Alan Carey Stephen Hoffman Jack Leib v. Employers Mutual Casualty Company, 189 F.3d 414, 3rd Cir. (1999)
Alan Carey Stephen Hoffman Jack Leib v. Employers Mutual Casualty Company, 189 F.3d 414, 3rd Cir. (1999)
Alan Carey Stephen Hoffman Jack Leib v. Employers Mutual Casualty Company, 189 F.3d 414, 3rd Cir. (1999)
1999)
On Appeal from the United States District Court for the Middle District of
Pennsylvania (D.C. No. 97-cv-00349) District Judge: Hon. Sylvia H. Rambo
Plaintiffs Alan Carey, Stephen Hoffman, and Jack Leib (the "Supervisors"),
who filed this action for a declaratory judgment against Employers Mutual
Casualty Co. ("Employers Mutual"), appeal the decision of the District Court
denying their motion for summary judgment and granting summary judgment
in favor of Employers Mutual. Employers Mutual had issued an errors and
omissions insurance policy in favor of Berwick Township, Pa. (the
"Township"). Plaintiffs filed this action seeking a determination that Employers
Mutual is obligated to defend and indemnify them from a surcharge filed
against them by the Audit Committee of the Township.
I.
The parties stipulated to the material facts. Carey, Hoffman, and Leib were
supervisors for the Township during 1993. In May of that year, the Township
entered into a contract with Berwick Enterprises, which was constructing a golf
course and contiguous residential tracts. The Township agreed to design and
construct a sewage treatment system and a storage lagoon that would connect to
the golf course's irrigation system. Additionally, the Township agreed to pay
certain construction costs associated with the irrigation system. The contract
specified that the Township agreed to pay $240,000, but if the construction cost
less than that amount, the Township would receive the benefit. Berwick
Enterprises constructed the irrigation system and billed the Township the
$240,000 referenced in the contract.
After the system was installed, the Township's engineer, Group Hanover, Inc.,
analyzed the project and concluded that the excavation cost for the irrigation
system was only $84,466. However, the report cautioned that the analysis did
not take into account a variety of other relevant expenses. As a result of the
engineer's estimate, the Supervisors negotiated a compromise and settlement
under which Berwick Enterprises received $216,000. The Township paid
$65,000 in cash and the remainder by a promissory note for $151,000, with
interest at six percent. Appellant Leib signed the promissory note on behalf of
the Township on January 24, 1994.
10
The Supervisors sought coverage from Employers Mutual under the errors and
omissions (E&O) insurance policy purchased by the Township, which was
effective June 1995 to June 1996 and which covered claims made for alleged
wrongful acts after June 4, 1987. Employers Mutual denied coverage on three
separate grounds: the policy specifically excluded from covered losses any "
[f]ines or penalties imposed by law," see App. at 120; the policy excluded "
`[w]rongful' acts involving . . .[a]mounts actually or allegedly due under the
terms of a payment or performance contract," see App. at 121; and the policy
excluded "[a]ny claim brought by any federal, state or local governmental
regulatory body," see App. at 122. The insurer also contended that its defense
and indemnification of the Supervisors would violate public policy.
11
12
13
14
Other types of policies, such as those issued for corporate directors and officers,
which often contain E&O provisions, commonly exclude coverage for fines
and penalties. See 3 Rowland H. Long, The Law of Liability Insurance
12A.05[7][a][iii], at 12A-95 (1989).
15
The Supervisors urge that the policy language "[f]ine or penalty imposed by
law" is ambiguous and must be construed against Employers Mutual as the
drafter of the policy. See Commonwealth of Pennsylvania, Dep't of Transp. v.
Semanderes, 109 Pa. Commw. 505, 511, 531 A.2d 815, 818 (Commw. Ct.
1987) ("When a contract is ambiguous, it is undisputed that the rule of contra
proferentem requires the language to be construed against the drafter . .. and in
favor of the other party if the latter's interpretation is reasonable.") The District
Court concluded that the issue is not whether the policy itself is ambiguous, but
rather whether the surcharge is a fine or penalty and thereby excluded from
coverage.
