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) APL-2012-00055 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. SUPPLEMENTAL 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 15, 2013 i DISCLOSURE STATEMENT Pursuant to section 500.1(f) and 500.13(a) of the Rules of Practice of this Court, defendant-appellant, American Guarantee & Liability Insurance Company, provides the following Disclosure Statement: American Guarantee & Liability Insurance Company is a wholly owned subsidiary of Zurich American Insurance Company, a New York corporation. Zurich American Insurance Company is a wholly owned subsidiary of Zurich Holding Company of America, Inc., a Delaware corporation. Zurich Holding Company of America, Inc. is a 99.8711% owned subsidiary of Zurich Insurance Company, a Swiss corporation. (The remaining 0.1289% is owned by ZGA US Limited.) Zurich Insurance Company is a wholly owned subsidiary of Zurich Group Holding, a Swiss corporation. Zurich Group Holding is owned 43% by Allied Zurich P.L.C. and 57% by Zurich Financial Services. Allied Zurich P.L.C. is a wholly owned subsidiary of Zurich Financial Services. Zurich Financial Services is the only publicly traded parent company, with a primary listing on the Swiss stock exchange and a secondary listing on the London stock exchange, and a further trading of American Depositary Receipts. American Guarantee & Liability Insurance Company’s affiliates are: American Zurich Insurance Company, Assurance Company of America, Colonial American Casualty and Surety Company, Empire Fire & Marine Insurance Company, Empire Indemnity Insurance Company, The ii Fidelity and Deposit Company of Maryland, Maine Bonding and Casualty Company, Maryland Casualty Company, Maryland Insurance Company, National Standard Insurance Company, Northern Insurance Company of New York, Valiant Insurance Company, Universal Underwriters Insurance Company, Universal Underwriters of Texas Insurance Company, Universal Underwriters Life Insurance Company, Zurich American Insurance Company, Zurich American Insurance Company of Illinois. iii TABLE OF CONTENTS Disclosure Statement ...............................................................................................i Table of Authorities ................................................................................................ii Preliminary Statement .............................................................................................1 Statement of Facts ...................................................................................................2 Argument ............................................................................................................9 I. A De Novo Standard Of Review Applies To Reargument, Because The Issues Presented Are Purely Legal Questions ..............9 II. Under Lang, AGLIC May Raise Exclusions In Defense To K2’s Claim For Indemnity Coverage Of The Judgment, To The Extent That The Exclusions Are Not Inconsistent With That Judgment ...........................................................................10 III. Servidone And Its Progeny Also Support The Rule That AGLIC May Raise Exclusions As A Defense To Coverage For The Default Judgment So Long As The Judgment Itself Is Not Challenged. ..............................................................................19 IV. Public Policy Requires that the June 11, 2013 Opinion Be Vacated ...............................................................................................30 V. AGLIC May Raise the Insured Status and Business Enterprise Exclusions In Defense To The Claim For Indemnity. .....................32 VI. The Court Should Not Disturb Its Ruling Affirming Dismissal of the Bad Faith Claim. ......................................................................33 Conclusion ............................................................................................................33 iv TABLE OF AUTHORITIES Page(s) CASES 23 Grouse Drive, LLC v. Hermitage Ins. Co., 2012 N.Y. Misc. LEXIS 1238 (Nassau Cty. Mar. 6, 2012) ................... 15, 16, 27 Albert J. Schiff Assocs., Inc. v. Flack, 51 N.Y.2d 692 (1980) ............................................................................. 10, 19, 20 Aldrich v. National Chiropractic Mut. Ins. Co., 1997 U.S. Dist. LEXIS 23729 (W.D.N.Y. Sept. 30, 1997) ................................ 24 Allianz Ins. Co. v. Lerner, 416 F.3d 109 (2d Cir. 2005) ............................................................................... 26 Apache Foam Prods. Div. of Millmaster Onyx Group of Kewanee Indus., Inc. v. Cont’l Ins. Co., 139 A.D.2d 933 (4th Dep't 1988) ....................................................................... 23 Bovis Lend Lease LMB Inc. v. Garito Contr., Inc., 65 A.D.3d 872 (1st Dep't 2009), appeal withdrawn, 14 N.Y.3d 884 (2010) .................................................................................................................. 25 Bowker v. NVR, Inc., 39 A.D.3d 1162 (4th Dep’t 2007) .................................................................. 14, 19 Burroughs Wellcome Co. v. Commercial Union Ins. Co., 713 F. Supp. 694 (S.D.N.Y. 1989) ..................................................................... 25 CGS Indus., Inc. v. Charter Oak Fire Ins. Co., 720 F.3d 71 (2d Cir. 2013) ..................................................................... 16, 26, 28 Cont’l Cas. Co. v. Rapid-Am. Corp., 80 N.Y.2d 640 (1993) ................................................................................... 10, 19 D’Arata v. N.Y. Cent. Mut. Fire Ins. Co., 76 N.Y.2d 659 (1990) ....................................................................... 11, 17, 23, 26 Devoe Props. LLC v. Atl. Cas. Ins. Co., 2011 U.S. Dist. LEXIS 114574 (E.D.N.Y. Oct. 4, 2011) .................................. 26 v Empire Ins. Co. v. San Miguel, 2013 N.Y. Misc. LEXIS 1442 (N.Y. Cty. Apr. 8, 2013) .................................... 15 Frontier Insulation Contractors. v. Merchants Mut. Ins. Co., 91 N.Y.2d 169 (1997) ......................................................................................... 23 Giovanielli v. Certain Underwriters at Lloyds, London, 2009 N.Y. Misc. LEXIS 1221 ............................................................................ 16 Grove Hill Assoc. v. Colonial Indem. Ins. Co., 24 A.D.3d 607 (2d Dep’t 2005) .................................................................... 16, 27 HK Sys. v. Eaton Corp., 2006 U.S. Dist. LEXIS 33695, motion denied, 2006 U.S. Dist. LEXIS 59804 (E.D. Wis. Aug. 22, 2006) ....................................................................... 26 Hotel des Artistes, Inc. v. Gen. Accident Ins. Co. of Am., 9 A.D.3d 181, appeal dismissed, 4 N.Y.3d 739 (2004) ...............................passim Hough v. USAA Cas. Ins. Co., 93 A.D.3d 405 (1st Dep’t 2012) ........................................................ 13, 17, 25, 27 In re of Philadelphia Ins. Co. (Utica Natl. Ins. Group), 97 A.D.3d 1153, appeal dismissed, 20 N.Y.3d 984 (2012) ................................ 31 JCD Int'l Gem Corp. v. Evanston Ins. Co., 1995 U.S. Dist. LEXIS 11767 (S.D.N.Y. Aug. 15, 1995) .................................. 24 K2 Investment Group, LLC v. American Guarantee & Liability Insurance Co., 21 N.Y.3d 384 (2013) ..................................................................................passim Lang v. Hanover Insurance Co., 3 N.Y.3d 350 (2004) ....................................................................................passim Lawrence v. Cont'l Cas. Co., 2013 U.S. Dist. LEXIS 116144 (E.D.N.Y. Aug. 16, 2013) ............................... 