Broad Exclusion Applied to All Claims Arising Out of Improper Use of Funds Caused by Anyone, Whether Guilty, Innocent or Non-Insured

Bethel v. Darwin Select Ins. Co.(8th Cir.; November 18, 2013)

A policyholder filed an action against its insurer alleging the insurer breached its duty to defend and its implied duties of good faith and fair dealing under a title insurance agency professional liability policy. The policyholder was sued in an underlying action by a customer who alleged the policyholder fraudulently misappropriated customer funds by delaying recording mortgage instruments in order to retain and use funds that had been escrowed to pay fees associated with those recordings. The insurer denied coverage based on the Customer Funds Exclusion which precluded coverage for claims arising out of any actual or alleged improper use of any customer funds. The court held that the insurer did not have a duty to defend because:

  • all of the causes of action, including the negligence claims, fell within the scope of the customer funds exclusion given all of the claims alleged arose out of the improper use of funds;

  • the broad interpretation given to the term “arising out of” did not violate the doctrine of illusory coverage — even a broad reading of the customer funds exclusion allowed for coverage of a wide range of professional activities that did not fall under the exclusion;

  • the reasonable expectations doctrine did not apply because the policy terms were not ambiguous and the exclusion was not hidden or unexpected;

  • and the innocent insured doctrine did not apply because the exclusion was not limited to acts by the insureds — instead it applied to any claim arising out of any loss or improper use of client funds caused by anyone, be they a “guilty” insured, an “innocent” insured, or even a non-insured.