Insured-Versus-Insured Exclusion Bars Coverage for Underlying Lawsuit Brought by Both Insured and Non-Insured Plaintiffs

The United States Court of Appeals for the Sixth Circuit, applying Kentucky law, has held that the insured-versus-insured exclusion in a directors and officers liability policy precluded coverage for an underlying litigation even though one of the plaintiffs was not an insured under the policy.  Tarter v. Navigators Ins. Co., 2021 WL 4950375 (6th Cir. Oct. 25, 2021).

The insured entity, a farm equipment manufacturer, was owned by two brothers and their respective families.  One of the brother’s sons formed a shell company to facilitate the sale of supplies to the insured entity.  The other family members and a separate non-insured company filed a lawsuit against the son and the shell company, alleging that the shell company had both sold the goods at grossly inflated prices and also embezzled trade secrets from the insured entity.  The son tendered the lawsuit for coverage under the insured entity’s directors’ and officers’ liability policy.  The insurer denied coverage based on the policy’s insured-versus-insured exclusion, which precluded coverage for any “Claim made against any Insured . . . by or on behalf of any Insured or any security holder of the Company; provided, however, that this exclusion shall not apply to any claim . . . brought by any security holder of the Company, whether directly or derivatively, if the security holder bringing such Claim is acting totally independently of, and without the solicitation, assistance, active participation or intervention of, the Company or any Insured Person.”  Because the other family members (and insured parties) had commenced a civil proceeding against the son (another insured party), the insurer concluded it had no duty to defend the son even though a non-insured company was also a named plaintiff.

The son filed suit against the insurer for breach of contract, arguing that the exclusion did not apply because of the presence of a non-insured named plaintiff in the underlying litigation.  Rather, the son maintained that the policy’s allocation provision required the insurer to provide him with a defense.  The insurer filed a motion to dismiss, which the district court granted.

On appeal, the Sixth Circuit affirmed the district court’s ruling and held that the insured-versus-insured exclusion precluded coverage for the underlying litigation, notwithstanding the fact that the lawsuit was brought by both insured and non-insured plaintiffs.  Adopting the reasoning of a similar case decided by the United States Court of Appeals for the Eighth Circuit, the court concluded that there was no room under the language of the exclusion to apply the exclusion to some parts of the lawsuit but not others.  The court further rejected the son’s interpretation of the allocation provision, finding that the allocation provision was not intended to restore coverage for any part of the lawsuit and that such an interpretation would render the assistance clause of the exclusion superfluous.

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