28 Lionel Freedman, Inc. v. Glens Falls Ins. Co., 27 N.Y.2d 364 (1971) ......................................................................................... 21 Martin v. Safeco Ins. Co., 1 N.Y. Misc. 3d 912(A) (N.Y. Cty. 2004) .......................................................... 12 vi Matijiw v. N.Y. Cent. Mut. Fire Ins. Co., 15 A.D.3d 865, appeal denied, 19 A.D.3d 1185 (4th Dept 2005) ....................... 14 Matijiw v. N.Y. Cent. Mut. Fire Ins. Co., 292 A.D.2d 865, appeal denied, 743 N.Y.S.2d 771 (4th Dept 2002) ............ 11, 23 Nahshon Aaron Council v. Utica First Ins. Co., 77 A.D.3d 1433 (4th Dep’t 2010), lv. denied, 16 N.Y.3d 702 (2011) .......... 13, 25 People ex rel. Powers v. Jackson, 221 N.Y.S.2d 364 (3d Dep’t 1961) ....................................................................... 9 People v. Taylor, 9 N.Y.3d 129 (2007) ..................................................................................... 30, 31 Pepper v. GEICO Idem. Ins. Co., 2010 N.Y. Misc. LEXIS 2946 (Nassau Cty. July 2, 2010) ................................ 16 Perez v. Nationwide Ins. Co., 2001 U.S. Dist. LEXIS 8502 (S.D.N.Y. June 25, 2001) .................................... 12 Plaza Constr. Corp. v. Zurich Am. Ins. Co., 2011 N.Y. Misc. LEXIS 1234 (N.Y. Sup. Ct. Mar. 23, 2011) ........................... 26 Polan v. State Ins. Dep't, 3 N.Y.3d 54 (2004) ....................................................................................... 31, 32 QSP, Inc. v. Aetna Cas. & Sur. Co., 1998 Conn. Super. LEXIS 3542 (Conn. Super. Ct. Dec. 7, 1998), aff’d, 256 Conn. 343 (Conn. 2001) (“New York has asserted an interest in circumscribing the consequences of an insurer’s breach of its duty to defend”) ............................................................................................................... 26 Republic Franklin Ins. Co. v. Pistilli, 16 A.D.3d 477 (2d Dep’t 2005) .......................................................................... 32 Robbins v. Mich. Millers Mut. Ins. Co., 236 A.D.2d 769 (3d Dep’t 1997) .................................................................. 11, 23 Rourke v. Travelers Ins. Co., 254 A.D.2d 730 (4th Dep’t 1998) ........................................................................ 11 vii Rucaj v. Progressive Ins. Co., 19 A.D.3d 270 (1st Dep’t 2005) .......................................................................... 14 Sentinel Ins. Co. v. First Ins. Co., 76 Haw. 277, amended by, 76 Haw. 453 (Haw. 1994) .......................... 24, 25, 29 Servants of the Paraclete v. Great Am. Ins. Co., 857 F. Supp. 822, amended by, 866 F. Supp. 1560 (D.N.M. 1994) ................... 24 Servidone Constr. Corp. v. Security Ins. Co., 102 A.D.2d 59 (3d Dep't 1984) .................................................................... 22, 23 Servidone Constr. Corp. v. Security Ins. Co., 106 Misc. 2d 118 (N.Y. Sup. Ct. 1980) .............................................................. 21 Servidone Construction Corp. v. Security Insurance Co., 64 N.Y.2d 419 (1985) ..................................................................................passim Shoretz v. Nationwide Ins. Co., 2002 U.S. Dist. LEXIS 12622 (S.D.N.Y. July 11, 2002) ................................... 12 Slayko v. Sec. Mut. Ins. Co., 98 N.Y.2d 289 (2002) ......................................................................................... 31 Stellar Mech. Servs. of N.Y., Inc. v. Merchants Ins. of N.H., 74 A.D.3d 948 (2d Dep't 2010) .......................................................................... 25 Weingarten v. Bd. of Trustees, 98 N.Y.2d 575 (2002) ......................................................................................... 10 STATUTES CPLR § 2221(d)(2) .................................................................................................... 9 Ins. Law § 3420 ............................................................................................ 12, 28, 32 1 PRELIMINARY STATEMENT This Court’s grant of reargument of its decision entered in K2 Investment Group, LLC v. American Guarantee & Liability Insurance Co., 21 N.Y.3d 384 (2013), permits the parties to address an issue of extraordinary significance: the sudden and sweeping change in New York law governing the ability of insurers to assert defenses to indemnity coverage resulting from the K2 decision. The K2 decision prohibits an insurer that has wrongfully disclaimed the defense of its insured from asserting coverage defenses to a claim for indemnity coverage of a judgment entered against that insured. This is a fundamental departure from well- established New York law, upending decades of insurance law that recognized the distinct difference between an insurer’s duty to defend and its duty to indemnify. New York law permits reargument when the Court has “overlooked or misapprehended” legal precedent. The Court appears to have misapprehended Lang v. Hanover Insurance Co., 3 N.Y.3d 350 (2004), which states that an insurer that has breached its duty to defend may assert policy defenses to indemnity coverage of a judgment, but may not seek to alter the judgment itself. The Court also appears to have overlooked Servidone Construction Corp. v. Security Insurance Co., 64 N.Y.2d 419 (1985), which held that an insurer’s breach of its duty to defend cannot create indemnity coverage that is otherwise excluded from the policy, a case that has been cited for that proposition for almost thirty years. 2 To eliminate the inconsistency between K2 and Lang, Servidone, and the many cases following Lang and Servidone, we respectfully request that the Court vacate that portion of its ruling prohibiting insurers from asserting defenses to indemnity coverage in actions to recover insurance proceeds based on a judgment against the insured, and reaffirm the well-established right of an insurer to assert indemnity coverage defenses to suits seeking recovery on judgments in which the underlying claims fall within one or more policy exclusions. STATEMENT OF FACTS This insurance-coverage dispute arises out of failed real-estate investments. K2 Investment Group, LLC and ATAS Management Group, LLC (collectively, “K2”) made loans to Goldan, LLC (“Goldan”). Goldan was a real-estate company that had two principals, Mark Goldman and Jeffrey Daniels, Esq. (R. 69, ¶¶ 4-6; R. 213). Goldman and Daniels, as the principals of Goldan, guaranteed those loans. (R. 91, ¶ 45). American Guarantee & Liability Insurance Company (“AGLIC”) issued to Daniels a professional-malpractice policy effective March 1, 2008, to March 1, 2009, with limits of liability of $2,000,000 for each claim and in the aggregate, which provided coverage for legal malpractice claims, subject to additional terms in the policy, including exclusions (the “AGLIC Policy”). (R. 190-212). When Goldan failed to repay those loans, K2 brought suit. (R. 84-94). The 3 suit asserted claims against Daniels in legal malpractice and in his capacity as a guarantor of the loans. (R. 87-88, ¶¶18-29; R. 91-92 ¶¶44-56). K2 also sued Goldan on the promissory notes that Daniels had signed on its behalf and asserted claims against Goldman. (R. 88-91, ¶¶30-43). The complaint alleged, among other things, that Daniels was a member of Goldan. (R. 84-87, ¶¶ 3-17). The complaint attached the notes at issue, several of which were signed by Daniels, acting on behalf of Goldan. (R. 116-121). The complaint also attached a personal guarantee executed by Daniels. (R. 122-131). AGLIC disclaimed any obligation to defend or indemnify