Federal court misconstrues state insurance law

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If you represent an insurance company in a duty-to-defend dispute with an insured, federal court is the place to be.

In a July 17 Seventh Circuit opinion, the court adopted a standard that differs radically from state court precedent regarding the law when an insured fails to give its insurer timely notice of a claim against it.

Guaranty Bank, a Wisconsin corporation, publicly announced its intent to expand into the state of Michigan. However, another bank was already operating in Michigan under the name Midwest Guaranty Bank.

In November 2002, Midwest brought suit against Guaranty, alleging unfair competition and trademark infringement. Guaranty had a liability policy with Great Northern Insurance Company which included “advertising injury,” but Guaranty did not immediately notify Great Northern of the suit.

In June 2003, a federal court issued a preliminary injunction in Michigan.

Six days later, Guaranty finally notified Great Northern of the suit and asked it to defend, but Great Northern refused.

Two and a half months later, Guaranty settled its suit for $200,000, after incurring about $150,000 in attorney fees.

Guaranty then brought suit against Great Northern in state court, alleging breach of the duty to defend. Great Northern removed the case to federal court.

U.S. District Court Judge Rudolph T. Randa granted summary judgment in favor of Great Northern, and the Seventh Circuit affirmed, in a decision by Judge Richard Posner.

On two issues, the court misconstrued or ignored Wisconsin precedent.

It did so first in its discussion of whether Great Northern was prejudiced by the fact it did not receive notice until after the preliminary injunction had been issued.

The court acknowledged that a preliminary injunction has no effect on the ultimate decision on the merits.

Nevertheless, Posner wrote, “Although the findings made by the judge in granting the preliminary injunction would of course not bind the jury when the case was tried on the merits, the injunction would create momentum in favor of the plaintiff and up its settlement demands, increasing the cost of defending the suit, since that cost rises with the stakes. So clear is this that no reasonable jury could find that Great Northern was not prejudiced by Guaranty Bank’s inexplicable failure to give prompt notice. RTE Corp. v. Maryland Casualty Co., 247 N.W.2d 171, 178-79 (Wis. 1976), and cases cited there; Sanderfoot v. Sherry Motors, Inc., 147 N.W.2d 255, 259 (Wis. 1967).”

Inexplicably missing from this analysis is any reference to an opinion by the Wisconsin Supreme Court that is both more recent, and more on point — Fireman’s Fund Ins. Co. of Wisconsin v. Bradley Corp., 2003 WI 33, 261 Wis.2d 4, 660 N.W.2d 666.

Like the case at bar, Fireman’s Fund involved a policy for advertising injury. The insured in that case waited 15 months after being sued to notify its insurer. By then, the hearing for a preliminary injunction was only two weeks away.

The insurer argued that it was prejudiced by the late notice, because it was placed in the “untenable position” of hiring counsel who would then have to digest a year’s worth of discovery materials and defend against the injunction, all in only two weeks. 660 N.W.2d at 683.

However, the Wisconsin Supreme Court disagreed. The court found that the insurance company would have denied its duty to defend, regardless of when notice was received.

Therefore, the court held there was no prejudice resulting from the late notice. Id., at 683-684.

Admittedly, in Fireman’s Fund, the notice to the insurer came two weeks before the preliminary injunction hearing; in the case at bar, six days later. However, there is nothing in the Fireman’s Fund opinion to suggest this is relevant.

Furthermore, one of the opinions cited for support by the Seventh Circuit, RTE Corp. v. Maryland, explicitly states that prejudice was not at issue. 247 N.W.2d at 179.

The other case, Sanderfoot, holds that a jury question was presented whether prejudice is shown. Thus, it provides no support for the Seventh Circuit’s conclusion that, in the case at bar, prejudice exists as a matter of law.

The second issue the Seventh Circuit misconstrues is whether, in Wisconsin, a sophisticated commercial enterprise is to be shown the same lenity as an individual when it misses a notice deadline.

There may be a valid reason for such a rule. As the court notes, “Insurance policies tend to be opaque, and an individual hit with a lawsuit for the first time may be confused about how to proceed. But when a sophisticated business fails to give timely notice of suit to its insurance company, the likeliest reason is not confusion but that the business thought its exposure trivial and feared that bringing the insurance company into the picture would result in higher premiums when it bought its next policy.”

The court stated that, although the Wisconsin Supreme Court has not spoken to the issue, “Wisconsin appears to be heading in this direction.”

However, Wisconsin law is not heading in that direction.

The court cites two cases to support its conclusion: State Bank of Viroqua v. Capitol Indemnity Corp., 214 N.W.2d 42, 42 n. 1 (Wis. 1974); and Tri City National Bank v. Federal Ins. Co., 674 N.W.2d 617, 621 (Wis.App. 2003).

Both of those cases involve fidelity bonds, not general insurance policies.

For general insurance policies, the law in Wisconsin remains that substantial commercial enterprises are to be treated the same as unsophisticated individuals.

In Appleton Papers, Inc., v. The Home Indemnity Co., 2000 WI App 104, 235 Wis.2d 39, 612 N.W.2d 760, 769, fn. 17, the Wisconsin Court of Appeals wrote as follows:

“[The insurer] seems to suggest that insurance agreements with sophisticated insureds should not be subject to the same regulation as other insurance contracts. This argument is better addressed to the insurance commissioner, who can exempt certain classes of insurance from regulation, or to the legislature.”

With the exception of fidelity bonds, the sophistication of the insured is not relevant in Wisconsin when interpreting an insurance policy. The court’s suggestion that Wisconsin precedent is “heading in this direction” has no precedent to support it.