April 22, 2019
Early in April 2019, the Second Circuit Court held that an insurer does not need to wait until a claim has been submitted under the policy before it can seek rescission of the policy based on material misrepresentation by the insured. The case is U.S. Underwriters Ins. Co. v. Orion Plumbing & Heating Corp. 18-2286-CV, 2019 WL 1253325.
In May 2012, United States Underwriters Insurance Company (US Underwriters) issued an insurance policy to Orion Plumbing & Heating Corporation (Orion) that provided insurance coverage for the following year. US Underwriters subsequently canceled that policy due to Orion's failure to pay the premiums. In June 2012, prior to the cancellation of the policy, an incident involving bodily injury occurred, which led to a lawsuit being filed against Orion. The lawsuit was eventually dismissed, and while the plaintiff appealed the dismissal, US Underwriters filed an action to rescind the policy based on Orion's material misrepresentations in the application for insurance. In the suit, US Underwriters sought a declaration that it had no duty to indemnify Orion for the personal injury action and sought to rescind the policy ab initio due to the material misrepresentations that Orion made on the application. The District Court for the Eastern District of New York denied the insurer's motion based on a lack of subject matter jurisdiction and came to the conclusion that US Underwriters failed to present a case or controversy. The district court said there was no dispute properly before it because an “attenuated chain of contingencies” (such as an appeal and an award) would have to occur before the insured could be entitled to coverage under its policy.
On appeal, the second circuit disagreed with the district court holding that the insured actually had presented a justiciable controversy by asserting that it could be liable based on the reinstatement of the underlying litigation or any further litigation involving it's insured potentially covered by the policy. The court also held that the complaint, which alleged that the insured would have either charged a higher premium, issued a different policy, or not issued any policy to the insured if it had known of the misrepresentations in the policy application, was sufficient to raise an actual controversy about whether or not the rescission was appropriate.
Editors Note: This decision is good for insurers. It will permit an insurer to seek rescission of a policy before they have to defend a claim. When a material misrepresentation is discovered by the insurer, they have two choices. The insurer can either cancel the policy or rescind the policy. The difference is that if a policy is canceled, the insurer may still owe the insured coverage for claims that arise out of the period of coverage. If the policy is rescinded, the coverage for the entire policy period is canceled. This allows insurers to avoid having to pay claims that arose prior to the rescission, and also on pending claims. The Court of Appeals decision, in this case, makes it clear that an insurer can seek to rescind the policy at any time before or after a claim is made.
The term “ab initio” is a Latin term meaning “from the beginning.” If a policy is rescinded ab initio, it is rescinded from the beginning, so there is no coverage under the policy.