Daniels for K2’s suit based upon, among other provisions, two exclusions in the AGLIC Policy. (R. 64, ¶ 14, R. 134-143). Specifically, those exclusions provided: 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 [the “Insured Status Exclusion”]; * * * 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 [the 4 “Business Enterprise Exclusion”]. Controlling interest “means the right of an Insured ... directly or indirectly, to: 1. own 10% or more of an interest in an entity …. (R. 138-142). After obtaining a default judgment against Daniels on the claims asserting legal malpractice, K2 voluntarily discontinued without prejudice the claims against Daniels arising out of his loan guarantees that he made in his capacity as a principal of Goldan. (R. 149-50). In turn, Daniels assigned his rights under the AGLIC policy to K2. (R. 76, ¶ 52). K2 then filed an insurance-coverage action against AGLIC, seeking a ruling that the default judgment was covered under AGLIC’s policy. (R. 149-150; R. 67-68). The parties cross-moved for summary judgment in the Supreme Court. (R 58-59, R. 273-74). AGLIC contended that the Insured Status and the Business Enterprise exclusions barred indemnity coverage for the judgment against Daniels. (R. 168, ¶¶ 51-52). K2 argued that AGLIC could not assert those exclusions in this case because they were inconsistent with the default judgment entered against Daniels, which was based on legal malpractice. (See id.). Supreme Court recognized that the “obligation to defend is broader than the obligation to indemnify.” (R. 28:17-19). However, Supreme Court found that the Insured 5 Status and Business Enterprise exclusions did not apply and granted K2’s motion for summary judgment finding that AGLIC was required to indemnify K2 for the default judgment under the policy. (R. 49-50). AGLIC appealed the judgment to the Appellate Division, First Department, which affirmed in a three-to-two decision. (R. 363). All five justices agreed that AGLIC could raise exclusions in defense to a claim for indemnity coverage for the default judgment to the extent that the application of those exclusions is not inconsistent with the legal-malpractice judgment. (R. 365-366; R. 376). The dissent agreed with the majority that “the carrier may contest the scope of coverage under the policy and is entitled to raise defenses with respect to the applicability of the insuring and exclusions provisions.” (R. 376). According to the dissent: In contrast to the duty to defend, the duty to pay is determined “by the actual basis for the insured’s liability to a third person” (Servidone Constr. Corp. v Security Ins. Co. of Hartford, 64 NY2d 419, 424, 477 NE2d 441, 488 NYS2d 139 [1985]). “[T]he breach by [a] defendant of its duty to defend does not create coverage, and [a] ‘defendant is not precluded from demonstrating that the actual basis of the insured’s liability to plaintiff[s] is such that the loss falls entirely within the policy exclusion.’” (Id.) The Appellate Division was divided over whether AGLIC’s application of the exclusions would be inconsistent with the default judgment. The majority determined that Daniels’s liability to K2 was “premised solely on the attorney- 6 client relationship between him and [K2], not on any interest that he had in Goldan.” (R. 367). The majority therefore held that AGLIC could not raise defenses “that would have defeated the legal malpractice claims (for example, that Daniels was not performing legal services for [K2] but was instead representing Goldan) or would have established the applicability of the exclusions, to the extent that the applicability of the exclusions is inconsistent with the judgment determining Daniels’s liability to [K2] for legal malpractice.” (R. 366). It concluded that the Insured Status Exclusion and the Business Enterprise Exclusion in the AGLIC Policy did not apply “to the duty to indemnify for a judgment based in legal malpractice.” (R. 365). By contrast, the dissent stated that questions of fact existed as to whether the Insured Status Exclusion and Business Enterprise Exclusion applied. (R. 372-384). The dissent stated that the default judgment for legal malpractice entered against Daniels: does not foreclose a finding that Daniels represented both Goldan and [K2] in connection with the mortgage transactions and that his conduct falls within the ambit of either the Insured[] Status Exclusion or the Business Enterprise Exclusion, or both, because the failure to record the mortgages and obtain title insurance was a business decision to benefit his company, Goldan. (R. 377). Based on the two-justice dissent, AGLIC appealed this action as a matter of 7 right to the Court. Because the five justices were unanimous that an insurer could raise exclusions to a claim for indemnity of a default judgment, to the extent that the application of those exclusions was not inconsistent with the judgment, the questions for the Court of Appeals were presented as follows: 1. Did the majority err in holding that, as a matter of law, the Insured Status Exclusion and the Business Enterprise Exclusion were “patently inapplicable” and thus could not exclude coverage of a default judgment based on legal malpractice, even though the scope of those exclusions are broad and extend to “any Claim based on or arising out of, in whole or in part,” either (1) Daniels’s “capacity or status” as “an officer, director, partner, trustee, shareholder, manager or employee” of Goldan, LLC; or (2) “acts or omissions” of Daniels for Goldan, LLC if Daniels had a “controlling interest” in Goldan, LLC? 2. In affirming the grant of summary judgment on AGLIC’s duty to indemnify the holder of a default judgment, did the court below err in limiting its consideration of only the allegations of legal malpractice asserted in the underlying complaint when, as the dissent stated, the obligation to indemnify is determined “by the actual basis for the insured’s liability to a third person” (R. 376), and when the actual basis of Daniels’s liability would trigger exclusions in AGLIC’s policy? 3. Should the judgment of the Appellate Division affirming the Supreme Court’s grant of summary judgment be reversed and the matter remanded to the Supreme Court where no discovery had been conducted in the insurance- coverage action and, as the dissent below stated, issues of fact exist concerning whether the exclusions set forth above apply to preclude coverage for such claims? (Brief For Defendant-Appellant Dated August 16, 2012 (“AGLIC Court of Appeals Brief”) at p. 1-2.) 8 On June 11, 2013, this Court issued its ruling. K2, 21 N.Y.3d 384. The Court did not reach the issue that divided the Appellate Division, i.e., whether “the applicability of the exclusions is inconsistent with the judgment determining Daniels’s liability to [K2] for legal malpractice” (R. 366), which formed the basis for the direct appeal to this Court. K2, 21 N.Y.3d at 389-91. Rather, relying upon Lang, the Court held: when an insurer has breached its duty to defend and is called upon to indemnify its insured for a judgment entered against it, the insurer may not assert in its defense grounds that would have defeated the underlying claim against the insured. (Id. at 390.) The Court added: While Lang did not involve a situation like the one we have here, we now make clear that Lang, at least as it applies to such situations, means what it says: an insurance company that has disclaimed its duty to defend “may litigate only the validity of its disclaimer.” If the disclaimer is found bad, the insurance company must indemnify its insured for the resulting judgment, even if policy exclusions would otherwise have negated the duty to indemnify. This rule will give insurers an incentive to defend the cases they are bound by law to defend, and thus to give insureds the full benefit of their bargain. It would be unfair to insureds, and would promote unnecessary and wasteful litigation, if an insurer, having wrongfully abandoned its insured’s defense, could then require the insured to litigate the effect of policy exclusions on the duty to indemnify. (Id. at 390-91.) 