K2 Investment Group, LLC, et al., Respondents-Appellants,v.American Guarantee & Liability Insurance Company, Appellant-Respondent.BriefN.Y.January 7, 2014To be Argued by: ROBERT J. KELLY (Time Requested 30 Minutes) New York County Clerk’s Index No. 117902/09 Court of Appeals of the State of New York K2 INVESTMENT GROUP, LLC and ATAS MANAGEMENT GROUP, LLC, Plaintiffs-Respondents-Cross-Appellants, – against – AMERICAN GUARANTEE AND LIABILITY INSURANCE COMPANY, Defendant-Appellant-Cross-Respondent. REPLY BRIEF FOR DEFENDANT-APPELLANT- CROSS-RESPONDENT Of Counsel: ROBERT J. KELLY MICHAEL S. CHUVEN COUGHLIN DUFFY LLP Wall Street Plaza 88 Pine Street, 28th Floor New York, New York 10005 Tel.: (212) 483-0105 Fax: (212) 480-3899 – and – STEINBERG & CAVALIERE, LLP 50 Main Street, Suite 901 White Plains, New York 10606 Tel.: (914) 761-4200 Fax: (914) 761-4256 Attorneys for Defendant-Appellant- Cross-Respondent Date Completed: November 29, 2012 i TABLE OF CONTENTS Table Of Authorities ................................................................................................ iii Preliminary Statement................................................................................................1 Statement Of Facts .....................................................................................................3 Legal Argument .........................................................................................................4 I. Under This Record, Genuine Questions Of Material Fact Exist Regarding Whether The Insured Status Exclusion And The Business Enterprise Exclusion Bar Coverage Of The Default Judgment Against Daniels, Precluding Entry Of Summary Judgment In Favor Of Respondents................................................................................................4 A. AGLIC’s Assertion Of Policy Exclusions As Defenses In This Declaratory-Judgment Action Is Not A Collateral Attack On The Underlying Default Judgment And Is Not Barred By Principles Of Estoppel. ........................................................5 B. This Record Presents Genuine Questions Of Material Fact Regarding Whether Both The Insured Status And The Business Enterprise Exclusions Bar Coverage Of The Underlying Default Judgment. ............................................................11 1. The Majority Below Erred In Interpreting The Plain Language Of The Exclusions In A Manner Inconsistent With This Court’s Rulings. .......................................................13 2. Properly Applied, The Insured-Status Exclusion Bars Coverage For Respondents’ Legal- Malpractice Claims If Those Claims “Arise Out Of, In Whole Or In Part,” Daniels’ “Capacity Or Status” As “An Officer, Director, Partner, Trustee, Shareholder, Manager Or Employee” Of Goldan, LLC. ............................................................................16 ii 3. Properly Applied, The Business Enterprise Exclusion Bars Coverage For Respondents’ Legal- Malpractice Claims If Those Claims “Arise Out Of, In Whole Or In Part,” Any “Acts Or Omissions” By Daniels For Goldan, LLC And If Daniels Had A “Controlling Interest” In Goldan, LLC. ..........................................................................................23 C. The Majority Committed Reversible Error In Refusing To Consider Evidence In The Underlying Pleadings That Was Not Determined And Could Not Have Been Raised In The Legal-Malpractice Default Judgment And That Creates Questions Of Material Fact Regarding The Applicability Of The Relevant Exclusions. ........................................29 II. The Dismissal Of Respondents’ Bad-Faith Claim Was Proper Because AGLIC Had An Arguable Basis To Deny Coverage, Especially In Light Of The “Questionable Circumstances” Surrounding The Claim. ................................................................................34 A. AGLIC Did Not Commit Bad Faith In Refusing To Defend Daniels. ...................................................................................35 B. AGLIC Did Not Commit Bad Faith In Refusing Respondents’ Settlement Offer. ..........................................................47 Conclusion ...............................................................................................................50 iii TABLE OF AUTHORITIES Page(s) CASES Albert J. Schiff Assocs., Inc. v. Flack, 51 N.Y.2d 692 (1980) ................................................................................... 12-13 Am. Guar. & Liab. Ins. Co. v. Falk, 2011 U.S. Dist. LEXIS 109747 (D.N.J. Sept. 27, 2011)..............................17, 21 Am. Guar. & Liab. Ins. Co. v. Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 (D. Nev. Feb. 24, 2012)............. 17, 20-21, 24, 27 Am. Zurich Ins. Co. v. Wilcox & Christopoulos L.L.C., 2012 Ill. App. ................................................................................................24, 27 American Guar. & Liab. Ins. Co. v. Moskowitz, 58 A.D.3d 426 (1st Dep’t 2009) ................................................................... 39-41 American Guar. & Liab. Ins. Co. v. Moskowitz, 856 N.Y.S.2d 820 (N.Y. Sup. Ct. 2008).............................................................39 Ansonia Assocs. LP v. Public Serv. Mut. Ins. Co., 257 A.D.2d 84 (1st Dep’t 1999), appeal denied, 96 N.Y.2d 715 (2001) .....31, 33 CBLPath, Inc. v Lexington Ins. Co., 73 A.D.3d 829 (2d Dep’t 2010)..........................................................................48 Cirone v. Tower Ins. Co., 76 A.D.3d 883 (1st Dep’t 2010) ......................................................... 6, 10-11, 32 Dano v. Royal Globe Ins. Co., 59 N.Y.2d 827 (1983) .........................................................................................37 Darwin Nat’l Assurance Co. v. Hellyer, 2011 U.S. Dist. LEXIS 60592 (N.D. Ill. June 7, 2011)................................ 18-20 Daus v. Lumberman’s Mut. Cas. Co., 241 A.D.2d 665, appeal denied, 90 N.Y.2d 812 (1997)...............................37, 48 Decker v. Amalgamated Mut. Cas. Co., 43 A.D.2d 939, modified, 35 N.Y.2d 950 (1974)...............................................37 iv Dimond v. Kazmierczuk & McGrath, 15 A.D.3d 526, appeal denied, 5 N.Y.3d 715 (2005).........................................49 DMP Contracting Corp. v. Essex Ins. Co., 76 A.D.3d 844 (1st Dep’t 2010) ..........................................................................37 East Acupuncture, P.C. v. Allstate Ins. Co., 61 A.D.3d 202 (2d Dep’t 2009)..........................................................................43 Fed. Ins. Co. v. N. Am. Specialty Ins. Co., 83 A.D.3d 401 (1st Dep’t 2011) ..........................................................................36 Fisher v. Hanover Ins. Co., 288 A.D.2d 806 (3rd Dep’t 2001) ..................................................................6, 32 Fitzpatrick v. Am. Honda Motor Co., 78 N.Y.2d 61 (1991) ...........................................................................................43 Fox v. Emp’rs’ Liab. Assurance Corp., 243 A.D. 325, aff’d, 267 N.Y. 609 (1935) .........................................................32 Fusco v. American Colonial Ins. Co., 221 A.D.2d 231 (1st Dept 1995) .........................................................................32 Gibbs v. CNA Ins. Cos., 263 A.D.2d 836 (3d Dep’t 1999)........................................................................44 Gordon v. Nationwide Mut. Ins. Co., 30 N.Y.2d 427 (Breitel, J. dissenting), reh. denied, 31 N.Y.2d 709 (1972), cert. denied, 93 S. Ct. 1374 (1973) ...........................30, 36-37, 46, 48-49 Holmes v. Allstate Ins. Co., 33 A.D.2d 96 (4th Dep’t 1969).......................................................................6, 32 In re Estates of Covert, 97 N.Y.2d 68 (2001) ...........................................................................................15 In re Int’l Ribbon Mills, 36 N.Y.2d 121 (1975) .........................................................................................43 Jeffer v. Nat’l Union Fire Ins. Co., 703 A.2d 316 (N.J. Super. App. Div. 1997) .......................................................26 v Lang v. Hanover Ins. Co., 3 N.Y.3d 350 (2004) ................................................................7, 10-11, 13, 30-31 Madison Liquidity Investors 119, LLC v. Griffith, 57 A.D.3d 438 (1st Dep’t 2008) ...........................................................................6 Maroney v. New York Cent. Mut. Fire Ins. Co., 5 N.Y.3d 467 (2005) ..................................................................................... 14-15 Matter of Sedita v. Sacha, 951 N.Y.S.2d 459 (4th Dep’t 2012) ...................................................................37 McCabe v. Old Republic Ins. Co., 228 A.2d 901 (Pa. 1967).....................................................................................15 Minn. Lawyers Mut. Ins. Co. v. Antonelli, Terry, Stout & Kraus, 2010 U.S. Dist. LEXIS 122836 (E.D. Va. Nov. 18, 2010), aff’d, 2012 U.S. App. LEXIS 6504 (4th Cir. Mar. 29, 2012) .................................... 12, 26-27 Mt. Airy Ins. Co. v. Greenbaum, 127 F.3d 15 (1st Cir. 1997)...................................................................... 12, 21-22 N.Y. & Presbyterian Hosp. v. Country-Wide Ins. Co., 17 N.Y.3d 586 (2011) .....................................................................................6, 43 Niagara Fire Insurance Co. v. Pepicelli, Pepicelli, Watts & Youngs, 821 F.2d 216 (3d Cir. 1987). (Resp’ts Br. 36-38) ........................................ 14-15 Oot v. Home Ins. Co., 244 A.D.2d 62 (4th Dep’t 1998)................................................................... 41-42 Pavia v. State Farm Mut. Auto. Ins. Co., 82 N.Y.2d 445 (1993), reh. denied, 83 N.Y.2d 779 (1994) ................... 35-38, 47 Penn Aluminum, Inc. v. Aetna Cas. & Sur. Co., 61 A.D.2d 1119 (4th Dept 1978) .........................................................................10 People v. Ford, 69 N.Y.2d 775 (1987) ..............................................................................................................37 People v. Johnson, 93 N.Y.2d 254 (1999) .........................................................................................42 vi People v Valdes, 66 A.D.3d 925 (2d Dep’t 2009)..........................................................................42 Potomac Ins. Co. v. McIntosh, 804 P.2d 759 (Ariz. Ct. App. 1990).............................................................. 27-29 Redcross v. Aetna Cas. & Surety Co., 260 A.D.2d 908 (3rd Dep’t 1999).................................................................. 26-27 Regal Constr. Corp. v. Nat’l Union Fire Ins. Co., 15 N.Y.3d 34 (2010) ................................................................... 