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Vol. 3, Iss. 15
November 5, 2014

Must Read Voluntary Payments Case:
Could Severely Limit The Defense (And A Possible Cyber Angle)

It is not often that you see the words must read and voluntary payments in the same sentence. Not to say that voluntary payments is not an important issue; but the cases are generally on the dull side, not to mention usually being fact specific. For these reasons, voluntary payments cases usually do not make the cut for Coverage Opinions. But the Western District of Pennsylvania’s decision in First Commonwealth Bank v. St. Paul Mercury Insurance Co., No. 14-19 (W.D. Pa. Oct. 6, 2014) easily found a place in this issue.

First Commonwealth starts off with interesting facts. On August 31, 2012, one of First Commonwealth’s clients was “the victim of malware (i.e. malicious software) that allowed an unknown third party to access the [client’s computer] systems.” This enabled access to the Senior Vice President’s on-line banking user name and password for the client’s bank accounts with First Commonwealth. To make a long story short, an unknown third party initiated unauthorized wire transfers to banks in Russia and Belarus to the tune of $3,508,500. The fraudulent wire transfers were determined a few days later. A couple of days after that, First Commonwealth’s client made several demands to the bank to immediately refund/credit the substantial funds that had been withdrawn due to the Russian and Belarusian wires. The bank, using its own funds, did just that.

In short order, First Commonwealth notified St. Paul Mercury Insurance of the loss and sought recovery of the funds under a certain liability policy. St. Paul Mercury, however, refused to provide coverage on the basis that, by refunding the money to its client, without the insurer’s prior consent, the insurer was relieved of its obligations under the terms of its policy. Coverage litigation ensued.

St. Paul Mercury’s argument was that the bank’s voluntary reimbursement of the unauthorized wire transfers constituted a breach of the policy’s Defense and Settlement provision: “[t]he Insureds agree not to settle or offer to settle any Claim, incur any Defense Costs or otherwise assume any contractual obligation, admit any liability, voluntarily make any payment or confess or otherwise agree to any Damages or judgments with respect to any Claim covered by this Policy without the Insurer’s written consent, which shall not be unreasonably withheld. The Insurer shall not be liable for any settlement, Defense Costs, assumed obligation, admitted liability, voluntary payment, or confessed or agreed Damages or judgment to which it has not consented.”

The court rejected St. Paul Mercury’s argument – holding that the bank’s payment was, in fact, not voluntary. The court based its decision on the existence of a Pennsylvania statute that required the bank, by law, to refund the fraudulent wires. Further, the court rejected the insurer’s argument that it was deprived of its right, under the policy, to defend the claim against the bank. “The fact that Defendant has the right to defend claims brought against Plaintiffs and that Plaintiffs may demand that Defendant provide that defense, however, is not dispositive of whether Plaintiffs’ payment to their client was voluntary.”

Lastly, in one fell swoop, the court rejected, as distinguishable, the voluntary payments cases cited by the insurer: “These cases merely stand for the proposition that voluntary payment provisions in liability policies are enforceable and that when an insured takes it upon itself to settle a claim without notifying the insurer, the insurer is no longer liable under the terms of the insurance policy. None of these cases, however, involve a bank’s legal and statutory obligation to refund a client when an unauthorized wire transfer has been made or any other situation where the insured’s act of paying a claim was compelled by law or other outside influences. As such, the cases cited by Defendant do not provide the basis for finding that the payment made by Plaintiffs in this case was voluntary.”

Procedurally, First Commonwealth Bank v. St. Paul Mercury involved a denial of a motion to dismiss. And it is an unpublished federal district court decision. Nonetheless, if followed by other courts, the decision could have significant consequences on insurers’ ability to assert a voluntary payments defense. Even if there is something special about the Pennsylvania banking statute that compelled the result here, the court’s decision spoke in more sweeping terms: any situation “where the insured’s act of paying a claim was compelled by law or other outside influences” would make it non-voluntary. It seems that it would not be difficult for policyholders to come up with reasons why their payments made, in various scenarios, prior to giving notice to their insurers, were compelled by law or some other outside influence.

Indeed, it didn’t take long for one policyholder firm to see this point. Connecticut’s Saxe Doernberger & Vita, P.C. made this argument in an October 24th Case Alert (SD&V does a great job with its e-mail Case Alerts I should add): “This holding is especially relevant for policyholders seeking coverage for payments made to notify potential claimants in a data breach or cyber-related incident. State and federal statutes requiring notice be given to affected individuals leave insureds no choice but to incur costs to inform the public when personal information has been compromised. Although policyholders should always strive to give prompt and complete notice to avoid this issue, First Commonwealth addresses an important issue facing insureds in fields that are increasingly affected by the need for immediate and costly response measures. Based on First Commonwealth, voluntary payment provisions may not be a valid basis for an insurer to deny coverage where an insured incurs notification costs prior to notifying its insurer of the payments.”

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