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April 7, 2004.

ST. PAUL MERCURY INSURANCE COMPANY, Plaintiff, V. ELLEN D. FOSTER, as Executrix of the Estate of Thomas S. Foster and as Co-Trustee of the Thomas S. Foster Trust executed April 14, 1994, et al, Defendants

The opinion of the court was delivered by: MICHAEL MIHM, District Judge


This matter is now before the Court on Plaintiff, St. Paul Mercury Insurance Company's ("St. Paul"), Motion Regarding Remaining Coverage Issues and the responses of the various Defendants in this matter. Based on the assertion that certain claims can now be finally disposed of now that judgment has been entered in the underlying litigation, St. Paul makes essentially five arguments: (1) the Counterclaims by the Foster Defendants and Cole Defendants for Vexatious Delay should be dismissed; (2) the Cole Defendants' Counterclaim for willful and wanton misconduct should be dismissed; (3) St. Paul had no duty to defend any of the Defendants sued only for restitution in Count IX in the Keach case; (4) St. Paul does not owe any defense or indemnification obligations to the Co-Trustees of the Thomas Foster Trust because they are not "insureds"; and (5) St. Paul is entitled to judgment that there is no coverage for any Defendants because the only available remedy to the underlying claimants was restitution, which is not an insurable "loss". While St. Paul's assertion that each of these claims was somehow made ripe by the entry of judgment in the underlying litigation is incorrect, as some of the arguments could clearly have been raised in the prior summary judgment proceedings, each argument will be addressed in turn because it is not in the interests of justice to try a claim that should not properly be submitted at trial.


  I. Vexatious Delay Counterclaims

  St. Paul first contends that there can be no claim that it vexatiously delayed any indemnification, as the entry of judgment in favor of the insureds in the underlying litigation negates any claim for indemnification. While this may be true in some respects (assuming that the Court's finding of no liability is upheld on appeal), the greater point of contention in this case appears to be the claim that St. Paul vexatiously denied its duty to defend.

  St. Paul argues that it cannot be held to have breached its duty to defend where it followed the recommended procedure of bringing a declaratory judgment action. However, while the cases cited by St. Paul, namely Insurance Corporation of Ireland. Ltd, v. Board of Trustees of Southern Illinois University. 937 F.2d 331, 337 (7th Cir. 1991), and Tews Funeral Home. Inc. v. Ohio Casualty Insurance Company. 832 F.2d 1037, 1042 (7th Cir. 1987), do address the three options available to an insurer in Illinois, they do not involve claims of vexatious denial of a defense or stand for the proposition that an insurer that brings a declaratory judgment action can never be found to have vexatiously denied or delayed a duty to defend.

  Under Illinois law, an insurer has three options when an insured requests that it defend a third party action which the insurer believes to be outside the scope of the policy in question. The insurer can: (1) seek a declaratory judgment regarding its obligations before or pending trial of the underlying action, (2) defend the insured under a reservation of rights, or (3) refuse either to defend or to seek a declaratory judgment at the insurer's peril that it might later be found to have breached its duty to defend.

 Maneikis v. St. Paul Insurance Co. of Illinois. 655 F.2d 818 (7th Cir. 1981): Tews Funeral Home. 832 F.2d at 1042. As an important benefit of a liability policy is the defense of liability claims that have been filed against the insured, the duty to defend is considerably broader than the duty to indemnify, and an insurer may be obligated to defend actions which are not in fact covered under its policy. Conway v. Country Casualty Ins. Co., 92 Ill.2d 388, 442 N.E.2d 245 (1982); Richardson v. Illinois Power Co., 217 Ill. App.3d 708, 711, 577 N.E.2d 823 (1991). If any of the allegations against an insured in the underlying lawsuit are even potentially within the scope of the policy, an insurer has an obligation to defend that insured even if other theories of recovery are specifically excluded under the policy. National Union Fire Insurance Co. v. Gelnview Park District. 158 Ill.2d 116, 124, 632 N.E.2d 1039 (Ill. 1994); Maryland Casualty Co. v. Peppers. 64 Ill.2d 187, 194, 355 N.E.2d 24 (Ill. 1976); Bedoya v. Illinois Founders Insurance Co., 293 Ill. App.3d 668, 674-75, 688 N.E.2d 757 (1st Dist. 1997); Tews Funeral Home. 832 F.2d at 1042.