14-15, 22, 25, 27 Rucaj v. Progressive Ins. Co., 19 A.D.3d 270 (1st Dep’t 2005) .........................................................................30 Salzman & Salzman v. Home Ins. Co., 258 A.D.2d 455 (2d Dept. 1999) .................................................................. 21-22 TPZ Corp. v. Dabbs, 25 A.D.3d 787 (2d Dep’t 2006)..........................................................................43 Utica Mut. Ins. Co. v. Cherry, 45 A.D.2d 350 (2d Dep’t 1974)..........................................................................10 Wenig v. Glens Falls Indem. Co., 294 N.Y. 195 (1945) .......................................................................................6, 32 STATUTES Insurance Law Section 3420......................................................................................4 1 PRELIMINARY STATEMENT At issue in this appeal is whether the Appellate Division erred in affirming the Supreme Court’s grant of summary judgment. The majority below ruled that two exclusions in the insurance policy (the “AGLIC Policy”) issued by defendant- appellant-cross-respondent, American Guarantee and Liability Insurance Company (“AGLIC”), were inapplicable as a matter of law to preclude coverage of a default judgment for legal malpractice entered against AGLIC’s insured, Jeffrey Daniels. The exclusions in question, the Insured Status Exclusion and the Business Enterprise Exclusion, apply to exclude coverage for claims arising out of, in whole or in part, (1) the insured’s status as a member of a business enterprise or (2) the insured’s acts or omissions for any business enterprise which the insured owns more than ten percent. The majority’s ruling narrowly construed the applicability of those exclusions and chose not to apply the record evidence. The ruling was incorrect because the record evidence showed that: (1) Daniels provided legal services to plaintiffs-respondents-cross-appellants, K2 Investment Group, LLC and ATAS Management Group, LLC (“Respondents”) in connection with loans that Respondents made to Goldan, LLC (“Goldan”); (2) Daniels was simultaneously a “member” of Goldan; (3) Daniels, acting on behalf of Goldan, signed certain of the notes securing the loans made to Goldan; (4) Daniels personally guaranteed 2 repayment of the loans made by Respondents to Goldan; and (5) Daniels told AGLIC that he had represented Goldan in those loan transactions. Daniels was thus acting in five different capacities in these loan transactions; which the majority (in affirming the grant of partial summary judgment dismissing the bad- faith claims against AGLIC) correctly characterized as “questionable.” The “questionable circumstances” detailed above raise questions of fact precluding the grant of summary judgment to Respondents. In their opposition brief, Respondents ask the Court to take an artificially- restricted view of the record, considering only those facts supporting their claims. That argument, however, requires the Court to ignore allegations in Respondents’ pleadings and the position taken in its brief before this Court that the legal malpractice claims are based on the loans that Respondents made to Goldan. (E.g., Resp’ts Br. at 8, n.5). Because Respondents have no right to cherry-pick the facts, the Court should consider the record as whole. Based on the record, the Court should reverse that portion of the judgment below that affirms the Supreme Court’s grant of summary judgment in favor of Respondents. As the dissent below correctly stated, AGLIC was, as a matter of law, entitled to assert policy defenses in this declaratory-judgment action because the facts pertinent to the applicability of AGLIC’s exclusions were never decided in the entry of default judgment in Respondents’ action against Daniels, Goldan, 3 and Mark Goldman, a co-member of Goldan (the “Underlying Action”). Likewise AGLIC was entitled to have its policy exclusions enforced pursuant to their clear and unambiguous terms and not in the unduly-narrow interpretation provided by majority. Specifically, the grant of summary judgment on coverage was not based on the record as a whole. Because questions of fact exist regarding the application of the AGLIC policy exclusions to Respondents’ claims for coverage of the default judgment, Respondents’ summary judgment should have been denied. This Court should therefore reverse and remand for discovery and a determination of the coverage issues on their merits. This Court should affirm that portion of the judgment below that affirms the Supreme Court’s dismissal of Respondents’ claims for bad faith. Respondents allege that AGLIC’s disclaimer of coverage was unreasonable. However, as both the majority and the dissent below ruled, Respondents failed to prove a prima facie case that AGLIC had acted in bad faith in denying coverage to Daniels, based on what the First Department characterized as the “questionable circumstances” giving rise to the transactions at issue in the Underlying Action. Because AGLIC had at least an “arguable basis” to deny coverage of the claims asserted, the Court should affirm the grant of summary judgment to AGLIC. STATEMENT OF FACTS AGLIC relies on the Statement of Facts contained in its opening brief. 4 LEGAL ARGUMENT I. UNDER THIS RECORD, GENUINE QUESTIONS OF MATERIAL FACT EXIST REGARDING WHETHER THE INSURED STATUS EXCLUSION AND THE BUSINESS ENTERPRISE EXCLUSION BAR COVERAGE OF THE DEFAULT JUDGMENT AGAINST DANIELS, PRECLUDING ENTRY OF SUMMARY JUDGMENT IN FAVOR OF RESPONDENTS. The majority below erred as a matter of law in affirming the grant of summary judgment to Respondents on the theory that the entry of default judgment against the insured bars AGLIC from asserting policy defenses to the coverage of that judgment. Significant questions of fact exist regarding the application of the Business Enterprise and Insured Status Exclusions to preclude coverage for the default judgment. Therefore, affirming the grant of summary judgment in favor of Respondents was error. Respondents’ claim against AGLIC is based on an assignment of rights from Daniels, (R. 279-80), as well on its status as a judgment creditor pursuant to Insurance Law Section 3420. As assignees of Daniels’ rights under the AGLIC policy, Respondents’ rights against AGLIC rise no higher than Daniels’ rights. Likewise, a judgment creditor stands in the shoes of the insured, and is subject to all the defenses that may be asserted against the insured. AGLIC was therefore entitled to assert against Respondents all policy exclusions and coverage limitations that would have applied to Daniels. In other words, the entry of default 5 judgment against Daniels did not decide the issue of coverage, and the majority below erred in ruling that it did. The majority also erred in interpreting the application of the exclusions more narrowly than their unambiguous terms warrant. A. AGLIC’S ASSERTION OF POLICY EXCLUSIONS AS DEFENSES IN THIS DECLARATORY- JUDGMENT ACTION IS NOT A COLLATERAL ATTACK ON THE UNDERLYING DEFAULT JUDGMENT AND IS NOT BARRED BY PRINCIPLES OF ESTOPPEL. In opposition to AGLIC’s appeal, Respondents make two primary arguments. First, Respondents assert that AGLIC’s reliance on policy exclusions constitutes a collateral attack on the basis for the default judgment against Daniels. (Resp’ts Br. at 21). Second, Respondents contend that AGLIC should be estopped from arguing that any policy exclusions apply because AGLIC could have litigated the applicability of those exclusions in defending the underlying suit against Daniels. (Id.) Both of Respondents’ arguments are without merit. First, in defending Respondents’ suit for insurance coverage of the default judgment against Daniels, AGLIC is not collaterally attacking any part of the default judgment that Daniels committed legal malpractice. Instead, AGLIC contests whether those acts of legal malpractice are covered within the terms and conditions of its policy. Respondents took an assignment of Daniels’ rights under the AGLIC policy, (R. 76, ¶ 52, R. 279-80), and are therefore subject to all defenses that AGLIC could 6 assert against Daniels. N.Y. & Presbyterian Hosp. v. Country-Wide Ins. Co., 17 N.Y.3d 586, 592-93 (2011); Cirone v. Tower Ins. Co., 76 A.D.3d 883, 884 (1st Dep’t 2010) (stating that as “assignees, plaintiffs are now suing upon a claim which is subject to the same defenses [that the insurance carrier] could have asserted against [its insured]”); Madison Liquidity Investors 119, LLC v. Griffith, 57 A.D.3d 438, 440 (1st Dep’t 2008) (stating that assignee stands in no better position than assignor and takes assignment subject to defenses available against assignor); Fisher v. Hanover Ins. Co., 288 A.D.2d 806, 807 (3rd Dep’t 2001) (ruling that “plaintiff now stands in the shoes of the insured and cannot recover [against the insurance carrier] because of the insured’s breach of the terms of the policy”). In defending the declaratory judgment action, AGLIC may assert coverage defenses that would apply to any claim that Daniels could have made for coverage of the judgment entered in the underlying case. (R. 138-142, 167-170). Respondents, however, are also proceeding as a judgment creditor against AGLIC and “stand[] in the shoes of the assured and can recover against the insurer only if the assured could recover under the terms of the policy.” Wenig v. Glens Falls Indem. Co., 294 N.Y. 195, 198-99 (1945); see also Holmes v. Allstate Ins. Co., 33 A.D.2d 96, 98 (4th Dep’t 1969). Said differently, the right of Respondents as judgment creditor to recover is “identical with the insured’s right to recover on the policy.” Holmes, 33 A.D.2d at 98 (internal citations omitted). AGLIC is 7 therefore within its rights to assert policy exclusions as a defense to coverage of the underlying judgment against Daniels, which is not a collateral attack on that judgment. Lang v. Hanover Ins. Co., 3 N.Y.3d 350, 356 (2004) (ruling that carrier that declined to defend insured in underlying lawsuit may not use declaratory- judgment suit to attack underlying judgment but may litigate “the validity of its disclaimer”). In other words, AGLIC is entitled to rely on its policy exclusions to disclaim coverage of the default judgment regardless of whether Daniels or Respondents sue for coverage, so long as AGLIC does not attempt to “go behind the underlying default judgment to raise defenses extending to the merits of” Respondents’ claim against Daniels. Robbins, 236 A.D.2d at 771. AGLIC is not collaterally attacking the allegations encompassing the default judgment; rather, it is AGLIC’s position that facts that were not part of that judgment and that are contained in Respondents’ own pleadings below support the application of the exclusions, and at the very