16
There are not many cases dealing with the scope of a fines and penalties clause
in an insurance contract. Counsel for Employers Mutual stated that he had
found none. Our research has uncovered only a few, and those are not direct
analogs. The decisions often turn on the precise language of the policy.
17
18
On appeal, the Ninth Circuit certified the question to the Montana Supreme
Court. See Wellcome v. Home Ins. Co., 849 P.2d 190, 191 (Mont. 1993). The
Montana Supreme Court rejected Wellcome's argument that the term "fine" is
limited to criminal statutes and that sanctions are neither fines, penalties, nor
any other type of punishment. The Court referred to Black's Law Dictionary in
holding that a fine is a pecuniary punishment, and that this meaning is clear and
well understood. Wellcome, 849 P.2d at 193. It thus concluded that the policy
excluded coverage for Wellcome because the sanction imposed on him was a
punitive fine or penalty. Id. at 194; see also Dixon v. Home Indem. Co., 426
S.E.2d 381, 382-83 (Ga. Ct. App. 1993) (holding that term "sanctions" in
exclusion for fines, statutory penalties, and sanctions prevents coverage for
award of attorneys fees imposed to deter filing of frivolous lawsuit).
19
The issue of the scope of a policy exclusion of coverage for fines or penalties
also may arise when coverage is sought for the payment of punitive damages.1
See Long, supra, 12B.05[1], at 12B-92. For example, in Collins & Aikman
Corp. v. Hartford Accident & Indemnity Co., 436 S.E.2d 243 (N.C. 1993), a
trucking company, which maintained an umbrella/excess liability policy for
damages arising from its operations, was held liable for $2.5 million in
compensatory and $4 million in punitive damages following a serious accident.
The parties settled for $4.2 million. The insurer refused to cover the punitive
damages, on the ground that the policy stated that " `damages' do not include
fines or penalties." Id. at 246. The court rejected this argument, holding that the
term "penalty" in the policy exclusion was at least ambiguous and, therefore, it
must be interpreted against the insurer who wrote the policy. The court thought
"[i]t takes some construing of the word `penalty' to hold that it includes
punitive damages," and declined to so hold. Id. at 247.
20
21
The insurer had issued a directors' and officers' liability policy covering
negligence, errors, omissions, and breaches of duty, but excluding fines and
penalties or other losses deemed uninsurable by law. The insurer argued that
the tax assessments were excluded penalties. The Minnesota court disagreed,
holding that the 6672 liability was not a penalty within the language of the
policy exclusion. In so holding, it relied on several federal court decisions that
ruled that, despite the "penalty" language of the Code provision, the assessment
was not penal in nature, i.e., the penalty was not punitive. Nonetheless, the
court in Briggs concluded that "insurance coverage for nonpayment of taxes
would be contrary to public policy," id. at 539, and held the insurer had no duty
to defend or indemnify.
22
An Iowa court looked differently at excise taxes under IRC 4975(a) that the
IRS imposed on the insureds for their improper dealings with an ERISA
pension plan. See Hofco, Inc. v. National Union Fire Ins. Co., 482 N.W.2d 397
(Iowa 1992). The insurance policy covered loss because of any breach of
fiduciary duty, but excluded fines and penalties from the term "loss." The court
concluded that the policy did not cover the five-percent excise tax imposed by
the IRS. The court held that "penalty," though undefined, was not ambiguous,
relying on Black's Law Dictionary for the meaning of penalty as money that the
law exacts as punishment for either doing a prohibited act or not doing a
required act. Reviewing the cases and legislative history of the excise tax at
issue, the court concluded that "the excise tax statute was passed to shift the
sanction for a violation of the prohibited transaction provision from the trust or
plan to the parties." Id. at 402. It reasoned that the purpose of the excise tax
was (1) to prohibit certain conduct, not to raise revenue; (2) to impose the tax
on the specific individuals involved in the prohibited transaction; and (3) to
curb the prohibited conduct through pecuniary punishment. Id. at 403.
Therefore, it held that the tax was a penalty rather than a tax, and the policy
provided no coverage.