  When considering a claim for vexatious delay, the Court must consider the totality of the circumstances in determining whether the insurer's position was willful and without reasonable cause. Buais v. Safeway Ins. Co., 275 Ill. App.3d 587. 656 N.E.2d 61 (1st Dist. 1995). See Citizens First State Bank of Princeton v. Cincinnati Insurance Co., 200 F.3d 1102, 1110 (7th Cir. 2000) (noting that generally an insurer's conduct will not be deemed vexatious if there is a bona fide dispute concerning the scope and application of coverage, a legitimate policy defense, a genuine legal or factual issue regarding coverage, or a reasonable legal position on an unsettled issue of law.) While the prompt and proper filing of a declaratory judgment action may effectively serve to insulate an insurer from subsequent claims for vexatious delay under certain circumstances, the totality of the circumstances reflected in the record in this case are not such that the Court can find as a matter of law prior to trial that St. Paul's conduct fits within this general rule. See Old Republic Insurance Company v. Chuhak & Tecson. P.C., 906 F. Supp. 1177, 1179 (N.D.Ill. 1995).

  St. Paul cites Citizens First National Bank of Princeton for the proposition that taking an unsuccessful position in coverage litigation cannot establish vexatious delay. However, the record thus far could permit a reasonable fact finder to conclude that St. Paul's conduct went far beyond merely taking an unsuccessful position, particularly with respect to the circumstances surrounding the issuance of the policy, attempts to obtain a corrected policy, ultimate reformation of the policy, bringing this declaratory judgment action, and some of the coverage defenses asserted, as well as the directive under Illinois law that the duty to defend extends to all claims asserted against an insured even if only one of the claims is potentially covered under the policy. Accordingly, St. Paul's Motion is denied in this respect, and this issue will proceed to trial.*fn1

  II. Willful and Wanton Misconduct

  St. Paul seeks the dismissal of the Cole Defendants' Counterclaim for willful and wanton misconduct based on the assertion that such a claim is essentially duplicative of, and is therefore preempted by, the vexatious delay statute, 215 ILCS 5/155. This claim was raised and implicitly rejected in the summary judgment proceedings, where the Court found that since coverage was at least potentially available for the ESOP, summary judgment was inappropriate. Had the Court accepted St. Paul's preemption argument, the claim would have failed in its entirety regardless of the outcome of the underlying litigation, and summary judgment could have been granted at that time.

  Moreover, St. Paul relies on Kush v. American States Insurance Co., 853 F.2d 1380 (7th Cir. 1988). Bagcraft Corp. v. Federal Insurance Co., 848 F. Supp. 115 (N.D. Ill. 1994), and Begeanis v. American Bankers Life Assurance Co., 783 F. Supp. 1141, 1149 (N.D.Ill. 1992), all of which attempted to predict how the Illinois Supreme Court would rule on similar, although not identical, questions. All of these decisions predate the Illinois Supreme Court's decision in Cramer v. Insurance Exchange Agency. 174 Ill.2d 513, 675 N.E.2d 897 (Ill. 1997).

  In Cramer, the Illinois Supreme Court specifically mentioned the Kush and Bageanis cases in examining the relationship between the vexatious delay statute and the tort of bad faith and the conflicting approaches that had been taken by courts addressing the issue. Id. at 522. The court noted that a defendant may engage in conduct that both breaches a contract and constitutes a separate and independent tort before going on to note that well-established tort actions, such as common law fraud, require proof of different elements and remedy a different harm than that addressed by the vexatious delay statute by "address [ing] insurer misconduct that is not merely vexatious and unreasonable." Id. at 523. After finding that the vexatious delay statute provides the insured with an extra-contractual remedy for insurer misconduct that does not rise to the level of a well-established tort, the Illinois Supreme Court reaffirmed that allegations of more than mere bad faith or unreasonable and vexatious conduct could form the basis of a separate and independent tort action that could stand along with the breach of contract action. Id. at 526-27. "In cases where a plaintiff actually alleges and proves the elements of a separate tort, a plaintiff may bring an independent tort action . . . for insurer misconduct." Id. at 527. Here, the Court cannot find as a matter of law that the Cole Defendants' Counterclaim for willful and wanton misconduct is fairly characterized as nothing more than an artfully pleaded bad faith claim, as it involves more than mere allegations of bad faith or unreasonable conduct and goes beyond a claim that the insurer breached its duty of good faith and fair dealing. Rather, the Cole Defendants assert that St. Paul's actions in continuing to ignore evidence of the parties' original intent to provide fiduciary liability coverage for the ESOP, the existence of a mistake, and the voluntary reformation undertaken by its employees were affirmatively carried out for the specific purpose of harming them, which essentially ...

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