part of a $40 million layer, excess of $10 million; and (ii) a per-occurrence limit of $9.5 million, which was part of a $50 million layer, excess of $50 million. Both of Lexingtonís excess policies were issued as part of a fronting arrangement with Tokio Marine, pursuant to which Tokio Marine agreed to fully (100%) reinsure Lexingtonís policies.

American Home and Lexington ultimately settled the coverage litigation with the Port Authority (concerning the second occurrence) for $11 million, allocated pro rata by limits among the American Home policy and the Lexington excess policies, with the Port Authority releasing all claims against American Home and Lexington.

Lexington billed Tokio Marine for its share of the amounts it paid toward each occurrence. Though Tokio Marine paid Lexingtonís claim for the amounts it paid toward the first occurrence in full, it rejected Lexingtonís bill for the settlement concerning the second occurrence. Tokio Marine asserted that, until the American Home policy limit was exhausted, Lexington (and, thus, Tokio Marine) had no coverage obligations.

Lexington filed suit and shortly thereafter moved for judgment on the pleadings. Lexington asserted that the law (in the Second Circuit) was well-settled: ďAn insured is entitled to coverage from an excess insurer even when the insured has not received payment from the primary insurer sufficient to exhaust the underlying primary limit, so long as the total loss exceeds the primary policy and ventures into the scope of the excess policy.Ē[2]

Tokio Marine argued that Lexington's policies were not triggered unless American Home actually paid its full primary limits. Because American Homeís $3.6 million settlement payment did not exhaust its $10 million limit, Tokio Marine argued, the remaining $6.4 million should be subtracted from the $7.4 million that Lexington paid under its excess policies before its indemnification obligation arose.

Both sides based their arguments on Zeig v. Mass. Bonding & Insurance Co., 23 F.2d 665 (2d Cir. 1928). Zeig involved an excess policy that required the primary insurance to be ďexhausted in the payment of claims to the full amount of the expressed limits.Ā The Zeig court considered whether it was ďnecessary for the plaintiff actually to collect the full amount of the policies ... in order to ĎexhaustĀ that insuranceĀ and found that the policy at issue did not require primary insurers to make full payment on the underlying policies. Instead, the court held that ďclaims are paid to the full amount of the policies, if they are settled and discharged, and the primary insurance is thereby exhausted.Ā The Zeig court also recognized that parties can include in their excess policy a condition requiring a primary insurer to pay the full limit of its policy before the excess coverage would be triggered. Such a condition, however, must be unambiguously stated in the policy.

Tokio Marine argued that its position was perfectly consistent with Zeig, which permitted recovery from the excess insurer ďif th[e] loss was greater than the amount of the expressed limits of the primary insurance." Tokio Marine claimed that the ďloss" was the $11 million settlement, not the total value of the damage sustained by the Port Authority. The court quickly dispensed with Tokio Marineís argument, noting that Zeig distinctly referred to ďloss" and ďcash settlement".

So long as the total loss experience by the insured exceeds the attachment point of the excess policy, the law, at least in the Second Circuit, does not require exhaustion of the full primary insurance policy limit to trigger the excess insurerís obligations, unless the excess policy states so explicitly. Because Lexingtonís policies contained no such requirement, the court held that Lexingtonís obligation to pay the Port Authority under its excess policies was not contingent upon exhaustion of the limits of the underlying primary insurance policy. The court thus granted Lexingtonís motion for judgment on the pleadings.

Although the District Courtís decision does not recite Lexingtonís policy language and thus is not instructive as to what language an excess insurer should include so as to create an unambiguous condition requiring the primary insurer to pay the full limit of its policy before the excess policy is triggered, it nevertheless stands for the proposition that, without such language, exhaustion of the primary policy by payment of its full limit is not required to trigger an excess insurerís obligations.

[1] In a separate case, World Trade Center tenants asserted a similar two-occurrence position in litigation with their property insurers. A jury ultimately determined that the two September 11 attacks constituted two separate occurrences, and the Second Circuit affirmed the lower courtís judgment.

[2] Lexington also argued that the settlement between the Port Authority, American Home and Lexington did, in fact, exhaust the American Home policy because, by the settlementís terms, the Port Authority forever released all claims against American Home and Lexington. The court found in favor of Lexington without reaching this argument.

Nicholas Cramb is an associate in Mintz Levinís Boston office. He can be reached at nccramb@mintz.com.

© 1994-2012 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All rights reserved.

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