Ever since the nation's largest retail banks began settling out of the multidistrict litigation regarding overdraft fees last year, many insurance companies that sold them professional liability insurance have been trying to avoid paying the banks' insurance claims for those settlements.
These denials mainly have been premised on the notion that the settlement payments reflected the disgorgement of ill-gotten gains to which the banks were not legally entitled.
Insurance companies trying to dodge overdraft claims recently were dealt a severe blow by the U.S. Court of Appeals for the Ninth Circuit, which held that banks were entitled to the overdraft fees after all – essentially undermining the insurance companies' main argument against coverage.
Over the past few years, lawsuits have been filed against nearly every significant retail bank over the way they calculate and assess overdraft fees. Because the banks' customer agreements generally permitted the banks' method for calculating the fees and the fee calculation approach was approved by government regulators, banks have defended against these claims by arguing they were acting within the terms of their contracts and applicable regulations.
Many of the banks decided to settle these lawsuits last year in order to eliminate the cost of defending against them and to obtain certainty regarding the outcome. Although those settlements typically were for a small fraction of the total amount claimed by the underlying class plaintiffs, they represented payments by the banks of hundreds of millions of dollars to past accountholders and in attorneys' fees.
Banks generally purchase professional liability insurance policies to cover these types of underlying claims against the bank. These insurance policies almost universally exclude coverage for intentionally dishonest, fraudulent or criminal acts and for ill-gotten gains, but often premise those exclusions on a "final adjudication." Indeed, because these fraud exclusions are premised on a final adjudication, the policyholder theoretically can settle an underlying suit alleging fraud or dishonesty (consistent with the cooperation clause in the policy) and avoid the applicability of the exclusion. Despite the fact that this exclusion only applies where there is a judicial determination of actual wrongdoing, insurance companies frequently have sought to avoid paying the banks' overdraft insurance claims on the grounds it would violate public policy and reward supposed wrongdoing.
Just before the New Year, the U.S. Court of Appeals for the Ninth Circuit handed down an important decision that significantly strengthened the banks' argument that they are entitled to coverage for their settlements of the overdraft fee class actions. At issue in Gutierrez v. Wells Fargo was the question of whether the banks' practice of posting customer transactions in sequence from "high-to-low” (rather than chronologically) was a pricing decision subject to regulation only by federal banking regulators, or whether the practice could give rise to claims under California's unfair business practices statute.
The Ninth Circuit held that Wells Fargo was entitled to sequence the posting order of customer transactions from high to low, as that practice was approved by federal banking regulators, and that federal law preempts the application of any state law that would purport to regulate banking activities such as pricing. This decision completely takes the wind out of the sails of the insurance industry, which has been trying to avoid its obligation to cover overdraft litigation settlements on grounds that the settlement payments amount to the disgorgement of ill-gotten gains.
The Ninth Circuit's decision in Gutierrez clears up any uncertainty that federally chartered banks were entitled to the overdraft fees, and that the settlement of class actions against the banks do not reflect "disgorgement” of any ill-gotten gains. Put simply, if banks were entitled to sequence the posting order from high to low, and are entitled to retain the overdraft fees calculated in that manner, then it is impossible for the insurance companies to argue that settlement payments represent the "disgorgement" of any "ill-gotten" gains.
After Gutierrez, the argument that overdraft settlements constitute "disgorgement" would be logically indistinguishable from an argument that any settlement of any case represents the "disgorgement" of "ill-gotten" sums – rendering the core promise of virtually every liability insurance policy illusory.
Banks that are being denied insurance coverage for their overdraft settlements, or are being forced to accept compromise resolutions of those multimillion dollar claims, should carefully consider the impact of Gutierrez on their insurance company's arguments against coverage.
Marshall Gilinsky is a shareholder in Anderson Kill & Olick's Insurance Recovery Group. He has represented banks and private equity firms in securing insurance coverage for a wide variety of losses and can be reached at email@example.com.