J.P. Morgan Securities Inc. v. Vigilant Insurance Co., 21 N.Y.3d 303 (2013)
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An insured may seek insurance coverage for disgorgement payments to the SEC, particularly when the payments are based on profits gained by third parties rather than the insured’s own ill-gotten gains, and the insurance policy does not explicitly preclude such coverage.
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Summary
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J.P. Morgan Securities (formerly Bear Stearns) sought insurance coverage for a settlement with the SEC involving disgorgement and penalties related to facilitating improper trading by its customers. The New York Court of Appeals held that Bear Stearns could pursue its claim for insurance coverage for the disgorgement payment, to the extent it represented profits gained by the customers, not Bear Stearns itself. The Court reasoned that public policy does not prevent insurance coverage when the disgorgement is not directly linked to the insured’s own illicit gains and the insurance policy language does not bar such coverage.
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Facts
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Bear Stearns facilitated late trading and deceptive market timing for certain customers. The SEC investigated and intended to commence a civil proceeding seeking injunctive relief and significant sanctions. Bear Stearns settled with the SEC, agreeing to pay $160 million in disgorgement and $90 million as a civil penalty. The SEC order detailed findings of Bear Stearns’ violations of federal securities laws, including willfully facilitating improper trading by its customers. Simultaneously, Bear Stearns faced private class action lawsuits related to similar allegations. It settled these private actions for $14 million and incurred $40 million in defense costs.
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Procedural History
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Bear Stearns sought indemnification from its insurers, who denied coverage. Bear Stearns then commenced a breach of contract and declaratory judgment action. The Supreme Court denied the Insurers’ motion to dismiss. The Appellate Division reversed, dismissing the complaint, holding that public policy barred Bear Stearns from seeking recoupment of the disgorgement payment. The Court of Appeals granted Bear Stearns leave to appeal.
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Issue(s)
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1. Whether public policy prevents an insured from seeking insurance coverage for a disgorgement payment made to the SEC when a substantial portion of the payment represents profits gained by the insured’s customers rather than the insured’s own illicit gains.
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2. Whether the SEC order conclusively established that the disgorgement payment was predicated on funds that Bear Stearns itself improperly earned, thus precluding insurance coverage.
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Holding
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1. No, because public policy only prevents insurance coverage for disgorgement when the insured is seeking to cover its own illicit gains; it does not necessarily bar coverage where the disgorgement is linked to gains that went to others.
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2. No, because the SEC order did not conclusively establish that the $160 million disgorgement payment was based on funds that Bear Stearns itself improperly earned; instead, the order indicated that Bear Stearns’ misconduct enabled its customers to profit.
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Court’s Reasoning
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The Court began by noting the general principle that insurance contracts should be enforced as written, reflecting the freedom of contract. However, it recognized two public policy exceptions: (1) insurers cannot indemnify an insured for punitive damages, and (2) insurers cannot provide coverage for intentionally caused harm. The court found that the SEC order did not conclusively prove that Bear Stearns acted with the intent to cause harm, a necessary element to invoke the second exception. Regarding the disgorgement payment, the Court acknowledged that other jurisdictions have held that the return of ill-gotten gains is not insurable, as it would allow a wrongdoer to retain the proceeds of illegal acts. However, the Court distinguished this case, emphasizing that Bear Stearns argued that the bulk of the disgorgement represented customer profits, not its own. The Court stated, “Contrary to the Insurers’ position, the SEC order does not establish that the $160 million disgorgement payment was predicated on moneys that Bear Stearns itself improperly earned as a result of its securities violations.” Because the SEC order did not conclusively refute Bear Stearns’ allegation that the payment was largely based on the profits of others, the Court concluded that the Insurers were not entitled to dismissal at the CPLR 3211 stage. The Court also addressed policy exclusions related to personal profit and wrongful acts, finding that they did not warrant dismissal based on the current record. The Court emphasized that insurers had not met their “heavy burden of establishing, as a matter of law on their CPLR 3211 dismissal motions, that Bear Stearns is barred from pursuing insurance coverage under its policies.”