least, create questions of fact that preclude entry of summary judgment. Specifically, Respondents made millions of dollars in loans to Goldan to be secured by mortgages. (R. 69, ¶¶ 8-9). Respondents allege that Daniels represented them as an attorney, (R. 69, ¶ 4), but they also allege that he was a member of Goldan (R. 69, ¶ 6, R. 213), and the attachments to their complaint showed that he signed several of the promissory notes on behalf of Goldan, (R. 116-121), and that he personally guaranteed all of 8 the loans against default. (R. 91, ¶¶45-49; R. 122-131). Respondents sustained losses (1) when Goldan became insolvent, (2) which caused Goldan to fail to repay the loans, (3) when Daniels failed to honor personal guarantees that he had executed on behalf of Goldan, and finally, after those other conditions had occurred, (4) when Respondents had no security because Daniels had failed to record their mortgages. (R. 87-88, ¶¶ 19-28; R. 91, ¶¶ 45-49). Indeed, Respondents concede that their claims for legal malpractice arise from “the loans made to Goldan.” (Resp’ts Br. 8, n.5). Further, Daniels notified AGLIC that respondents might assert a claim against his law firm “as a result of legal services that [he had] rendered to a real estate development company, Goldan LLC,” which he and Mark Goldman owned and were members. (R. 213; R. 69). As the dissent below found (R. 373, 377-80), the record shows that (1) Daniels represented to AGLIC that any legal services that he had performed in connection with those loans were on behalf of Goldan; (2) Respondents allege in their complaint that Daniels was a member of Goldan; (3) Daniels held a pecuniary interest in Goldan at the time relevant to the claims at issue; and (4) Daniels had personally guaranteed the loans. (R. 378-380). That record raises genuine issues of material fact that could trigger the policy exclusions, because it shows that although Daniels acted as Respondents’ attorney (R. 69, ¶¶ 7-9), at the same time he was a member and owner of Goldan, signed some of the promissory notes on 9 behalf of Goldan, personally guaranteed all of Goldan’s debts to Respondents, and, as an attorney, provided legal series to Goldan. (R. 69, ¶ 6, R. 213, R. 116-121, R. 91, ¶¶45-49; R. 122-131, R. 378-380). Daniels was thus acting in as many as five different roles on behalf of Respondents and Goldan, despite their conflicting interests. (Id.) These facts, which are relevant to the applicability of the Insured Status Exclusion and Business Enterprise Exclusion, were not the subject of the default judgment. (Resp’ts Br. at 39 (“Neither Daniels’s status in relation to Goldan, nor his relation to Goldan, was a basis for the suit against Daniels”)). Thus, pursuant well-established New York law, AGLIC is permitted to litigate these issues. Lang, 3 N.Y.3d at 356; Robbins, 236 A.D.2d at 771. Respondents’ estoppel argument also fails. The facts pertinent to the policy exclusions were not actually litigated in the underlying action against Daniels, nor could they have been. Robbins, 236 A.D.2d at 771. The fact that Respondents have obtained a default judgment on their legal malpractice claims against Daniels does not foreclose the possibility that policy exclusions apply to bar or limit coverage of that judgment. As this Court ruled in First State Ins. Co. v. J&S United Amusement Corp., Because [the insurance carrier] is neither a party to nor a participant in the tort action, the employment determination made in that action is not conclusive with respect to its obligation to indemnify. Not being precluded as to that issue, it can, therefore, defend on the basis of the policy exclusion any action for indemnity 10 brought by [the insured] or any direct action brought pursuant to Insurance Law § 3420(b) by the tort plaintiffs on their judgment if they recover one. 67 N.Y.2d 1044, 1046 (1986) (citations omitted); accord Cirone, 76 A.D.3d at 884; Utica Mut. Ins. Co. v. Cherry, 45 A.D.2d 350, 355 n.3 (2d Dep’t 1974); aff’d 38 N.Y.2d 735 (1975). AGLIC has the right to litigate the applicability of its exclusions where the application of those exclusions was not determined in defending the underlying action. Lang, 3 N.Y.3d at 356; Robbins, 236 A.D.2d at 771. Respondents contend that AGLIC should have litigated the applicability of those exclusions in the underlying action and is estopped from doing so now. (Resp’ts Br. at 23). However, AGLIC had no right to assert coverage exclusions in defense of the underlying action, because doing so would have created a conflict of interest between AGLIC and Daniels. Penn Aluminum, Inc. v. Aetna Cas. & Sur. Co., 61 A.D.2d 1119 (4th Dept 1978). In sum, AGLIC’s assertion of policy exclusions as defenses in this declaratory-judgment action is not a collateral attack on the underlying default judgment. Said differently, in defending this coverage action, AGLIC does not attack the default judgment entered against Daniels or the facts underlying that judgment. Respondents’ estoppel argument also lacks merit because, as demonstrated above, the facts pertinent to the policy exclusions were not actually litigated in the underlying action against Daniels. AGLIC simply asserts policy 11 exclusions that bar coverage of that judgment, and facts pertinent to the applicability of those exclusions that were not part of the default judgment. Accordingly, AGLIC respectfully requests that this Court reverse the grant of summary judgment and permit AGLIC to litigate the merits of those exclusions. Lang, 3 N.Y.3d at 356; Cirone, 76 A.D.3d at 884. B. THIS RECORD PRESENTS GENUINE QUESTIONS OF MATERIAL FACT REGARDING WHETHER BOTH THE INSURED STATUS AND THE BUSINESS ENTERPRISE EXCLUSIONS BAR COVERAGE OF THE UNDERLYING DEFAULT JUDGMENT. The majority below committed error in concluding that, as a matter of law, the entry of default judgment against Daniels for legal malpractice precluded the application of any policy exclusion in a subsequent action asserting Daniels’ claim for insurance coverage of that judgment. (R. 367). The majority premised its decision solely on the fact that the Underlying Action established the elements of a legal malpractice claim against Daniels, and erroneously concluded that such a finding precluded any analysis or application of the policy’s exclusions. (R. 367- 68, 370). Likewise, Respondents mistakenly rely on the entry of default judgment as being dispositive of whether the AGLIC Policy provides an obligation to indemnify. (Resp’ts Br. 35 (“The Majority reasoned, on the basis of the actual Legal Malpractice Claims, that neither of the Subject Exclusions was triggered. This is certainly true.”)). The majority’s ruling failed to employ the correct 12 analysis, and failed to take into account facts relating to the subject exclusions that were not encompassed by the default judgment. Specifically, the trigger of the insuring agreement by a default-judgment finding that Daniels committed legal malpractice is only the start of the coverage analysis. The coverage grant, i.e., the insuring agreement, in the AGLIC Policy limits coverage to claims based on the rendering of or failure to render legal services. (R. 200, § I). Only if a claim falls within that grant of coverage can an exclusion be potentially applicable. (R. 205, § III). Said differently, policy exclusions are potentially applicable only if a claim falls within the insuring agreement, thereby triggering coverage. See Minn. Lawyers Mut. Ins. Co. v. Antonelli, Terry, Stout & Kraus, 2010 U.S. Dist. LEXIS 122836, *28 (E.D. Va. Nov. 18, 2010) (stating that first step in determining whether Business Enterprise Exclusion applies is ensuring that claim arises out of professional services rendered by insureds), aff’d, 2012 U.S. App. LEXIS 6504 (4th Cir. Mar. 29, 2012); Mt. Airy Ins. Co. v. Greenbaum, 127 F.3d 15 (1st Cir. 1997) (same). That is why this Court has made clear that the combination of the insuring agreement and the exclusions defines the scope of the policy. Albert J. Schiff Assocs., Inc. v. Flack, 51 N.Y.2d 692, 697 (1980). As this Court stated: We start our analysis by noting that the coverage under the policies in this case is not merely what is found under the heading “insuring agreement.” Just as this clause affirmatively indicates the coverage which is included, so 13 does the “exclusion” clause tell us expressly what is not. In policies so drawn, the protection the insured has purchased is the sum total, or net balance, however one labels it, of a coming together of the two. For it is not either alone, but the combination of both, which defines the scope of the protection afforded -- no more and no less. [Id.] The fact that the default judgment against Daniels was based on legal malpractice does not foreclose the application of exclusions, which apply only if a legal-malpractice claim exists. Cf. R. 369-70 with 377-80; see also J&S United Amusement Corp., 67 N.Y.2d at 1046. By holding that the exclusions do not potentially apply because the Underlying Action alleges legal malpractice, the majority has essentially written the exclusions out of the policy, in contravention of this Court’s precedent. Albert J. Schiff Assocs., 51 N.Y.2d at 697. 