Policy Exclusions Bar Coverage For Banks Sued By Investors Who Lost Funds In Madoff Ponzi Scheme

On June 24, 2014, the First Department issued a decision in Associated Community Bancorp, Inc. v. St. Paul Mercury Ins. Co., 2014 NY Slip Op. 04697, affirming the dismissal of insurance coverage claims by banks that were sued by customers who suffered losses as a result of investments in Bernard L. Madoff Investment Securities through custodial accounts managed by the banks.

In Associated Community Bancorp, the First Department found that several exclusions to the plaintiff banks' "Bankers Professional Liability Insuring Agreements" barred coverage, including (1) an exclusion for claims arising from a loss of "money, securities, property or other items of value" in the possession of the bank, and (2) an exclusion for claims arising from the "insolvency" of any "investment company, investment bank or [] broker dealer":

The Loss of Money Exclusion bars coverage for claims for "the actual loss of money, securities, property or other items of value in the custody or control of [the bank]." Contrary to plaintiffs' contention, the investors' allegation that the money in their accounts with Bernard L. Madoff Investment Securities (BLMIS) was stolen, unlawfully retained, or misappropriated is a claim for an actual loss of money (see Blenzak Black, LLC v Allied World Natl. Assur. Co., 2012 WL 1365973, *2-3 [NJ Super Ct App Div 2012]). Moreover, "[a]n insurance policy is not illusory if it provides coverage for some acts; it is not illusory simply because of a potentially wide exclusion'" (ACE Capital Ltd. v Morgan Waldon Ins. Mgt., LLC, 832 F. Supp. 2d 554, 572 [WD Pa 2011]). The subject policies provide a broad range of coverage for liability that may arise in connection with plaintiffs' provision of ordinary banking services.

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The Insolvency Exclusion bars coverage for loss "based upon, arising out of, or attributable to the insolvency . . . of . . . any . . . investment company, investment bank, or any broker or dealer in securities or commodities." Insolvency exclusions have been held to apply despite the fact that the underlying claims are made against parties that are "independent of the insolvent entity" (Coregis Ins. Co. v American Health Found., Inc., 241 F3d 123, 130-131 [2d Cir 2001]). Further, the courts of Connecticut (whose law applies to this action) have interpreted broadly the term "arising out of" in insurance policies (see Board of Educ. of the City of Bridgeport v St. Paul Fire & Marine Ins. Co., 801 A2d 752, 758 [Conn 2002]). The investors' claims certainly are "connected with," "had [their] origins in," "grew out of," "flowed from" or "[were] incident to" Madoff's Ponzi scheme and the insolvency of BLMIS (see id. [internal quotation marks omitted]). Thus, the Insolvency Exclusion bars coverage for those claims.

This decision illustrates that exclusions from coverage in an insurance policy that are not ambiguous will be enforced as written, even when they sharply limit the scope of coverage.