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Sixth Circuit Holds “Insured-Versus-Insured” Exclusion Applies to Liquidating Trustees

The Sixth Circuit Court of Appeals recently held in a 2-1 decision that an “insured-versus-insured” exclusion found in a directors’ and officers’ liability insurance policy applied to a breach of fiduciary duty claim brought by a liquidating trustee against a debtor company’s former officers and directors. In Indian Harbor Insurance Company v. Zucker, 2017 U.S. App. LEXIS 10821 (6th Cir. June 20, 2017), “Capitol Bancorp went bankrupt. After negotiations between Capitol’s officers and the company’s creditors during the bankruptcy process, Capitol created a Liquidating Trust to pursue the estate’s legal claims.” The liquidating plan permitted the liquidating trustee to sue Capitol’s former officers; however, the plan limited any recovery on claims arising from pre-petition conduct to amounts recovered under Capitol’s liability insurance policy. The trust subsequently sued Capitol’s officers for $18.8 million for breaches of fiduciary duties. At the same time, Capitol’s insurance company filed a declaratory action seeking a judgment that the trustee’s lawsuit fell within the “insured-versus-insured” exclusion under the insurance policy. If applicable, the exclusion would prevent the trustee from recovering from the insurance company in the event a judgment were rendered against the officers. In holding that the exclusion applied to the trustee’s lawsuit, the Sixth Circuit noted that “the terms of the contract are a good place to start.” Under the contract, the exclusion applied to claims “by, on behalf of, or in the name or right of, the Company or any Insured Person” against an Insured Person. The court noted that the exclusion undoubtedly applied to claims brought by Capitol against its officers. Yet, this outcome remained the same for a liquidating trustee because as a voluntary assignee, the trustee stood in Capitol’s shoes and possessed the same rights subject to the same defenses as Capitol. Moreover, the court held that, for purposes of the policy, Capitol as a debtor in possession and Capitol pre-bankruptcy were not legally distinct entities. Indeed, “[e]ven if settings remain in which it makes good sense to treat the debtor and debtor in possession as legally distinct, this is not one of them.” Thus, the court held that the “contract itself, together with core principles of bankruptcy law,” confirmed that the exclusion applied to the trustee’s lawsuit. In a dissent, Judge Bernice B. Donald asserted that the definition of “Company” in the policy did not include a debtor or debtor in possession. Judge Donald further argued that a pre-bankruptcy debtor and debtor in possession are legally distinct entities and cited cases in which courts have held that an insured-versus-insured exclusion does not extend to successors or assigns. Accordingly, Judge Donald stated that “there is no reason that the assigned trustee in this case should trigger the insured-versus-insured exclusion.”

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