23
In summary, the available case law suggests that an exclusion for fines and
penalties, where those terms are undefined in the policy, allows an insurer to
deny coverage when the item to be covered is punitive, rather than merely
compensatory. Supporting this Conclusion is the fact that "a significant number
of states" prohibit insurance for fines and penalties that are penal, rather than
remedial or compensatory, in nature. See Ostrager & Newman, supra,
10.03[d], at 551. Moreover, there are cases holding that punitive fines and
penalties are not insurable as "damages." See, e.g., City of Fort Pierre v. United
Fire & Cas. Co., 463 N.W.2d 845, 849 (S.D. 1990) (holding that civil penalties
for Clean Water Act violation were punitive and uninsurable as a matter of
public policy). But see Weeks v. St. Paul Fire & Marine Ins. Co., 673 A.2d 772
(N.H. 1996) (observing that, where insurer has failed to expressly exclude fines
and penalties, court would not relieve insurer of obligation to pay compensatory
surcharge that was arguably punitive in nature).
24
With this background, we turn to consider whether the surcharge noticed by the
Township is punitive in nature and hence a fine or penalty excluded from
coverage by Employers Mutual's policy.
III.
25
26
27
"surcharge any elected or appointed officer for the amount of any loss to the
township caused in whole or in part by the officer's act or omission in violation
of law or beyond the scope of the officer's authority. If the auditors find an
absence of intent to violate the law or exceed the scope of authority. . . the
surcharge imposed shall be limited to the difference between the costs actually
incurred by the township and the costs that would have been incurred had legal
means and authorized procedures been employed. Provisions of this section
which limit the amount of surcharge do not apply to cases involving fraud or
collusion on the part of the officers or to any penalty issuing to the benefit of or
payable to the Commonwealth."
28
29
30
In the case before us on appeal, the District Court, focusing on the question
whether the Audit Committee's surcharge constituted a penalty, analogized this
surcharge to the one imposed in trusts and estates law for fiduciaries who are
negligent in their duties. In support of this analogy, the District Court observed
that, under Pennsylvania law, a public official acts as a fiduciary in holding
public funds. See Columbia Cas. Co. v. Westmoreland County, 365 Pa. 271,
274, 74 A.2d 86, 88 (1950).
31
In the trusts and estates context, the Pennsylvania Supreme Court has held,
32
33
In re Miller's Estate, 345 Pa. 91, 93, 26 A.2d 320, 321 (1942) (emphasis
added); accord In re Trust of Munro v. Commonwealth Nat'l Bank, 373 Pa.
Super. 448, 452, 541 A.2d 756, 758 (Super. Ct. 1988). By the plain terms of
this definition, the Pennsylvania courts construe the fiduciary's surcharge to be
compensatory, even though it is also considered a penalty. Based in part on this
analogy, in conjunction with the precedent describing the surcharge as remedial
rather than punitive, and the statute that authorizes surcharges "for the amount
of any loss to the township caused by the officer's act," we conclude that the
surcharge is not punitive but remedial.
34
35
36
Significantly, the policy does not define the terms "fine" or "penalty"
anywhere. As the precedents discussed earlier demonstrate, a fines or penalties
exclusion may be raised in a wide variety of situations not all of which are
clearly excluded under this language.
37
38
39
D'Allessandro v. Durham Life Ins. Co., 503 Pa. 33, 37, 467 A.2d 1303, 1305
(1983) (citing Ehrlich v. U.S. Fidelity & Guar. Co., 356 Pa. 417, 423, 51 A.2d
794, 797 (1947)). Consequently, we hold that the fines and penalties exclusion
in the E&O policy here does not unambiguously exclude the surcharge imposed
by the Audit Committee, and the District Court erred in granting summary
judgment for Employers Mutual.
40
41
For the reasons set forth, we will reverse and remand to the District Court for
further proceedings consistent with this opinion.
Notes:
*
Hon. Louis F. Oberdorfer, United States Circuit Judge for the District of
Columbia, sitting by designation.
Generally, courts are divided on the public policy question whether an insurer
may indemnify punitive damages. See Long, supra, 12A.05[7][a][iii], at 12A96 to -97; see also Barry R. Ostrager & Thomas R. Newman, Handbook on
Insurance Coverage Disputes ch. 14 (9th ed. 1998).