1. THE MAJORITY BELOW ERRED IN INTERPRETING THE PLAIN LANGUAGE OF THE EXCLUSIONS IN A MANNER INCONSISTENT WITH THIS COURT’S RULINGS. The dissent, in finding that questions of material fact exist regarding whether the exclusions apply, properly applied this Court’s precedent to the actual policy language. (R. 377-83). The dissent correctly stated that the majority’s “interpretation of the exclusions is too narrow” (R. 377), noting that the “policy language is broad, expressly stating that the policy ‘shall not apply to any Claim based upon or arising out of, in whole or in part etc.’” (R. at 377-78). In 14 criticizing the dissent, Respondents assert that the Insured Status Exclusion and Business Enterprise Exclusion should be given a narrow construction. (Resp’ts Br. at 35). However, this Court construes the term “arising out of” broadly, even when used in an exclusion. Maroney v. New York Cent. Mut. Fire Ins. Co., 5 N.Y.3d 467, 472 (2005). Courts in this State have consistently found the term to mean “originating from, incident to, or having connection with.” Regal Constr. Corp. v. Nat’l Union Fire Ins. Co., 15 N.Y.3d 34, 38 (2010). The exclusions at issue, which prohibit coverage of legal malpractice claims “arising out of, in whole or in part,” either “the insured’s capacity or status” as a principal in a “business enterprise,” or “an act or omission” by the insured “for any business enterprise” in which the “insured has a controlling interest,” must be given their proper scope. E.g., Maroney, 5 N.Y.3d at 472. By focusing on the legal-malpractice claim that forms the basis of the default judgment in order to foreclose consideration of the exclusions, the majority improperly did not consider the language “arising out of, in whole or in part” in the two exclusions at issue. (R. 369-70). However, that language mandates a broad construction of the applicability of those exclusions. See e.g. Regal Constr. Corp., 15 N.Y. 3d at 38. Respondents ignore this clear policy language and rely on the holding in Niagara Fire Insurance Co. v. Pepicelli, Pepicelli, Watts & Youngs, 821 F.2d 216, 221 (3d Cir. 1987). (Resp’ts Br. 36-38). Respondents argue that the holding in 15 Niagara, which applied Pennsylvania law, supports the “narrow” interpretation used by the majority. Id. at 38. However, under Pennsylvania law, the term “arising out of,” when used in an exclusion, is given a narrower interpretation than under New York law. Cf. McCabe v. Old Republic Ins. Co., 228 A.2d 901, 903 (Pa. 1967) (stating that “arising out of” as used in an exclusion means “but for” or “cause and result” relationship) with Maroney, 5 N.Y.3d at 472 & Regal Constr. Corp., 15 N.Y.3d at 38 (defining “arising out of” to mean “originating from, incident to, or having connection with”). Rather than address the clear scope of the policy language under New York law, Respondents rely on Niagara, a Third Circuit case that applies Pennsylvania law. Yet Pennsylvania law provides a much narrower scope to the term “arising out of” than does New York law, rendering Niagara inapplicable. See id. Like the argument set forth by Respondents, the majority does not follow this Court’s precedent that clear and unambiguous terms of a policy are to be given their plain and ordinary meaning. In re Estates of Covert, 97 N.Y.2d 68, 76 (2001). Specifically, if the majority’s holding is affirmed, the meaning of the term “arising out of” in an insurance policy will lose the broad meaning attributed to the phrase by this Court. Cf. Regal Constr. Corp., 15 N.Y.3d at 38 (broadly defining “arising out of”) with majority decision at R. 367, 370 (using phrases “based exclusively on” and “based solely on” to construe scope of exclusions containing 16 term “arising out of”). 2. PROPERLY APPLIED, THE INSURED- STATUS EXCLUSION BARS COVERAGE FOR RESPONDENTS’ LEGAL- MALPRACTICE CLAIMS IF THOSE CLAIMS “ARISE OUT OF, IN WHOLE OR IN PART,” DANIELS’ “CAPACITY OR STATUS” AS “AN OFFICER, DIRECTOR, PARTNER, TRUSTEE, SHAREHOLDER, MANAGER OR EMPLOYEE” OF GOLDAN, LLC. Under this record, genuine issues of material fact preclude summary judgment on whether the Insured Status Exclusion bars coverage of the default judgment. That exclusion applies if the default judgment against Daniels arises, in whole or in part, out of what Respondents have characterized as his status as a “member” of Goldan. (R. 69, ¶ 6). Specifically, the Insured Status Exclusion states: This policy shall not apply to any Claim based upon or arising out of, in whole or in part: D. The Insured’s capacity or status as: 1. an officer, director, partner, trustee, shareholder, manager or employee of a business enterprise, charitable organization or pension, welfare, profit sharing, mutual or investment fund or trust; (R. 205, § III.D). This exclusion has been found to be clear and unambiguous. Am. Guar. & 17 Liab. Ins. Co. v. Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 at *10-*11 (D. Nev. Feb. 24, 2012); Am. Guar. & Liab. Ins. Co. v. Falk, 2011 U.S. Dist. LEXIS 109747 at *4 (D.N.J. Sept. 27, 2011). It is triggered by a claim “based upon or arising out of, in whole or in part,” the insured’s status as “an officer, director, partner, trustee, shareholder, manager or employee” of a business enterprise. (R. 209, § IV.D.). Unquestionably, the allegations of Respondents’ own complaint raise genuine questions of material fact that could trigger the Insured Status Exclusion. Respondents allege that Goldan’s inability to repay the loans caused Respondents to suffer damages. (R. 90). Respondents further allege that Goldan’s insolvency caused it to fail to repay the loans that Respondents made to it. (R. 70, ¶13, 14.). Next, Daniels failed to honor the personal guarantees of these loans that he made on behalf of Golden and in favor of Respondents. (R. 91, ¶ 44-49). Finally, because Daniels did not record mortgages that were supposed to be offered as security for the loans, Respondents sustained losses after both Goldan and Daniels failed to meet their financial obligations to Respondents. (R. 84-94). Questions of fact clearly exist regarding whether Respondents’ claims against Daniels fell within the scope of the Insured Status Exclusion, based on Respondents’ own allegations. Specifically, they allege that Daniels was one of two “members” of Goldan. (R. 85, ¶ 7). Although Respondents do not define that term in their 18 complaint, it raises a fact issue whether the “officer, director, partner, trustee, shareholder, manager, or employee” requirement of the Exclusion is satisfied. (R. 2-05, § III.D.). The fact that Daniels executed promissory notes on Goldan’s behalf, (R. 91, ¶ 44-49), and signed personal guarantees of Goldan’s debt obligations in favor of Respondents, (R. 127-130), provides strong evidence that Daniel acted as an “officer, director, partner, trustee, shareholder, manager, or employee” of Goldan. Because a genuine issue of material fact therefore exists whether the Insured Status Exclusion applies to preclude coverage of Respondents’ claims, the entry of summary judgment was improper. Respondents ignore the plain language of the Insured Status Exclusion and argue that “for the [Insured Status Exclusion] to apply, Daniels would have to have been an officer, director, shareholder, etc. of K2/ATAS,” not Goldan. (Resp’ts Br. 46). This nonsensical interpretation of the language is unsupported by any citation, and is contrary to the terms of the exclusion, contrary to the purpose of the exclusion, and contrary to case law interpreting it. See Darwin Nat’l Assurance Co. v. Hellyer, 2011 U.S. Dist. LEXIS 60592 (N.D. Ill. June 7, 2011) (holding that Insured Status Exclusion (referred to in Hellyer as the Business Enterprise Exclusion) applied to fact pattern similar to present matter). Respondents attempt to distinguish Hellyer on four principal points: First, that the claim asserted in Hellyer was based on excluded acts and omissions, i.e., 19 that the attorney failed to disclose to his clients a conflict of interest, while the present matter does not allege that Daniels failed to disclose a conflict of interest; second, that the exclusion at issue in Hellyer contained the language “in any way involving”; third, that the insurer brought a declaratory judgment action; and fourth, that the portion relied on by AGLIC and the dissent below was dicta. (Resp’ts Br. 39-40). These points are without merit. As to Respondents’ first point, the Hellyer Court ruled that the allegations related to legal malpractice. Hellyer, 2011 U.S. Dist. LEXIS 60592 at *6. According to the Hellyer court, the allegations against the attorney were with respect to a “loan subordination transaction constituted professional negligence and amounted to a breach of his duty as the claimants’ lawyer.” Id. With regard to Respondents’ second argument, the Hellyer court did not rely on that language in holding that the Insured Status Exclusion applies because: “the underlying claim for legal malpractice falls within the broad scope of the exclusion, as the claim is based on, arises out of, and is a direct result of Hellyer’s business interest in Harmony Stone.” Id. at *14 (emphasis added). Third, Respondents fail to show how the fact that the insurer instituted a declaratory judgment action has any effect on the holding in Hellyer that the Insured Status Exclusion applies to a claim for professional malpractice so long as the claim arises out of the attorneys’ business interest in his own personal investment company. Last, the ruling in Hellyer is not dicta. Id. at *14-*16. 20 Simply stated, the Hellyer decision is directly on point and Respondents have failed to show why the Hellyer Court’s logic should not govern here. Respondents allege that AGLIC’s Insured Status Exclusion does not “attempt to exclude a transaction in which, as at bar, the insured is representing one of the parties to the transaction, but has some status with the other party to the transaction.” (Resp’ts Br. 47). Not only is that claim unsupported by any citation, but it ignores both the plain language and the basic purpose of the exclusion, which is to “‘avoid circumstances where an insured intermingles its business relationships with its law practice such that an insurance carrier incurs additional risk of having to cover the insured for legal malpractice claims relating to the conduct of business, rather than out of professional practice.’” Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 at *13 (quoting Kieter, 360 F.3d at 17). Next, Respondents rely on the Trust and Estate Exclusion to argue that the allegations in their coverage complaint and the materials appended to that complaint do not trigger the Insured Status Exclusion, contending that the language in the Trust and Estate Exclusion is broader than that of the Insured Status Exclusion and the Business Enterprise Exclusion. (Resp’ts Br. at 47). First, no evidence suggests that the language in the Trust and Estate Exclusion is broader than either Insured Status Exclusion or the Business Enterprise Exclusion. Second, 21 this argument ignores the fact that the language of the Insured Status Exclusion and the Business Enterprise Exclusion have both been held to be clear and unambiguous. Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 at *12-*16. Third, Respondents fail to explain how the Trust and Estates Exclusion supports summary judgment or bars the exclusions at issue from being triggered by the undisputed record in this case. Finally, Respondents make a futile attempt to distinguish the cases cited by AGLIC and argue that these cases support Respondents’ interpretation of the Insured Status Exclusion. Although Flangas and Falk are not factually identical to the present action, both courts have held that that the Insured Status Exclusion was clear and unambiguous. (AGLIC’s Br. at 28). Respondents’ attempts to distinguish Mt. Airy ins. Co. v. Greenbaum, 127 F.3d 15 (1st Cir. 1997), and Salzman & Salzman v. Home Ins. Co., 258 A.D.2d 455 (2d Dept. 1999), are equally without merit. For instance, the Respondents claim that the exclusion in Mt. Airy was broader than the exclusion at issue here. (Resp’ts Br. at 48). The exclusion at issue in Mt. Airy precluded coverage for: any claim arising out of or in connection with the conduct of a business enterprise other than the Named Insured (including the ownership, maintenance or care of any property in connection therewith) which is owned by any Insured or in which any Insured is a partner, or which is directly or indirectly controlled, operated or managed by any Insured either individually or in a fiduciary capacity 22 Id. at 19. Respondents’ claim that the exclusion is broader, specifically emphasizing in their brief the term in the exclusion “in connection with.” (Resp’ts Br. at 48). This argument lacks merit because the term “arising out of” as defined by this Court means: “originating from, incident to, or having connection with.” See Regal Constr. Corp., 15 N.Y.3d at 38. Hence, the exclusion in Mt. Airy is not broader than those in the AGLIC Policy. Respondents respond to AGLIC’s citation to Salzman by arguing that the exclusion in that case “was far broader, encompassing legal malpractice claims ‘based on or arising out of work performed by the insured with respect to any corporation’ in which the insured had an interest . . . and thus could include claims brought by either party to a transaction involving an enterprise in which the attorney had an interest.” (Resp’ts Br. at 48). Respondents again provide no citation for their opinion that the exclusion at issue in Salzman was broader than the Insured Status Exclusion. Moreover, Salzman was cited in AGLIC’s moving brief as an example of when the Insured Status Exclusion has been found applicable, i.e., in situations involving business transactions in which an insured is an owner, (AGLIC’s Opening Br. at 29), and Respondents have not taken issue with that purpose. 23 3. PROPERLY APPLIED, THE BUSINESS ENTERPRISE EXCLUSION BARS COVERAGE FOR RESPONDENTS’ LEGAL- MALPRACTICE CLAIMS IF THOSE CLAIMS “ARISE OUT OF, IN WHOLE OR IN PART,” ANY “ACTS OR OMISSIONS” BY DANIELS FOR GOLDAN, LLC AND IF DANIELS HAD A “CONTROLLING INTEREST” IN GOLDAN, LLC. The Business Enterprise Exclusion is a separate defense to coverage of the default judgment. That exclusion bars coverage of claims arising out of actions that the insured performs for any business of which he or she owns more than a ten-percent interest. (R. 205, § III.E.). For the reasons that follow, based on Respondents’ own allegations in their complaint, questions of fact precluded the entry of summary judgment. The Business Enterprise Exclusion in the AGLIC policy provides: This policy shall not apply to any Claim based upon or arising out of, in whole or in part: * * * E. The alleged acts or omissions by any Insured, with or without compensation, for any business enterprise, whether for profit or not-for-profit, in which any Insured has a Controlling Interest. Controlling interest “means the right of an Insured . . . directly or indirectly, to: 1. own 10% or more of an interest in an entity... (R. 205, § III.E.). 24 Here, Respondents alleged in their complaint that Daniels was one of only two “members” of Goldan (R. 69, ¶6). They contend that he executed promissory notes on behalf of Goldan for the repayment of the loans that Respondents made to it. (R. 116-21). Further, they assert that Daniels personally guaranteed those debts on behalf of Goldan. (R. 91, ¶44-49). Executing and guaranteeing those loans were clearly acts for Goldan. Respondents also allege that Daniels failed to honor those guarantees when Goldan failed to repay the loans. (R. 91-93). Respondents’ pleadings thus established questions of facts concerning whether Daniels’ had a “controlling interest” in Goldan and whether he had acted or failed to act for Goldan. Those questions of fact made the entry of summary judgment improper. The Business Enterprise Exclusion in the AGLIC Policy has been found by both the United States District Court of Nevada and the Appellate Court of Illinois to be clear and unambiguous and been held to preclude coverage for “any insured for claims relating to a business enterprise in which any insured held a controlling interest.” Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 at *12-*16; Am. Zurich Ins. Co. v. Wilcox & Christopoulos L.L.C., 2012 Ill. App. Unpub. LEXIS 2606 *30, ¶¶ 40-43 (1st Dist. Oct. 25, 2012).1 Instead of addressing the clear and unambiguous interpretation of the Business Enterprise Exclusion, Respondents attempt to limit the language such that it 1 Wilcox & Christopoulos was decided after both AGLIC and Respondents had served their opening briefs on this Court. 25 applies only in a situation in which Daniels was representing Goldan as Goldan’s attorney. (Resp’ts Br. at 49-51). In support of its contorted interpretation of the exclusion, Respondents argue that the legal malpractice claims are based on allegations of omissions by Daniels to perform services for them and not for Goldan, and that the recording of mortgages and procurement of title insurance was to be for the benefit of Respondents. (R. 52). Respondents would have this Court ignore the fact that the legal malpractice claim is “based on or aris[es] out of, in whole or in part,” Daniels’ “acts or omissions” for Goldan. (R. 205, § III.E.). In the Underlying Complaint, which Respondents attached to their complaint in this matter (R. 71, ¶ 17), Respondents allege that Daniels was one of two members of Goldan (R. 85, ¶ 7), that Goldan became insolvent and unable repay the loans that Respondents made to it (R. 87- 88, ¶¶ 21, 27), and that Goldan executed a written guaranty for each loan made by Respondents to Goldan, which became due and owing on Goldan’s default. (R. 91, ¶¶ 45-49, R. 116-31, 373, 377-80). Thus, the record presents a genuine question of material fact whether Respondents’ claims are based upon, in whole or in part, an act or omission by Daniels for Goldan, such as the signing of promissory notes and personal guarantees on behalf of Goldan, and whether Daniels had a controlling interest in Goldan. Taken as true, those facts would trigger the Business Enterprise Exclusion. See Regal Constr. Corp., 15 N.Y.3d at 38 (discussing “arising out of” 26 standard); see also Resp’ts Br. at 8, n.5 (“Any suggestion, however, that the Legal Malpractice Claims are based on anything other than the loans made to Goldan is belied by the Record.”). Respondents argue that the purpose of the Business Enterprise Exclusion is limited “‘to exclud[ing] claims based upon legal work performed by an insured for an enterprise in which he or she has some kind of ownership interest…’” (Resp’ts Br. at 53 (quoting Oot v. Home Ins. Co., 244 A.D.2d 62, 70 (4th Dep’t 1998)). Respondents thus ignore the other purpose of the exclusion, which is “to avoid the circumstance where an insured so intermingles his business relationships with his law practice that an insurance carrier incurs additional risk of having to cover the insured for legal malpractice claims relating to the conduct of business, rather than solely out of the professional practice.” Jeffer v. Nat’l Union Fire Ins. Co., 703 A.2d 316, 322 (N.J. Super. App. Div. 1997). Ultimately, the Business Enterprise Exclusion precludes coverage of the “risk associated with an insured’s decision to pursue business opportunities that may result in conflicts between the lawyer’s best interests and those of his client.” Antonelli, Terry, Stout & Kraus, 2010 U.S. Dist. LEXIS 122836, *26-*27 (addressing similar version of Business Enterprise Exclusion). The Business Enterprise Exclusion will apply whenever an insured attorney performs services for more than one entity, creating a conflict between the legal duty owed to the client and the fiduciary duty owed to the separate business 27 entity. Wilcox & Christopoulos, 2012 Ill. App. Unpub. LEXIS 2606 at *11, ¶ 19, *16, ¶ 24, *27, ¶ 36 (ruling that Insured Status Exclusion barred coverage of legal- malpractice claim where insured attorney who represented plaintiff was also owner of business that was involved in transactions that caused plaintiff’s loss); Flangas McMillan Law Group, Inc., 2012 U.S. Dist. LEXIS 24114 at *13 (“coverage would be excluded for any insured for claims relating to a business enterprise in which any insured held a controlling interest”). Rather than address the ruling of the Antonelli court, Respondents argue that the case is factually distinguishable, claiming that the exclusion at issue in Antonelli is broader than the exclusion at bar because it uses the term “in connection with.” (Resp’ts Br. at 54). However, under New York law, the term “arising out of” means: “originating from, incident to, or having connection with,” Regal Constr. Corp., 15 N.Y.3d at 38, so the policy language in Antonelli is not broader than the AGLIC policy language at issue. Respondents take issue with the dissent and AGLIC’s reliance on Potomac Ins. Co. v. McIntosh, 804 P.2d 759 (Ariz. Ct. App. 1990), review deneid, 812 P.2d 969 (Ariz. 1991), a case that is factually similar to the present matter. In McIntosh, the Arizona Court of Appeals ruled that a similar Business Enterprise Exclusion was clear and unambiguous and applied despite the presence of a professional malpractice allegation in the underlying complaint. Id. at 763. In fact, the 28 complaint in McIntosh, as amended, involved only one count, alleging legal malpractice against the insured attorney. Id. at 760. Even when considering only a single count for attorney malpractice, the Arizona Court of Appeals found the Business Enterprise Exclusion applied to preclude coverage for the allegations against the attorney because “[a]ssuming that [the insured attorney] may have been liable for negligent acts committed in his capacity as an attorney does not determine the question of whether that negligence falls within the coverage of the policy.” Id. at 761 (citing Argona v. St. Paul Fire & Marine Ins. Co., 378 A.2d 1346 (Md. 1977)). Rather, “the proper focus ... is the proximate or direct cause of [the plaintiff investors’] loss: attorney negligence or business reverses.” Id. Respondents argue, without any citation to the record, that McIntosh is distinguishable because there is “no such business relationship between [Respondents] and Daniels.” (Resp’ts Br. at. 54). This ignores the allegations made by Respondents that Daniels was a “member” of Goldan, that Respondents made multiple loans to Goldan, and that Daniels guaranteed all of those loans. (R. 84-89). As the McIntosh court stated, a court should focus on the proximate cause of the injury, which in that case were business reverses. McIntosh, 804 P.2d at 762. Said differently, the proximate and direct cause of the loss incurred by the plaintiff investors in McIntosh was the limited partnership’s “inability to pay the loan.” Id. This loss was directly attributable to the limited partnership’s “business 29 failure” -- not to the insured’s alleged malpractice