9 Based on the above, the Court held: “when a liability insurer has breached its duty to defend its insured, the insurer may not later rely on policy exclusions to escape its duty to indemnify the insured for a judgment against him.” (Id. at 387.) This, as discussed below, goes beyond the narrow holding in Lang. Neither did the Court discuss its decision in Servidone, which held that an insurer may raise policy exclusions in defense to a claim for indemnity of a settlement after a wrongful disclaimer of defense. Servidone and its progeny were discussed in the majority and dissent below and at length in AGLIC’s briefs. The Court’s ruling in K2 is inconsistent with its decision in Servidone, and needs to be reconciled. AGLIC moved for reargument on the application of Lang, Servidone, and the Insured Status and Business Enterprise exclusions. This Court granted that motion on September 3, 2013. ARGUMENT I. A De Novo Standard Of Review Applies To Reargument, Because The Issues Presented Are Purely Legal Questions. Motions for reargument are based on legal or factual matters that a court “overlooked or misapprehended.” CPLR § 2221(d)(2). A court “has the inherent right to reconsider its own decision within the exercise of sound discretion.” People ex rel. Powers v. Jackson, 221 N.Y.S.2d 364, 365-66 (3d Dep’t 1961). The issues presented for reargument -- whether the Court misapprehended prior 10 precedent established by Lang, 3 N.Y.3d 350, and whether it overlooked precedent established by Servidone, 64 N.Y.2d 419, are legal questions. Therefore, on reargument, a de novo standard of review should apply. See Weingarten v. Bd. of Trustees, 98 N.Y.2d 575, 580 (2002). II. Under Lang, AGLIC May Raise Exclusions In Defense To K2’s Claim For Indemnity Coverage Of The Judgment, To The Extent That The Exclusions Are Not Inconsistent With That Judgment. Prior to the Court’s decision in K2, the law of the State of New York was clear that although a wrongful disclaimer of defense prevented an insurer from challenging the determinations underlying a judgment entered against its insured, it did not preclude the insurer from asserting defenses to coverage in a suit against it to recover on that judgment. See Lang, 3 N.Y.3d at 356. That rule is based on the fact that an insurer’s duty to defend is broader than its duty to indemnify, so that an insurer might be obligated to defend an insured in a case in which it ultimately has no duty to pay any judgment entered against the insured. See Cont’l Cas. Co. v. Rapid-Am. Corp., 80 N.Y.2d 640, 648 (1993). That rule is consistent with other Court of Appeals case law holding that indemnity coverage cannot be created by a waiver. See Albert J. Schiff Assocs., Inc. v. Flack, 51 N.Y.2d 692, 700 (1980). The duty to defend arises from the allegations contained in the pleadings, but the duty to indemnify “is determined by the actual basis for the insured’s liability to a third person.” Servidone, 64 N.Y.2d at 424. Indemnification depends on an 11 adjudication that the loss falls within the policy coverage. See id. Once the insured shows that the loss falls within the insuring agreement, the insurer bears the burden of proof to show that the loss falls entirely within policy exclusions. Id. at 425. However, courts make that indemnity-coverage determination “not from the pleadings but from the actual facts” of the loss. Id. Prior to K2, New York courts and federal courts applying New York law consistently held that an insurer may assert policy exclusions as a defense to indemnity coverage of a judgment entered against an insured, even when the insurer had improperly denied defense coverage to the insured, but the insurer could not challenge the liability or damages determined in the underlying judgment. See D’Arata v. N.Y. Cent. Mut. Fire Ins. Co., 76 N.Y.2d 659, 665, n.6 (1990) (ruling denial of defense coverage did not bar insurer from contesting indemnity for default judgment, even where underlying complaint against insured pleaded both negligent and willful conduct); Matijiw v. N.Y. Cent. Mut. Fire Ins. Co., 292 A.D.2d 865, 865 (allowing insurer to litigate intentional act exclusion after default judgment entered against insured), appeal denied, 743 N.Y.S.2d 771 (4th Dept 2002); Rourke v. Travelers Ins. Co., 254 A.D.2d 730, 730 (4th Dep’t 1998) (ruling that default judgment did not preclude insurer from arguing that insured’s conduct was intentional and thus not covered); Robbins v. Mich. Millers Mut. Ins. Co., 236 A.D.2d 769, 771 (3d Dep’t 1997) (permitting insurer to oppose 12 claim for indemnity coverage based on intentional-act exclusion despite entry of default judgment against insured and judgment creditor’s argument that judgment was entered on claims of negligence); Martin v. Safeco Ins. Co., 1 N.Y. Misc. 3d 912(A) (N.Y. Cty. 2004) (ruling that intentional-act exclusion did not bar coverage of default judgment where issue was actually litigated in underlying claim and insured was found to have acted negligently); Shoretz v. Nationwide Ins. Co., 2002 U.S. Dist. LEXIS 12622 at *7 (S.D.N.Y. July 11, 2002) (stating that in § 3420 action under New York law, an insurer may contest coverage for indemnity but not merits of plaintiff’s claim against insured); Perez v. Nationwide Ins. Co., 2001 U.S. Dist. LEXIS 8502 at *5 (S.D.N.Y. June 25, 2001) (ruling that where coverage issues were not litigated in action against insured that led to default judgment, insurer is permitted to contest coverage and to obtain discovery on coverage issues). In 2004, this Court reaffirmed the principle that when an insurer wrongfully disclaims coverage of an insured and judgment is entered against that insured, the insurer may raise coverage defenses to a suit to recover the judgment, but cannot challenge the merits of the judgment against the insured. Lang, 3 N.Y.3d at 356. Specifically, the Lang Court held: Finally, we note that an insurance company that disclaims in a situation where coverage may be arguable is well advised to seek a declaratory judgment concerning the duty to defend or indemnify the purported 13 insured. If it disclaims and declines to defend in the underlying lawsuit without doing so, it takes the risk that the injured party will obtain a judgment against the purported insured and then seek payment pursuant to Insurance Law § 3420. Under those circumstances, having chosen not to participate in the underlying lawsuit, the insurance carrier may litigate only the validity of its disclaimer and cannot challenge the liability or damages determination underlying the judgment. (3 N.Y.3d at 356.) Lang states that if an insurer wrongfully fails to defend its insured in an underlying action, it is precluded from re-litigating those issues that were actually determined by the judgment against the insured. Id. Lang does not hold that a breach of an insurer’s duty to defend its insured renders the insurer automatically liable to pay the judgment entered against the insured. Since Lang was decided, the Appellate Division