An Illinois intermediate appellate court has held that excess insurance policies requiring “actual payment” by an underlying insurer for exhaustion purposes were not triggered where the insurer “pledged” its policy as collateral and agreed to advance defense costs until its policy was exhausted but did not make “actual payment” in legal currency. Ritchie v. Arch Specialty Ins. Co., 2017 IL App (1st) 160413-U (Ill. App. Ct. Mar. 31, 2017).

The insureds operated a hedge fund, which collapsed in 2006.  Shortly thereafter, the insureds were sued for, among other things, rescission, fraud, breach of fiduciary duty, and violation of state securities laws, and they were ultimately found liable for certain claims.  After a primary insurer exhausted its policy limit in paying defense costs, a judgment was entered against the insureds.  The first-layer excess insurer agreed to advance defense costs for an appeal and to file its policy in lieu of an appeal bond to stay execution of the judgment, but the claimants still sought to execute the judgment because the first-layer excess insurer’s remaining limits were not sufficient to satisfy their judgment.  To avoid execution, the insureds sought to require the second- and third-layer excess insurers to post collateral for an appeal bond, but they refused.  Coverage litigation ensued.  In ruling in favor of the insureds, the trial court rejected a “strict reading” of the excess policies’ exhaustion language and concluded that the first-layer excess insurer’s “pledge” of its policy as collateral for an appeal bond was sufficient to trigger exhaustion.

On appeal, the court reversed, holding that the second- and third-layer excess insurers had no duty to post collateral for the appellate bond because the insureds could not show that the first-layer excess policy was exhausted.  In so ruling, the court found the exhaustion language – which provided for exhaustion “solely as a result of actual payment in legal currency” in one policy and “solely as the result of actual payment of losses thereunder by the applicable insurers” in another – to be unambiguous and to require “actual payment,” which did not occur here.  The court rejected the assertion that a “Defense Expenses” provision in the primary policy, to which the excess policies followed form, rendered the exhaustion language ambiguous.  In addition, the court rejected the insureds’ argument that “notice” to an excess insurer that an underlying insurer “agreed to pay” its limits for an ongoing suit constituted exhaustion sufficient to trigger excess insurer defense cost obligations, noting that the excess policies at issue, unlike other authority upon which the insureds relied, required “actual payment.”