Persnickety Judge Points out that Grammatically Correct Answer on Application Should not Void Insurance Yet Fails to Carry the Day
Rescission is an equitably remedy allowing an insurer to void an insurance policy from its inception if the person insured misrepresents or conceals a fact material to the insurer’s decision to insure or not insure the insured. In Western World Insurance Company, v. Professional Collection Consultants, No. 16-55470, United States Court Of Appeals For The Ninth Circuit, (January 2, 2018) dealt with the rescission of Professional Collection Consultants policy that was approved by the District Court even though the challenged application answer was grammatically correct it deceived the insurer.
In August 2013, FBI agents executed a search warrant at the offices of Professional Collection Consultants (“PCC”). Over the next several months, investigators subpoenaed several PCC employees and PCC produced thousands of documents. In February 2014, PCC applied for directors and officers liability insurance from Western World Insurance Co. (“Western”), and Western issued PCC a policy. PCC had submitted (and Western accepted) a CNA insurance renewal application form, even though Western is not a CNA Company and PCC was not renewing a Western policy. In 2015, Western moved to rescind the policy on the basis that PCC made a material misrepresentation in its application. The disputed question read: “None of the individuals to be insured under any Coverage Part (the ‘Insured Persons’) have a basis to believe that any wrongful act, event, matter, fact, circumstance, situation, or transaction, might reasonably be expected to result in or be the basis of a future claim?”
PCC marked “No.”
The district court granted Western’s summary judgment motion for rescission.
PCC’s answer was found to be a material misrepresentation because PCC was aware of existing circumstances – the federal investigation – that could lead to a claim covered by the policy.
Under California law, a party may rescind an insurance contract if the other party made representations “false in a material point.” [California Insurance Code § 359.] “Materiality is determined solely by the probable and reasonable effect which truthful answers would have had upon the insurer.” Thompson v. Occidental Life Ins. Co., 513 P.2d 353, 360 (Cal. 1973); see also Cal. Ins. Code §§ 334, 360. The materiality inquiry is a “subjective test viewed from the insurer’s perspective.” Superior Dispatch, Inc. v. Ins. Corp. of N.Y., 104 Cal. Rptr. 3d 508, 520 (Ct. App. 2010). “[R]escission effectively renders the policy totally unenforceable from the outset so that there was never any coverage and no benefits are payable.” [Imperial Cas. & Indem. Co. v. Sogomonian, 243 Cal. Rptr. 639, 645 (Ct. App. 1988); accord U.S. Fid. & Guar. Co. v. Lee Invs. LLC, 641 F.3d 1126, 1136 (9th Cir. 2011).
PCC contended that it did not misrepresent the truth because, if the application question is read literally, PCC’s “no” answer informed Western that PCC was aware of circumstances that could lead to a claim. However, the form instructions stated that a “yes” answer would require applicants to provide “detailed information” about their answer and could precipitate “substantially different terms and conditions.” PCC provided no additional information to explain its answer. Given that context the court of appeal concluded that Western reasonably understood PCC’s answer to mean PCC was not aware of any circumstances that could lead to a claim.
The policy covered claims arising from a civil, regulatory, criminal, or administrative proceeding or investigation against PCC or any of the individual insureds. Although PCC claims it thought the federal investigation was over before PCC completed the application, the only reasonable conclusion is that the federal criminal investigation, even if closed or on hold, nonetheless might lead to a claim under the policy.
PCC also contended its answer was immaterial because the question was required only for applicants who, unlike PCC, sought increased policy limits. Specific demand for information is, however, in itself usually sufficient to establish materiality, but not necessary. Put simply, a misrepresentation is material when it regards the nature of the risk to be insured. PCC was not entitled to misrepresent the truth about the investigation simply because Western did not ask a specific question.
Moreover, Western’s senior underwriting executive stated in a declaration that “Western World would not have issued the policy to PCC had it known of the ongoing federal criminal investigation.” Although the factfinder “is not required to believe the “post mortem” testimony of an insurer’s agents courts will accept an insurer’s uncontradicted declaration as proof of materiality at the summary judgment stage. Western therefore carried its burden of showing materiality as a matter of law. The judgment was affirmed.
However, Judge Berzon dissented contending that as a matter of English grammar, the answer checked – “No” – was accurate. “No” signified that it was not true that none of the Insured Persons had reason to expect a claim – in other words, that some Insured Persons did have reason to expect a claim.
Judge Berzon stated that “But for my persnicketiness regarding the English language, I would concur in the majority disposition. However, as the answer was literally correct, there was no misrepresentation, and PCC should prevail.”
Judge Berzon is not persnickety. Rather he points out that Western World was quite lucky in having the judgment affirmed and reminded it to only use applications it writes itself so that accurate responses could be obtained and litigation like this one can be avoided. English is a difficult language. Applications should only ask questions where a “no” answer means “no” and not “yes.” The majority of the court based its decision on the fact that the insured knew of the potential claim and should have disclosed that fact to the insurer whether asked or not and should not take advantage of the poorly worded application question.
© 2017 – Barry Zalma
This article, and all of the blog posts on this site, digests and summarizes cases published by courts of the various states and the United States. The court decisions have been modified from the actual language of the court decisions, were condensed for ease of reading, and convey the opinions of the author regarding each case.
Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 50 years in the insurance business. He is available at http://www.zalma.com and firstname.lastname@example.org.
Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.
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