has continued to follow the rule that an insurer that has wrongfully disclaimed defense coverage may raise defenses to a claim for indemnity coverage of a judgment entered against its insured, provided that those defenses do not constitute an attack on the judgment. See Hough v. USAA Cas. Ins. Co., 93 A.D.3d 405, 405 (1st Dep’t 2012) (allowing insurer to assert intentional-conduct exclusion to coverage of default judgment); Nahshon Aaron Council v. Utica First Ins. Co., 77 A.D.3d 1433, 1434 (4th Dep’t 2010) (holding that “assault and battery” exclusion barred coverage of default judgment where issue of intent was decided in underlying tort action against 14 insured), lv. denied, 16 N.Y.3d 702 (2011); Bowker v. NVR, Inc., 39 A.D.3d 1162, 1164 (4th Dep’t 2007) (considering insurer’s argument that contractual-liability exclusion bars coverage for default judgment, but finding exclusion inapplicable on facts of case); Rucaj v. Progressive Ins. Co., 19 A.D.3d 270, 273 (1st Dep’t 2005) (ruling that although insurer could raise defenses it would have against insured, insurer had failed to establish insured’s lack of cooperation as bar to coverage of default judgment); Matijiw v. N.Y. Cent. Mut. Fire Ins. Co., 15 A.D.3d 865, 876-77 (ruling that insured’s guilty plea to reckless assault did not collaterally estop insurer from litigating issue whether intentional-act exclusion barred coverage of default judgment), appeal denied, 19 A.D.3d 1185 (4th Dept 2005). Indeed, in this matter, the majority in the Appellate Division cited Lang as support for its conclusion: [AGLIC] is entitled, in the direct action against it, to raise defenses with respect to its obligations to cover the claims against Daniels, including the applicability of any unasserted policy exclusions. (R. 365). The dissent agreed, citing Lang and stating: “the carrier may contest the scope of coverage under the policy and is entitled to raise defenses with respect to the applicability of the insuring and exclusions provisions.” (R. 376). According to the dissent: “even if [AGLIC] were found to have breached a duty to defend, it 15 would not be required to indemnify Daniels, and in turn plaintiffs, for a judgment for a loss that is excluded by the policy.” (R. 376-377). In briefing to this Court, K2 also agreed with the foregoing law as stated by the majority and dissent, but argued that AGLIC should not be permitted to raise the exclusions because the exclusions constituted a challenge to the legal- malpractice determination in the default judgment. Brief for Respondents- Appellants, dated October 2, 2012 (“K2’s Brief”) at p. 25; see also id. at 28-30. Contrary to K2’s contention, AGLIC did not challenge the legal-malpractice finding in the default judgment, but argued that the legal-malpractice finding did not foreclose application of the exclusions to bar coverage for that judgment. AGLIC Court of Appeals Brief at pp. 43-44. Since Lang, trial courts have also consistently held that insurers may raise coverage defenses in suits to collect on judgments entered against their insureds, but cannot challenge the merits of the judgment. Some of those cases cite Lang for that proposition, as did the Appellate Division in K2. See Empire Ins. Co. v. San Miguel, 2013 N.Y. Misc. LEXIS 1442, *29, *31 (N.Y. Cty. Apr. 8, 2013) (citing Appellate Division ruling in K2 and holding that intentional-act exclusion barred coverage for judgment for assault by insured); 23 Grouse Drive, LLC v. Hermitage Ins. Co., 2012 N.Y. Misc. LEXIS 1238, *5-*6 (Nassau Cty. Mar. 6, 2012) (citing Appellate Division ruling in K2 and granting summary judgment to insurer under 16 employer’s liability and independent-contractor exclusions in action to collect on default judgment); Pepper v. GEICO Idem. Ins. Co., 2010 N.Y. Misc. LEXIS 2946, *7 (Nassau Cty. July 2, 2010) (quoting Lang and finding that insurer had not sustained burden of demonstrating existence of triable question of fact regarding coverage defense of insured’s lack of cooperation); Giovanielli v. Certain Underwriters at Lloyds, London, 2009 N.Y. Misc. LEXIS 1221, **7 (Queens Cty. May 14, 2009) (citing Lang and stating that injured party in § 3420 action steps into shoes of insured). The Second Circuit also ruled that under New York law, a breach of the duty to defend “does not entail an obligation to pay the settlement amount in the absence of a duty to indemnify.” CGS Indus., Inc. v. Charter Oak Fire Ins. Co., 720 F.3d 71, 83 (2d Cir. 2013). The principle that an insurer may assert policy defenses to dispute coverage of a judgment against an insured has not been limited to instances of intentional conduct. See Grove Hill Assoc. v. Colonial Indem. Ins. Co., 24 A.D.3d 607, 608 (2d Dep’t 2005) (disputing coverage for claims of property damage arising out of insured’s work); 23 Grouse Drive, 2012 N.Y. Misc. LEXIS 1238 (disputing coverage for claim in negligence falling within employer’s liability and independent-contractor exclusions). The reason is that a court cannot “enlarge[] the bargained-for coverage as a penalty for breach of the duty to defend.” Servidone, 64 N.Y.2d at 424. The rule has been applied to situations involving 17 both default judgments and settlements. Id. (rule applied to wrongful disclaimer and settlement); D’Arata, 76 N.Y.2d at 662, 665 (rule applied to default-judgment case); Hough, 93 A.D.2d 405 (same). Lang did not change New York law addressing the ability of an insurer to contest indemnity coverage after judgment has been entered against its insured. Compare Lang, 3 N.Y.3d at 356, with Servidone, 64 N.Y.2d at 424. As the post- Lang cases make clear, other than this Court’s decision in K2 no court has read Lang as holding that an insurer that has wrongfully disclaimed defense coverage cannot raise defenses to indemnity coverage of a judgment against its insured. See Hough, 93 A.D.3d at 405. To the contrary, the cases that have cited Lang, including the majority and dissent in the Appellate Division in this matter, have cited it to support the proposition that such an insurer can raise indemnity defenses to the extent that they are not inconsistent with the judgment. (R. 365-66, 376.) In quoting Lang to support its holding that “[i]f the disclaimer is found bad, the insurance company must indemnify its insured for the resulting judgment, even if policy exclusions would otherwise have negated the duty to indemnify,” K2, 21 N.Y.3d at 391, the Court read Lang’s statement that an insurer “may litigate only the validity of its disclaimer,” 3 N.Y.3d at 356, as referring to the disclaimer of defense. We respectfully submit that such reading is incorrect 18 First, from the context of the language, it is clear that the Lang Court was referring to the disclaimer of indemnity, not defense. The pertinent quotation from Lang reads: “having chosen not to participate in the underlying lawsuit, the insurance carrier may litigate only the validity of its disclaimer and cannot challenge the liability or damages determination underlying the judgment.” Id. The only situation in which a challenge to the validity of the underlying judgment would be possible would be a challenge based on the actual facts of the case, i.e., a challenge based on an indemnity disclaimer. If, as stated by the K2 Court, the phrase “may litigate only validity of the disclaimer” referred to the disclaimer of defense, there would never be a challenge to the underlying judgment because the validity of the defense disclaimer would be based on the allegations in the complaint, not the underlying facts. Second, the