as an attorney. Id. Here, as in McIntosh, if the loans had been repaid by Goldan, Respondents would have had no damages. (See R. 87-88, ¶¶ 21, 27). If Daniels had honored his personal guarantees of those loans, Respondents again would have had no damages. (See R. 91, ¶¶ 45-49). In other words, Respondents’ damages are a business loss directly attributable to Goldan’s “inability to pay the loan.” McIntosh, 804 P.2d at 762. Although Respondents argue without any citation that Daniels’ failure to record the subject mortgages caused their damages, the proximate cause of their injury was Goldan’s failure to repay the loans, as well as Daniels’ failure to honor his personal guarantees of those loans,. As in McIntosh, Respondents’ loss is therefore directly attributable to a “business failure.” Id. C. THE MAJORITY COMMITTED REVERSIBLE ERROR IN REFUSING TO CONSIDER EVIDENCE IN THE UNDERLYING PLEADINGS THAT WAS NOT DETERMINED AND COULD NOT HAVE BEEN RAISED IN THE LEGAL-MALPRACTICE DEFAULT JUDGMENT AND THAT CREATES QUESTIONS OF FACT MATERIAL REGARDING THE APPLICABILITY OF THE RELEVANT EXCLUSIONS. The majority erred in refusing to consider any evidence outside the default judgment. Robbins, 236 A.D.2d at 771. An insurer “having disclaimed its duty to defend its insured in the underlying action ... may not ... raise defenses extending to the merits of plaintiff’s claim against the insured ... even where the judgment 30 was rendered by default.” Rucaj v. Progressive Ins. Co., 19 A.D.3d 270, 273 (1st Dep’t 2005) (citing Robbins, 236 A.D.2d at 771) (other citations omitted). An insurer is, however, permitted to raise defenses that it would have against the insured. Id.; Lang, 3 N.Y.3d at 355. In other words, an insurer is permitted to raise coverage defenses that it would have been able to maintain against its insured had the insured brought a declaratory judgment action against the insurer. Id. The insurer may assert policy exclusions, so long as the insurer does not “go behind the underlying default judgment to raise defenses extending to the merits of plaintiff’s claim against the insured.” Robbins, 236 A.D.2d at 771; Lang, 3 N.Y.2d at 355. It is not entirely clear whether Respondents challenge this law or not. Respondents argue that AGLIC cannot seek to assert the subject exclusions as a defense to coverage of the default judgment because the facts relevant to whether those exclusions would apply could have been litigated in the underlying malpractice action. (Resp’ts Br. at 32). Yet Respondents concede that certain facts pertinent to the applicability of the exclusions were not at issue in the legal malpractice claim. (Resp’ts Br. at 35). Specifically, Respondents confirm that: “The Legal Malpractice Claims are expressly based upon an attorney-client relationship between Daniels and [Respondents,] not upon Daniels’s status with Goldan.” (Id.). Likewise “Neither Daniels’ status in relation to Goldan, nor his relation to Goldan, was a basis for the suit against Daniels.” (Resp’ts Br. at 39). 31 Respondents state that these facts were “of no concern to [Respondents’] claim.” (Id.). Given that the Respondents’ professional malpractice claim against Daniels: 1) was not based on Daniels’ status in Goldan or 2) Daniels’ relation to Goldan, and 3) that Daniels’ status was “of no concern” to Respondents’ claim, AGLIC has every right to assert these facts as they relate to AGLIC’s policy exclusions, because the adjudication of these facts will not disrupt the finding in the legal malpractice action. Robbins, 236 A.D.2d at 771; Lang, 3 N.Y.2d at 355. Thus, the coverage defenses available to AGLIC are “independent of the facts underlying [the] judgment against [the] insured.” (Resp’ts Br. at 29). In further support of its argument, Respondents claim that the time for AGLIC to challenge the facts pertinent to the exclusions was in the Underlying Action. (Resp’ts Br. at 39). Respondents argue that had American Guarantee wished to offer proof that the subject exclusions apply, “it should have done so in connection with raising a defense in the Underlying Action.” (Resp’ts Br. at 23). However, it would have been improper for AGLIC to have undertaken the defense and steered the litigation towards the application of the policy exclusions, which would have minimized its liability under its policy. See Ansonia Assocs. LP v. Public Serv. Mut. Ins. Co., 257 A.D.2d 84, 89 (1st Dep’t 1999) (recognizing an evil to be avoided is to “fashion the litigation so as to minimize its liability under the [insurance policy]”) (citation omitted), appeal denied, 96 N.Y.2d 715 (2001). 32 Thus, the argument that AGLIC will have a “second opportunity” to assert circumstances concerning the [exclusions]” (Resp’ts Br. at 23) simply lacks any merit. Rather than identify any case in which the insurer was prohibited from relying on evidence outside of the pleadings when the evidence relied on does not “go behind the underlying default judgment,” Respondents attempt to distinguish the case law purportedly relied on by AGLIC. (Resp’ts Br. at 30 (discussing Wenig, 294 N.Y. 195; Fisher v. Hanover Ins. Co., 288 A.D.2d 806 (3d Dep’t 2001); Fusco v. American Colonial Ins. Co., 221 A.D.2d 231 (1st Dept 1995); Cirone v. Tower Ins. Co. of N.Y. 76 A.D.3d 883 (1st Dep’t 2010); Fox v. Emp’rs’ Liab. Assurance Corp., 243 A.D. 325 (4th Dep’t), aff’d, 267 N.Y. 609 (1935); Holmes v. Allstate Ins. Co., 33 A.D.2d 96 (4th Dep’t 1969)).2 Though Respondents attempt to distinguish well-established case law because of immaterial factual differences, Respondents cannot dispute the general holding that “[a] judgment creditor, seeking to enforce a policy insuring the judgment debtor against liability, stands in the shoes of the assured and can recover against the insurer only if the assured could recover under the terms of the policy.” Wenig, 294 N.Y. at 198-99. Thus, the terms of the policy govern and an insurer can rely on facts that are not 2 Respondents’ claim that AGLIC relied on Cirone, Fisher, and Fusco in its opening brief is a misstatement, because those cases never appear in AGLIC’s opening brief. 33 part of the underlying action to implicate an exclusion. Robbins, 236 A.D.2d at 771. Given that Daniels’ status in Goldan was not part of or a concern of the underlying action, AGLIC is permitted to rely on fact pertinent to that point. Undeterred by the case law permitting an insurer to rely on facts to preclude coverage to a judgment creditor so long as those facts were not litigated in the underlying action, Respondents argue that the dissent erred because the cases it relied on involved situations where the “carrier and the insured are at odds with one another in raising the subject defenses.” (Resp’ts Br. at 32 (citing Matijiw v. NY Central Mut. Fire Ins. Co., 292 A.D.2d 865 (4th Dep’t 2002); Robbins, 236 A.D.2d at 771; Hough v. USAA Cas. Ins. Co., 93 A.D.3d 405 (1st Dep’t 2012)), Respondents go as far as to state that “[h]ere, in contrast, if there were any merit to Daniels’ position with regards to the Legal Malpractice Claims, Guarantee and Daniels could have pursued a successful defense.” (Resp’ts Br. at 302). AGLIC would have acted improperly if had undertaken the defense and steered the defense such that the facts pertinent to the application of the exclusions were decided. See Ansonia Assocs., 257 A.D.2d at 89. In sum, the default judgment did not foreclose the possibility that exclusions in AGLIC’s policy could preclude coverage of the claims against Daniels. The record raises genuine issues of material fact regarding whether Respondents’ claims arose out of, in whole or in part, either (1) Daniels’ “capacity or status” as 34 an “officer, director, partner, trustee, shareholder, manager, or employee of” Goldan or (2) acts or omissions by Daniels for Goldan. Because the entry of default judgment does not prohibit AGLIC from asserting policy exclusions, Robbins, 236 A.D.2d at 771, and because the record raises genuine questions of material fact whether those policy exclusions apply, see generally (R. 84-89), this Court should reverse the judgment below and remand to the Supreme Court. II. THE DISMISSAL OF RESPONDENTS’ BAD-FAITH CLAIM WAS PROPER BECAUSE AGLIC HAD AN ARGUABLE BASIS TO DENY COVERAGE, ESPECIALLY IN LIGHT OF THE “QUESTIONABLE CIRCUMSTANCES” SURROUNDING THE CLAIM. Since the filing of its lawsuit against AGLIC, six Justices have been unanimous on one issue: Respondents’ claims against AGLIC for bad faith have no merit. (R. 370 (majority)); (R. 372 (dissent)), (R. 38 (JHO Gammerman)). In affirming the dismissal of Respondents’ bad faith causes of action, the majority ruled that AGLIC did not commit bad faith, specifically noting the “questionable circumstances of the underlying transactions.” (R. 371.) “Questionable circumstances” is a modest description of the circumstances surrounding the transactions in light of the multiple conflicts of interest that are apparent from the allegations in the complaint in the Underlying Action. Respondents’ complaint and attachments thereto allege that (1) Daniels represented the Respondents (R. 85, ¶ 9); (2) while a member of Goldan (R. 85, ¶ 7), the company to which the 35 Respondents provided loans (R. 85-88, ¶¶ 8-29); (3) Daniels provided a personal guaranty of the loans (R. 91, ¶ 38, R. 122-31); and (4) Daniels personally signed several of the notes. (R. 117, R. 120). Thus, based on Respondents’ complaint and their attachments to it, Daniels acted in multiple capacities regarding the loans, including: (1) as an attorney for Respondents (R. 69, ¶ 7), (2) as a member of Goldan (R. 69, ¶ 6), (3) as a signatory of promissory notes (R. 116-121), and (4) as a guarantor of each of those loans. (R. 122-131). Based on Daniels’ representation to AGLIC, (R. 213), he potentially acted in a fifth capacity as well: as an attorney for Goldan. (Id.). The allegations and exhibits to the complaint therefore show that Daniels acted with more than one conflict of interest and wore numerous hats throughout the transactions, thereby raising multiple questions of fact regarding the applicability of the exclusions as discussed above. Therefore, an arguable basis existed for the denial of coverage. Given Respondents’ own pleadings and the law governing bad faith, it is evident that AGLIC had an arguable basis to deny coverage to Daniels. A. AGLIC DID NOT COMMIT BAD FAITH IN REFUSING TO DEFEND DANIELS. New York’s law on bad faith is “well settled in this State’s jurisprudence.” Pavia v. State Farm Mut. Auto. Ins. Co., 82 N.Y.2d 445, 452 (1993), reh. denied, 83 N.Y.2d 779 (1994). To establish a prima facie case of bad faith against an 36 insurer, the plaintiff must establish that the insurer “has ‘advanced its own interests by compromising