SEC Consent Order Does Not Trigger Dishonesty Exclusion Where Insured Does Not Admit Guilt; Loss May Be Uninsurable by Law

A New York state intermediate appellate court has held that SEC administrative orders and related settlements do not trigger the final adjudication language in a policy’s dishonesty exclusion because the orders expressly stated that the insured did not admit any of the alleged wrongdoing.  J.P. Morgan Securities Inc. v. Vigilant Ins. Co., 2015 WL 175512 (N.Y. App. Div. Jan. 15, 2015).  The court also held that the insurers could pursue their defense of a public policy prohibition on insurance coverage for amounts paid by the insured as a result of intentional harm caused to others.

The Securities Exchange Commission (SEC) and other regulatory entities investigated a broker-dealer and a clearing firm for alleged late trading and deceptive market timing on behalf of certain mutual fund customers.  The insured ultimately settled with the SEC and agreed to pay $160 million as “disgorgement” and $90 million as a civil penalty “solely for the purpose of these proceedings” and “without admitting or denying findings.”  The insured also agreed to a series of findings by the New York Stock Exchange and paid $14 million to settle related civil class action lawsuits.

The insured sought coverage for the settlements under its professional liability insurance.  The insurers denied coverage on several bases, including the application of a dishonesty exclusion, which barred coverage if a “judgment or other final adjudication thereof adverse to such Inured shall establish that such Insured was guilty of any deliberate, dishonest, fraudulent or criminal act or omission.”  The insurers argued that the administrative orders contained a series of detailed “findings” that constitute a final adjudication of the insured’s wrongdoing, which triggers the exclusion.

The court disagreed with the insurers, ruling that the settlement orders did not “establish” any wrongdoing by the insured because they expressly provide that the insured is not admitting or denying the “findings” set forth in the orders.  As such, the court held, the dishonesty exclusion was not triggered.

The insurers also asserted an affirmative defense that public policy prohibits insurance coverage for amounts paid by the insured as a result of intentional harm caused by the insured.  The insured argued that the absence of an adjudication of wrongdoing bars the insurers from relying on the settlement orders for purposes of their public policy defense.  The court disagreed with the insured, holding that the court’s strong interest in enforcing public policy permits the use of the settlement orders to establish a public policy defense against insuring intentional wrongdoing, even though the orders did not establish intentional misconduct sufficient to trigger the dishonesty exclusion.

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