Lang Court’s statement that “the insurance carrier may litigate only the validity of its disclaimer” has not been read by any court prior to this Court’s ruling in K2 to refer to the disclaimer of defense, but rather, as did the majority and dissent below, to the disclaimer of indemnity. (See e.g. R. 365, 376- 77). This is consistent with this Court’s prohibition of the “enlarg[ement of] the bargained-for coverage as a penalty for breach of the duty to defend.” Servidone, 64 N.Y.2d at 424. Thus, this Court’s holding that an insurer that issued a wrongful 19 disclaimer cannot later rely upon policy exclusions to deny indemnity coverage of a default judgment is a misapprehension of Lang. This Court changed the state of the law established by Lang and Servidone when it held that the wrongful disclaimer of coverage precludes an insurer from “litigat[ing] the effect of policy exclusions on the duty to indemnify.” K2, 21 N.Y.3d at 391. In creating that rule, the Court called established case law into question. Id. By reading Lang to mean that an insurer that wrongfully disclaims defense coverage may not raise policy exclusions as a defense to indemnity coverage of the judgment against its insured, this Court misapprehended Lang and changed the state of the law of New York. Albert J. Schiff Assocs., 51 N.Y.2d at 700; Cont’l Cas. Co., 60 A.D.3d at 136-37; Bowker, 39 A.D.3d at 1164. III. Servidone And Its Progeny Also Support The Rule That AGLIC May Raise Exclusions As A Defense To Coverage For The Default Judgment So Long As The Judgment Itself Is Not Challenged. As discussed above, this Court has long-recognized the different standards governing whether an insurer owes defense or indemnity coverage, and has held that the different standards dictate that an insurer that wrongfully fails to disclaim may nonetheless rely upon exclusions to contest an indemnity claim. See Point II, supra. These standards, implemented by the courts of this State before Servidone, have consistently been applied by the courts of this State after Servidone, and continue to be applied by the courts in this State after Lang was decided. Id. 20 There are two primary purposes for why the Court has routinely affirmed the standards governing whether an insurer owes defense or indemnity: 1) this Court will enforce the terms of an agreement as written and not enlarge the “bargained- for coverage as a penalty for a breach of the duty to defend”; and 2) this Court will not create coverage where none existed. Servidone, 64 N.Y.2d at 424; Albert J. Schiff Assocs., 51 N.Y.2d at 698. By holding that AGLIC may not assert exclusions to challenge indemnity, the Court has effectively ignored the principles set forth above and radically changed New York law. For almost thirty years, the Servidone decision has stood as the best example of this Court’s adherence to the foregoing principles. In Servidone, the Court addressed the question: “Where an insurer breaches a contractual duty to defend its insured in a personal injury action, and the insured thereafter concludes a reasonable settlement with the injured party, is the insurer liable to indemnify the insured even if coverage is disputed?” 64 N.Y.2d at 421. In Servidone, the underlying claimant, an employee of the insured, Servidone Construction Corp. (“Servidone”), fell from a tower and sustained injuries. Id. at 422. Servidone was the general contractor on a project site that was owned by the government. Id. The government instituted a third-party action against Servidone. Servidone sought coverage from Security Insurance Company (“Security”). Security initially agreed to defend Servidone; however, it soon withdrew and disclaimed based on a 21 contractual indemnification exclusion in the Security policy. Id. Two years later, Servidone notified Security that it had an opportunity to settle, but Security never responded. Id. One month later, Servidone again contacted Security advising of a possible settlement, but Security never responded. Servidone settled the matter. Id. In the declaratory judgment action, Servidone sought coverage from Security for the settlement. “Neither Security's breach of its duty to defend nor the reasonableness of the settlement amount [wa]s disputed.” Id. at 423. The only issue was whether Security could challenge that the loss was not covered based on the contractual indemnification exclusion in the policy. Id. The motion court held that Security breached its defense obligation. Servidone Constr. Corp. v. Security Ins. Co., 106 Misc. 2d 118, 126 (N.Y. Sup. Ct. 1980). Relying upon this Court’s decision in Lionel Freedman, Inc. v. Glens Falls Ins. Co., 27 N.Y.2d 364 (1971), the motion court ruled that: “[t]he obligation to indemnify may arise if Security fails to properly defend the underlying action or if Servidone is held liable for damages covered by the policy. At this juncture, it is premature to determine questions of coverage which can only be resolved after verdict in the underlying action.” Id. This decision was appealed to the Third Department and Security maintained the position that the duty to defend and duty to indemnify are 22 “discrete.” Servidone Constr. Corp. v. Security Ins. Co., 102 A.D.2d 59, 62-63 (3d Dep't 1984). The Third Department, however, stated that “if a possibility of a duty to indemnify exists, as in this instance, where Servidone has put forward alternative causes of action, one of which on the face of the complaint is plainly within the policy and the other of which is arguably covered, a refusal by the insurer to defend is unreasonable.” Id. The Third Department ruled that though the duty to defend and duty to indemnify are “distinct . . . Servidone is not thereby prohibited from recovering at least those damages it necessarily suffered by reason of Security's failure to meet its contractual burden of protecting Servidone from attack.” Id. The decision was appealed to this Court. The Court reversed the Third Department and found that Security could indeed rely upon exclusions to disclaim indemnity and that Security’s indemnity obligation, despite a breach of its defense obligation, would be based on the “actual facts.” Id. at 425. According to the Court: The duty to indemnify is, however, distinctly different [from the duty to defend]. The duty to defend is measured against the allegations of pleadings but the duty to pay is determined by the actual basis for the insured's liability to a third person. While it is well established that the insurer's obligation to furnish a defense is "heavy indeed, and, of course, broader than its duty to pay", the Appellate Division has in effect applied the same standard for both. By holding the insurer liable to indemnify on the mere "possibility" of coverage 23 perceived from the face of the complaint -- the standard applicable to the duty to defend -- the court has enlarged the bargained-for coverage as a penalty for breach of the duty to defend, and this it cannot do. (Id. at 424 [internal citations omitted].) Until now, Servidone has been unquestioned New York law that has been relied upon by New York, federal, and out-of-state courts for the following propositions: 1) a court cannot penalize an insurer for a wrongful disclaimer by enlarging the “bargained-for” coverage, and 2) an insurer can rely upon exclusions to disclaim a duty to indemnify because the duty to indemnify, unlike the duty to defend, is determined by the “actual facts.” Relying upon Servidone, New York courts have consistently followed these propositions. See Frontier Insulation Contractors. v. Merchants Mut. Ins. Co., 91 N.Y.2d 169, 178 (1997) (“thus, we decline to pass on the question of defendants' duty to indemnify at this early juncture, which predates any ultimate determination of the insurers' liability”); D’Arata, 76 N.Y.2d at 665, n.6; Matijiw, 292 A.D.2d 865; Robbins, 236 A.D.2d at 770-71; Apache Foam Prods. Div. of Millmaster Onyx Group of Kewanee Indus., Inc. v. Cont’l Ins. Co., 139 A.D.2d 933, 934 (4th Dep't 1988) (“The existence of a duty to defend, however, is not synonymous with a duty to indemnify [and because the] issue has not been adjudicated . . . summary judgment on the issue of duty to indemnify should have been denied”); see also Hotel des Artistes, Inc. v. Gen. Accident Ins. Co. of Am., 9 A.D.3d 181, 194 (1st 24 Dep't), appeal dismissed, 4 N.Y.3d 739 (2004). In Hotel Des Artistes, the insurer breached the duty to defend and the insured entered into a settlement of the underlying matter. 