those of its insured,’” such that its conduct constituted a “gross disregard” of the insured’s interests. Id. at 452-53 (quoting Gordon v. Nationwide Mut. Ins. Co., 30 N.Y.2d 427, 446 (Breitel, J. dissenting), reh. denied, 31 N.Y.2d 709 (1972), cert. denied, 93 S. Ct. 1374 (1973)); see also Redcross v. Aetna Cas. & Surety Co., 260 A.D.2d 908, 911 (3rd Dep’t 1999). To establish a prima facie case of a “gross disregard” of the insured’s interests, the insured must show that the carrier engaged in “a deliberate or reckless failure to place on equal footing the interests of its insured with its own interest.” Pavia, 82 N.Y.2d at 453. An insurer that acts negligently or makes an error in judgment has not acted in bad faith under New York law. Id.; Fed. Ins. Co. v. N. Am. Specialty Ins. Co., 83 A.D.3d 401, 402 (1st Dep’t 2011) (“An insurer does not breach its duty of good faith when it makes a mistake in judgment or behaves negligently”). Rather, as Respondents concede, a party must show that the insurer acted “in such bad faith in denying coverage that no reasonable carrier would, under the given facts, be expected to assert it.” (Resp’ts Br. at 69 (quoting Sukup v. State, 19 N.Y.2d 519 (1967)). Said differently, courts look to whether the insurer had an “arguable case” or an “arguable basis” to support its coverage decision. Gordon, 30 N.Y.2d at 431; Redcross, 260 A.D.2d at 914. Both this Court and the Appellate Division apply the “arguable basis” standard to cases involving denials of coverage 37 as well as refusals to settle. Gordon, 30 N.Y.2d at 431 (“More than an ‘arguable case’ of coverage responsibility must be shown before liability may be imposed for breach of an implied covenant to act in good faith in denying coverage.”); DMP Contracting Corp. v. Essex Ins. Co., 76 A.D.3d 844, 847 (1st Dep’t 2010) (applying Pavia standard to reject bad-faith claim for denial of insurance coverage); Daus v. Lumberman’s Mut. Cas. Co., 241 A.D.2d 665, 666 (3d Dep’t), appeal denied, 90 N.Y.2d 812 (1997) (same); Redcross, 260 A.D.2d at 914 (applying Gordon standard to claim of bad-faith denial of coverage); Decker v. Amalgamated Mut. Cas. Co., 43 A.D.2d 939, 940 (2nd Dep’t) (same), modified, 35 N.Y.2d 950 (1974); see also Dano v. Royal Globe Ins. Co., 59 N.Y.2d 827, 829-30 (1983) (applying Gordon standard of bad faith to refusal to settle).3 Applying this well-settled law, the majority held as follows: Finally, [Respondents] failed to establish a prima facie case of bad faith based upon defendant’s “gross disregard” of the insured’s interests under the policy (see 3 In its Motion for Leave to Appeal, the Respondents claimed that the law on bad- faith duty to defend is unsettled. Resp’ts Leave to Appeal Br. at 13-14, 20. Respondents, however, have taken the position at the lower courts and in their brief on cross-appeal to this Court that the Pavia standard applies to bad-faith duty to defend actions. Resp’ts Nov. 3, 2010, Br. on Appeal at 49-50 (citations omitted); Resp’ts Reply Br. on Appeal at 6-7; see also (R. 305) (Resp’ts Summary Judgment Brief). Given that Respondents have abandoned their argument that the law on bad faith is unsettled, it would be improper for Respondents to argue same in its Reply to this opposition. People v. Ford, 69 N.Y.2d 775, 777 (1987) (“This contention was improperly raised for the first time in appellant’s reply brief to this court”); Matter of Sedita v. Sacha, 951 N.Y.S.2d 459 (4th Dep’t 2012) (arguments made for the first time in reply brief were not properly before the court). 38 Pavia v State Farm Mut. Auto. Ins. Co. (82 NY2d 445, 453, 626 NE2d 24, 605 NYS2d 208 [1993]), given Daniels’s representation to defendant that, notwithstanding the allegations of the complaint concerning his legal representation of plaintiffs, his law firm rendered services to Goldan, and the overall questionable circumstances of the underlying transactions. (R. 271). Likewise, the dissent agreed with the majority “that plaintiffs failed to establish a prima facie case of bad faith based upon defendant’s alleged gross disregard of its insured’s interests.” (R. 372). Here, there is simply no evidence that AGLIC acted in bad faith because AGLIC had an “arguable basis” to deny coverage, especially in light of the “questionable circumstances” surrounding the transaction. (R. 371). In denying coverage to Daniels, AGLIC noted that the relief sought by Respondents did not trigger the insuring agreement and fell outside the scope of covered “Damages.” (R. 138). AGLIC also noted that the insuring agreement was not triggered because the allegations were based on self-dealing and the failure to render services to others. (R. 138-139). AGLIC also relied on the Insured Status and Business Enterprise exclusions. (R. 139-140). Finally, AGLIC reserved its rights to rely on the intentional act exclusion. (R. 141). AGLIC had an arguable basis to rely on the insuring agreement and particular exclusions because the complaint alleged “questionable circumstances” wherein Daniels, as an attorney, was representing Respondents in connection with 39 the loans that they made to Goldan, while at the same time, as a “member” of Goldan, he signed certain of the promissory notes on behalf of Goldan, and, on behalf of Goldan, he personally guaranteed all of the loans that Respondents made to Goldan. (R. 371). Making the facts surrounding this transaction even more “questionable,” Daniels admitted to AGLIC that he was not providing services to the Respondents, and was retained and performing services on a retainer basis for Goldan. (R. 213-214). Thus, based on the “questionable circumstances” alleged, the exhibits attached to the complaint, and Daniels’ admission, AGLIC had an arguable basis to rely on the insuring agreement, and exclusions. Respondents challenge this position by arguing that AGLIC “willfully ignored its indisputable obligation.” (Resp’ts Br. at 69). Respondents claim that AGLIC “engaged in a gross disregard of its obligations to Daniels when it refused to defend him.” (Id. at 70). In support of its position, Respondents argue that AGLIC’s coverage obligations are governed by the Appellate Division decision in American Guar. & Liab. Ins. Co. v. Moskowitz, 58 A.D.3d 426, 427 (1st Dep’t 2009). (Resp’ts Br. at 70-72). In Moskowitz, the insurer, AGLIC, disclaimed coverage based on the intentional act exclusion, the insured status exclusion, and the argument that the insuring agreement of the subject lawyers-malpractice policy was not triggered. American Guar. & Liab. Ins. Co. v. Moskowitz, 856 N.Y.S.2d 820 (N.Y. Sup. Ct. 40 2008). On appeal, the court affirmed the lower court’s ruling that AGLIC owed a duty to defend. In rendering its decision, the court ruled that the insuring agreement was triggered because the amended complaint alleged legal malpractice against the attorney, i.e., that the attorney represented the individual who brought the action, and committed acts or omissions in that representation. Moskowitz, 58 A.D.3d at 427. The court also found the intentional act exclusion and insured status exclusion did not apply to exclude defense coverage. Id. In ruling the various exclusions inapplicable, the court ruled that a conclusory, unsupported allegation that the attorney was “a member of a criminal enterprise” was insufficient to trigger the exclusions to preclude defense coverage. Id. Moskowitz dealt with an entirely different set of facts. In that case, the insured was sued in his capacity as a lawyer for the clients that he defrauded, and a “fair reading” of the complaint “expressly” alleged that the claims against the insured “were predicated on his purported acts or omissions in rendering those services.” 58 A.D.3d at 427. Here, based on Respondents’ own allegations, Daniels represented Respondents while serving as a member of Goldan, the company to which Respondents provided loans, and Daniels, acting as an individual, provided a personal guaranty of the loans and personally signed several of the notes. (R. 85, R. 87, R. 91, R. 117, R. 120). Also unlike in Moskowitz, here Daniels conceded that he was providing legal services on a retainer basis to 41 Goldan, and did not represent the Respondents. (R. 213-214). Unlike the Moskowitz case, therefore, this case involved “questionable circumstances” identifying a clear conflict of interest between Daniels’ legal representation of Respondents, Goldan’s business interests, and Daniels’ own financial interests. (Id.). Further, Moskowitz involved the Insured Status Exclusion, not the Business Enterprise Exclusion. 58 A.D.3d at 427. Moskowitz thus cannot sustain Respondents’ causes of action for bad faith. Recognizing that Moskowitz did not address the Business Enterprise Exclusion and dealt only with the Insured Status Exclusion, Respondents also rely on Oot, 244 A.D.2d at 70, for its claim that AGLIC committed bad faith. Oot is factually distinguishable and likewise does not support of Respondents’ bad-faith claim. In Oot the exclusion at issue precluded coverage for: “any claim based upon or arising out of the work performed by the Insured, with or without compensation, with respect to any … partnership, limited partnership, business enterprise or other venture … in which any Insured has any pecuniary or beneficial interest … unless such entity is named in the Declarations.” 