9 A.D.3d at 193. The insured argued that it was entitled to indemnification from its insurer because of the wrongful disclaimer. Id. The First Department, relying upon Servidone, held: “we reject the [insured’s] argument that as a consequence of [the insurer’s] wrongful breach of its duty to defend, [the insurer] is required to indemnify the [insured] for the entire amount of the settlement in the underlying action, without regard to whether that entire sum relates to covered losses.” Id. The First Department recognized that New York does not permit such a penalty, and remanded the matter to the trial court for a determination of whether the settlement was covered under the policy. Id. Federal and other state jurisdictions have routinely cited Servidone for the same propositions. See Sentinel Ins. Co. v. First Ins. Co., 76 Haw. 277, 295-296, amended by, 76 Haw. 453 (Haw. 1994); see also Aldrich v. National Chiropractic Mut. Ins. Co., 1997 U.S. Dist. LEXIS 23729 (W.D.N.Y. Sept. 30, 1997); JCD Int'l Gem Corp. v. Evanston Ins. Co., 1995 U.S. Dist. LEXIS 11767 (S.D.N.Y. Aug. 15, 1995); Servants of the Paraclete v. Great Am. Ins. Co., 857 F. Supp. 822, 833, amended by, 866 F. Supp. 1560 (D.N.M. 1994). As the Hawaii Supreme Court has stated: [A] blanket application of coverage by waiver or estoppel, based upon the failure to provide a defense, 25 subverts any meaningful distinction between the duty to defend and the separate duty to indemnify and, in many cases, serves no more than to punish the insurer for the breach of a contractual duty. (Sentinel Ins. Co., 76 Haw. at 294.) In Burroughs Wellcome Co. v. Commercial Union Ins. Co., 713 F. Supp. 694, 698-699 (S.D.N.Y. 1989), the court came to a similar conclusion. Relying upon Servidone, the Burroughs Wellcome Court stated: If the Court were to hold the insurer liable to indemnify on the mere "possibility" of coverage perceived from the face of the complaint - the standard applicable to the duty to defend - the Court would enlarge the bargained for coverage as a penalty for breach of the duty to defend. This it cannot do, as it would in essence equate the duty to defend with the duty to indemnify. (713 F. Supp. at 699.) Of greatest significance is the fact that after Lang was decided in 2004, the courts have continued to rely upon Servidone for the same bedrock principles. For example, since 2004, the New York Appellate Division has on numerous occasions refused to enlarge the bargained for coverage as a penalty for breach of the duty to defend. See e.g. Hough, 9 A.D.3d at 405; Stellar Mech. Servs. of N.Y., Inc. v. Merchants Ins. of N.H., 74 A.D.3d 948, 953 (2d Dep't 2010); Nahshon Aaron Council, 77 A.D.3d at 1434; Bovis Lend Lease LMB Inc. v. Garito Contr., Inc., 65 A.D.3d 872, 876 (1st Dep't 2009), appeal withdrawn, 14 N.Y.3d 884 (2010). New York trial courts, federal courts, and out-of-state courts have also followed this 26 principle. See Plaza Constr. Corp. v. Zurich Am. Ins. Co., 2011 N.Y. Misc. LEXIS 1234 (N.Y. Sup. Ct. Mar. 23, 2011) (motion for summary judgment on indemnity denied despite breach of defense obligation); Allianz Ins. Co. v. Lerner, 416 F.3d 109, 117 (2d Cir. 2005) (“[w]e emphasize again that the duty to defend is ‘distinctly different’ from the duty to indemnify”) (internal citation omitted); HK Sys. v. Eaton Corp., 2006 U.S. Dist. LEXIS 33695, n. 3, motion denied, 2006 U.S. Dist. LEXIS 59804 (E.D. Wis. Aug. 22, 2006); Devoe Props. LLC v. Atl. Cas. Ins. Co., 2011 U.S. Dist. LEXIS 114574, *10-*11 (E.D.N.Y. Oct. 4, 2011); QSP, Inc. v. Aetna Cas. & Sur. Co., 1998 Conn. Super. LEXIS 3542 n. 14 (Conn. Super. Ct. Dec. 7, 1998), aff’d, 256 Conn. 343 (Conn. 2001) (“New York has asserted an interest in circumscribing the consequences of an insurer’s breach of its duty to defend”); see also CGS Indus., 720 F.3d 83. In CGS, which was decided the same date as the original K2 decision, the Second Circuit Court of Appeals, relying upon Servidone, held that although the insurer had breached its duty to defend, that breach did not create coverage and the policy did not indemnify for the settlement. 720 F.3d at 83. These holdings are exemplary of how courts have interpreted Servidone up and until the K2 decision. These holdings apply to instances in which an insured has entered into a settlement (Servidone and Hotel Des Artistes) or when the insured had a default judgment entered against it. D'Arata, 76 N.Y.2d at 665 (“As 27 the Appellate Division below properly noted, even if it can be said that defendant breached its duty to its insured to defend in plaintiff's action which was based, in part, on negligence, no duty to indemnify exists where the loss is not covered by the policy”); Hough, 93 A.D.3d 405. Courts have routinely applied this principle outside of the intentional-act context. See e.g. Servidone, 64 N.Y.2d at 422; Grove Hill Assoc. v. Colonial Indem. Ins. Co., 24 A.D.3d 607, 608 (2d Dep't 2005); Hotel Des Artistes, 9 A.D.3d at 193; 23 Grouse Drive, LLC, 2012 N.Y. Misc. LEXIS 1238. The post-2004 cases citing Servidone make clear that the lower courts have not read Lang as being in conflict with Servidone, but rather have read it as being consistent with Servidone in permitting an insurer that breached the defense obligation to assert coverage defenses to indemnity coverage that do not undermine the underlying judgment. K2 is contrary to Servidone and its progeny. In K2, the Court held that if an insurer breaches the duty to defend, “the insurance company must indemnify its insured for the resulting judgment, even if policy exclusions would otherwise have negated the duty to indemnify.” 21 N.Y.3d at 391. This was a radical change in New York law, despite the fact that the parties and the court below (majority and dissent) all agreed that an insurer could rely upon exclusions so long as the facts do not undermine the underlying judgment. R. 365 (majority); R. 376 (dissent); Brief for Respondents-Appellants Dated October 2, 2012 (“K2’s Brief”) at p. 25 28 (“Barring any successful coverage defenses, the insurer shall be liable for the judgment under Ins. Law § 3420(a)(2) upon the plaintiff’s proof that it obtained a judgment against the insured, served the insurer with a copy of the judgment, and awaited payment for 30 days”); see also K2’s Brief at p. 28-30. Servidone prohibits a court from “enlarg[ing] the bargained-for coverage as a penalty for breach of the duty to defend,” yet K2 permits such a penalty. Compare K2, 21 N.Y.3d at 391 with Servidone, 64 N.Y.2d at 424. Said differently, K2 permits what Servidone expressly rejected. Servidone, 64 N.Y.2d at 424. The conflict between the holdings in Servidone and K2 is illustrated by two recent federal decisions. Compare CGS Indus., 720 F.3d at 83 with Lawrence v. Cont'l Cas. Co., 2013 U.S. Dist. LEXIS 116144 (E.D.N.Y. Aug. 16, 2013). In CGS, the Second Circuit, relying upon Servidone, ruled that an insurer could rely upon policy defenses to deny indemnity coverage despite having breached its defense obligation. In Lawrence, relying upon K2, the Eastern District of New York came to an opposite holding. Lawrence, 2013 U.S. Dist. LEXIS 116144 (“Under New York law, [an insured] is entitled to recover as long as ‘the disclaimer is found bad . . . even if policy exclusions would otherwise have negated the duty to indemnify’”). These opposite holdings evidence the uncertainty in the law created by K2. 