244 A.D.2d at 70 (emphasis in original). The issue in Oot involved whether the insured attorney had a “pecuniary or beneficial interest” in Olde Mill, the entity that brought the action against the insured attorney. Id. According to the Court: The underlying action arises out of work performed by Earl for Olde Mill; Thomas did not participate, and his 42 liability arises solely by virtue of his partnership with Earl. Section C (I) (h) [the business enterprise exclusion] does not unambiguously exclude coverage for the underlying action merely because Earl at one point held a mortgage on property owned by Olde Mill. We agree with plaintiffs that the exclusion applies only to a “pecuniary or beneficial” interest that the insured “has” at the time the claim is made for which the insured seeks coverage. Id. The Business Enterprise Exclusion here is worded differently than the exclusion at issue in Oot and does not use the term “pecuniary or beneficial interest.” (R. 205, § III.E.). Thus, given that Oot is factually distinguishable, and involved a completely different exclusion, Respondents’ reliance on Oot is misplaced. Undeterred by the six Justices that have found no merit to their bad-faith causes of action, the Respondents argue that AGLIC’s reliance on any statement of Daniels is inappropriate because it is hearsay and it cannot be used to deny the duty to defend. (Resp’ts Br. at 68-70). Daniels represented AGLIC that he was being sued as a result of legal services that he rendered to Goldan. (R. 213-214). Respondents’ argument that Daniels’ representation is hearsay is without merit. There can be no dispute that a party’s admission constitutes an exception to the rule barring hearsay evidence. See People v. Johnson, 93 N.Y.2d 254, 260 (1999) (party admission is exception to hearsay and is permitted); People v Valdes, 66 A.D.3d 925, 926 (2d Dep’t 2009) (same). Here, Respondents have instituted this 43 bad faith action as an assignee of Daniels. “[A]n assignee stands in the shoes of an assignor,” East Acupuncture, P.C. v. Allstate Ins. Co., 61 A.D.3d 202, 211 (2d Dep’t 2009), and “acquire[s] no greater rights than [the assignor] had.” N.Y. Presbyterian Hosp., 17 N.Y.3d at 592. This Court has made clear that as a matter of law, “an assignee never stands in any better position that his assignor.” In re Int’l Ribbon Mills, 36 N.Y.2d 121, 126 (1975). Therefore, an assignor “takes an assignment subject to any preexisting liabilities,” which “includes all defenses and counterclaims that can be asserted against the assignor.” TPZ Corp. v. Dabbs, 25 A.D.3d 787, 789 (2d Dep’t 2006); accord In re International Ribbon Mills, 36 N.Y.2d at 126 (stating that assignment is “subject to all equities and burdens” of the rights held by the assignor). Accordingly, given that Respondents have been assigned Daniels’ rights and are maintaining this bad faith action based on that assignment, they are bound by his own admission as a party admission. See N.Y. Presbyterian Hosp., 17 N.Y.3d at 592 (stating that assignee has no greater rights than assignor). Respondents’ argument that AGLIC cannot rely on Daniels’ statement to relieve it from a duty to defend is also misplaced. (Resp’ts Br. at 76). Generally speaking, an insurer cannot rely on extrinsic evidence to deny its obligation to defend. See Fitzpatrick v. Am. Honda Motor Co., 78 N.Y.2d 61, 66 (1991). However, “[a] party’s characterization of the causes of action alleged in a 44 complaint are not controlling ... [and i]n this pursuit, extrinsic facts may be considered.” Gibbs v. CNA Ins. Cos., 263 A.D.2d 836, 838 (3d Dep’t 1999) (internal citations and quotations omitted). Here, AGLIC does not dispute that the Complaint alleges that Daniels committed legal malpractice while representing Respondents. (R. 84-88). However, the complaint includes evidence that Daniels served in multiple other capacities in the transactions (as a member of Goldan, as a signor of promissory notes, and as a personal guarantor of those notes). Daniels’ admission to AGLIC is therefore probative of the allegations in Respondents’ complaint. See Gibbs, 263 A.D.2d at 838. Likewise, Daniels’ other admissions identify the “questionable circumstances” of the loan transactions (R. 371) and the applicability of the exclusions. In its December 31, 2008, reservation to Daniels, AGLIC confirmed its conversation with Daniels and identified the following facts: * Daniels formed Goldan in 2000, which is a New York limited liability company; * Goldan was to purchase, develop, hold and sell commercial and residential real estate; * To assist in its endeavors, Goldan obtained funding from Respondents, which loaned money to Goldan to invest in certain properties. 45 (R. 216-217). These admissions by Daniels not only establish the questionability of the circumstances surrounding the transaction, but provide further support for AGLIC’s reasonable basis for denying coverage, especially as to the applicability of the Insured Status Exclusion and Business Enterprise Exclusion. In fact the dissent noted the following record facts could potentially trigger the business exclusions: * Daniels had represented to AGLIC that any legal services that he had rendered in connection with the loan transactions were on behalf of Goldan (R. 378); * The complaint in the Underlying Action stated that Daniels was a member of Goldan (id.); * Daniels held a pecuniary interest in Goldan at the time of the claims at issue in the Underlying Action (R. 380); * Daniels had personally guaranteed Goldan’s obligations to Respondents (id.); * Daniels had potentially engaged in self-dealing by representing Respondents while he was a principal of the business enterprise that benefitted from receiving the loans from Respondents (R. 378); and, * Daniels stood to “receive a direct benefit” if AGLIC covered Respondents’ claims because the coverage would relieve him of liability for his personal guarantees of Goldan’s obligations to Respondents. (R. 380). The record establishes AGLIC’s reasonable belief that the claim arises out of, in part, Daniels’ status in Goldan, that Daniels represented both Goldan and 46 Respondents at the same time, and that Daniels’ representation of both Respondents and Goldan created a conflict of interest. (R. 378-380). These facts create an arguable basis for AGLIC’s denial of coverage. Daniels’ admissions, combined with the allegations in the complaint and exhibits thereto, clearly identify a conflict of interest and an arguable basis for AGLIC to deny coverage to Daniels. Gordon, 30 N.Y.2d at 431. Respondents are incorrect to argue that the grant of summary judgment on their bad faith cause of action was “inexplicable.” Resp’ts Br. at 78. Ultimately, the Respondents’ argument for bad faith is premised on their belief that AGLIC’s disclaimer was “meritless” because Respondents believe that the Business Enterprise Exclusion and Insured Status Exclusion do not apply to the facts herein. Id. at 74. As demonstrated above, the Insured Status Exclusion and Business Enterprise Exclusion are potentially applicable, as the dissent found. (R. 372-378). Respondents argue that AGLIC’s position on appeal “constitutes an admission of its uncertainty at the time it disclaimed as to the facts surrounding whether the subject exclusions would defeat [Respondents’] claim.” (Resp’ts Br. at 75). This argument is likewise without merit. The record contains no facts supporting the argument that there was uncertainty on the part of AGLIC at the time it disclaimed coverage. Based upon the questionable circumstances of the 47 underlying pleadings and attachments thereto, the letter from Daniels and AGLIC’s discussions with Daniels, AGLIC had an arguable basis to deny coverage. (R. 215- 21 [AGLIC’s December 31, 2008, letter to Daniels]; R. 134-43 [AGLIC’s March 9, 2009, letter to Daniels]). Indeed, AGLIC moved for summary judgment on both exclusions. (R. 61-62, ¶ 7). The fact that the dissent below found that there are questions of fact regarding the applicability of the exclusions supports the conclusion that AGLIC had an arguable basis for disclaiming coverage. (R. 383- 84). Given the showing that AGLIC’s denial of coverage was arguably correct, see supra at 35-46, and there being no question of facts as to the bad faith claim, the grant of summary judgment in favor of AGLIC was proper and this Court should affirm it. B. AGLIC DID NOT COMMIT BAD FAITH IN REFUSING RESPONDENTS’ SETTLEMENT OFFER. This Court has made clear “that an insurer cannot be compelled to concede liability and settle a questionable claim simply because an opportunity to do so is presented.” Pavia, 82 N.Y.2d at 454 (internal quotation and citation omitted). In Pavia, this Court set forth factors to be considered in determining whether there is a bad faith duty to settle, which include: * The plaintiff’s likelihood of success on the liability issue in the underlying action; 48 * the potential magnitude of damages and financial burden each party may be exposed to as a result of the refusal to settle; * failure to properly investigate the claim * any coverage defenses to the claim * any other evidence that tends to establish of negate an insurer’s bad faith refusal to settle. [Id. at 454-55.] The party asserting bad faith must show that the insured lost an actual opportunity to settle “at a time when all serious doubts about the insured’s liability were removed.” CBLPath, Inc. v Lexington Ins. Co., 73 A.D.3d 829, 831 (2d Dep’t 2010). In addition, there can be no bad faith when the insurer has a valid basis for disclaiming coverage. Gordon, 30 N.Y.2d at 431; Daus, 241 A.D.2d at 666. Here, Respondents’ bad faith causes of action were properly dismissed given that AGLIC has a valid coverage defense to the claim for coverage and that Respondents have failed to show that the offer was made when there were no doubts as to Daniels’ liability. As discussed previously, the dissent ruled that the Insured Status Exclusion and Business Enterprise Exclusion potentially apply to preclude coverage given the clear and unambiguous terms of those exclusions. See (R. 372-382). Moreover, as demonstrated in this appeal, AGLIC’s position is that the exclusions should apply to preclude coverage to Daniels. 49 That being said, the settlement demand was made on June 8, 2009. (R. 145). At that time, there were still serious doubts as to the likelihood of liability against Daniels because Daniels identified to AGLIC that he was not representing the Respondents. (R. 213-214). This statement alone, if true, would have defeated liability as to Respondents because the first element in an attorney malpractice claim is an attorney-client relationship between Daniels and the Respondents. Dimond v. Kazmierczuk & McGrath, 15 A.D.3d 526, 527 (2d Dep’t), appeal denied, 5 N.Y.3d 715 (2005). Based on the foregoing, it is undisputable that AGLIC had a valid coverage defense and there remained, at the time of the settlement offer, “serious doubts” as to the likelihood of liability as against Daniels. Accordingly, AGLIC’s refusal to settle did not amount to bad faith, Gordon, 30 N.Y.2d at 431, a ruling on which six Justices agreed. (R. 7, 371-72). 50 CONCLUSION For the foregoing reasons, as well as those contained in its opening brief, defendant-appellant-cross-respondent, American Guarantee & Liability Insurance Company, respectfully requests that (1) the Court reverse that portion of the Decision and Order of the Appellate Division, First Department, dated January 3, 2012, affirming the Judgment of the Supreme Court entered June 23, 2010, in Respondents’ favor against AGLIC on the causes of action to enforce a default judgment; and (2) the Court affirm that portion of the Decision and Order of the Appellate Division, First Department, dated January 3, 2012, affirming the Supreme Court’s dismissal of the causes of action alleging bad faith. COUGHLIN DUFFY LLP ____________________ By: Robert J. Kelly 88 Pine Street, 28th Floor Wall Street Plaza New York, New York 10005 212-483-0105 RKelly@coughlinduffy.com Attorneys for Defendant-Appellant- Cross-Respondent, American Guarantee & Liability Insurance Company