29 The K2 decision effectively conflates the two principles of the duty to defend and the duty to indemnify and “subverts any meaningful distinction between the duty to defend and the separate duty to indemnify,” Sentinel Ins. Co., 76 Haw. at 294, when this Court for decades has recognized the distinction. Now, based on K2, an insurer can be found to owe a duty to indemnify for a breach of the duty to defend even if the claims were not covered under the policy. The present action provides the prime example of how the Court has unnecessarily conflated the two principles. The Court ruled that AGLIC breached its duty to defend. K2, 21 N.Y.3d at 389. The Court, however, stopped its analysis there and did not determine whether the default judgment was covered under the policy. Two exclusions relied upon by AGLIC in its disclaimer, the Business Enterprise and Insured Status exclusions, were not addressed. Consistent with the holding in Lang, AGLIC did not contest the finding of legal malpractice in the default judgment. However, as argued in AGLIC’s briefs to this Court, although the legal-malpractice finding would bring the claim within the grant of coverage under the policy, the policy exclusions will bar coverage if they apply. AGLIC may thus assert the Business Enterprise and Insured Status exclusions as a defense to coverage for the judgment, consistent with Lang. AGLIC Court of Appeals Brief at pp. 43-44. 30 The two exclusions were ignored because of AGLIC’s purported breach of its defense obligation. This is contrary to Servidone and its progeny and means that AGLIC’s duty to indemnify was based on the same standard applicable to the duty to defend and thus AGLIC was penalized for its alleged breach of its defense obligation by being held to indemnify K2. This, a court “cannot do.” Servidone, 64 N.Y.2d at 424. In light of the foregoing, AGLIC respectfully submits that the Court should vacate that portion of its ruling prohibiting AGLIC from asserting exclusions to indemnity coverage and eliminate the inconsistency between K2 and Lang, Servidone, and the myriad of cases following them. IV. Public Policy Requires that the June 11, 2013 Opinion Be Vacated “Stare decisis,” which means “‘[t]o stand by things decided, and not to disturb settled points,’” is a principle favored by this Court. People v. Taylor, 9 N.Y.3d 129, 148 n. 13 (2007) [quoting Black’s Law Dictionary at 1443 (8th Ed. 2004]). As the Court has stated: It is well settled that "[s]tare decisis is the preferred course because it promotes the evenhanded, predictable, and consistent development of legal principles, fosters reliance on judicial decisions, and contributes to the actual and perceived integrity of the judicial process" “The doctrine also rests upon the principle that a court is an institution, not merely a collection of individuals, and that governing rules of law do not change merely because the personnel of the court changes.” 31 Id. (internal citation omitted); see also In re of Philadelphia Ins. Co. (Utica Natl. Ins. Group), 97 A.D.3d 1153, 1155 (4th Dep’t), appeal dismissed, 20 N.Y.3d 984 (2012). The Court will permit an exception to this general principle when there is “a holding that leads to an unworkable rule, or that creates more questions than it resolves.” Taylor, 9 N.Y.3d at 148. Consistent with the principle of stare decisis, this Court has made clear that it will not impose “far-reaching” or “radical” changes in the way the insurance industry does business without a clear “‘legislative command.’” Polan v. State Ins. Dep't, 3 N.Y.3d 54, 63 (2004) (quoting Equal Emp’t Opportunity Comm’n v. Staten Island Sav. Bank, 207 F.3d 144, 149 [2d Cir. 2000]). Thus, the Court has generally deferred to the Legislature to make any radical changes in the insurance industry. Id.; see also Slayko v. Sec. Mut. Ins. Co., 98 N.Y.2d 289, 295 (2002) (“[t]he public policy of this state when the legislature acts is what the legislature says that it shall be. . . . Conversely, when statutes and Insurance Department regulations are silent, we are reluctant to inhibit freedom of contract by finding insurance policy clauses violative of public policy.” [internal citations and quotations omitted]). In K2, the Court did not determine whether the claim was covered or excluded based on the Insured Status and Business Enterprise exclusions. Rather, the Court penalized AGLIC and “enlarged the bargained-for coverage as a penalty 32 for breach of the duty to defend,” which the Court said almost thirty years ago “it cannot do.” Servidone, 64 N.Y.2d at 424. This is a radical departure in the insurance industry and in the law (see Points II & III, supra) without any statutory mandate. Polan, 3 N.Y.3d at 63. If K2 remains unchanged, New York would be an outlier, as the majority of jurisdictions do not impose a penalty on an insurer for a breach of the duty to defend and recognize that the duty to indemnify is based on the actual facts and not the pleadings. Allan W. Windt, INSURANCE CLAIMS & DISPUTES § 4.35; 7C Appleman, Insurance Law and Practice § 4690, at 235. Moreover, if K2 remains unchanged, the holding would run counter to Insurance Law § 3420, which requires an insurer to disclaim coverage “as soon as reasonably possible.” The insurer cannot wait to disclaim coverage until after all coverage issues, such as the application of policy exclusions, have been resolved. Republic Franklin Ins. Co. v. Pistilli, 16 A.D.3d 477, 479 (2d Dep’t 2005). V. AGLIC May Raise the Insured Status and Business Enterprise Exclusions In Defense To The Claim For Indemnity. The issue that gave rise to AGLIC’s appeal as of right was the scope of the Insured Status Exclusion and Business Enterprise Exclusion as applied to AGLIC’s obligation to indemnify K2 as a judgment creditor. That issue was briefed by AGLIC in the initial appeal to this Court and AGLIC incorporates by reference its earlier submissions. VI. The Court Should Not Disturb Its Ruling Affirming Dismissal of the Bad Faith Claim. In its June 11, 2013, opinion, the Court affirmed the denial of the K2' s bad faith cause of action. Neither K2 nor AGLIC filed a motion for reargument on this Issue. Accordingly, this issue has been resolved, and should remain undisturbed. CONCLUSION For the foregoing reasons, we respectfully request that the Court vacate its opinion of June 11, 2013, to the extent of holding that AGLIC may rely upon its indemnity exclusions to the extent they do not challenge Daniels's liability or the amount of the default judgment against him, and remand for discovery regarding the applicability of the exclusions. Dated: 728015 9 New York, New York November 15,2013 By: Respectfully submitted C GHLIN DUFFY LLP Robert J. Kelly Michael S. Chuven 88 Pine Street, 28th Floor Wall Street Plaza New York, NY 10005 (212) 483-0105 33