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James River Insurance Co. v. Kemper Casualty Insurance Co.

October 28, 2009

JAMES RIVER INSURANCE COMPANY, PLAINTIFF-APPELLANT,
v.
KEMPER CASUALTY INSURANCE COMPANY, DEFENDANT-APPELLEE.



Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 07 C 4233-Harry D. Leinenweber, Judge.

The opinion of the court was delivered by: Posner, Circuit Judge.

ARGUED SEPTEMBER 24, 2009

Before POSNER, MANION, and TINDER, Circuit Judges.

This diversity suit pits the James River insurance company against the Kemper insurance company. James River seeks a declaration that it had no duty to defend or indemnify two lawyers (and their law firm, but we can ignore that detail) who were sued for malpractice and whom Kemper had also insured. As is often true in a declaratory-judgment suit, the plaintiff in the suit is really the defendant. For James River wants nothing from Kemper, while Kemper wants James River to contribute to the expense it incurred in defending the lawyers in the malpractice suit and in paying the settlement that ended the suit. The district court granted summary judgment in favor of Kemper.

Both insurance policies are "claims made" policies. That means they insure against liability based on legal claims against the insured filed during the period covered by the policy (the "policy period," as it is called), provided those claims are based on acts committed after the policy's "retroactive date." The policy period in the Kemper policy was September 27, 2000, to September 27, 2002, and the retroactive date was January 1, 1937. The policy period in the James River policy was November 8, 2004, to November 8, 2005, and the retroactive date was November 8, 2002. (The six-week gap between the end of Kemper's coverage and the beginning of James River's is immaterial.) The malpractice suit (the "claim") accused the lawyers of wrongful acts during both the period covered by Kemper's policy and the later period covered by James River's policy.

The lawyers had represented the wife in a divorce case. In December 1999, well within the coverage of Kemper's policy for acts giving rise to claims, the parties made a property settlement as a prelude to the entry of a divorce decree. The settlement gave the wife a big chunk of her soon-to-be ex-husband's employee stock options. But in February of the following year the employer wrote the parties that the method by which the property settlement had tried to transfer the stock options was invalid. Two months later the insureds instituted on the ex-wife's behalf a proceeding in state court against her ex-husband, complaining of his failure to effectuate the transfer. The proceeding was pending when, in July 2001, his employer declared bankruptcy and the employee stock options evaporated.

The malpractice suit accused the lawyers of professional negligence in failing to get the stock options transferred before the bankruptcy rendered the options worthless. They could and should have done this, the suit charged, either by insisting that the property settlement (drafted by the husband's lawyer) use a proper method of conveyance, or by amending the settlement. Instead they had negligently decided to institute a legal proceeding that dragged on until the stock options became worthless.

The alleged misconduct occurred mainly during Kemper's policy period, but not entirely; the plaintiff alleged that it continued into 2003 (which was during the James River policy period), when the Illinois appellate court dismissed the proceeding to recover the options. The options were worthless by then, so it's hard to see how the ruling could have hurt the plaintiff. Its significance rather was in confirming the futility of the proceeding and thus reinforcing the claim that the lawyers should have been doing something else to recover the options, rather than just appealing their defeat in the trial court.

The malpractice suit further alleged that the defendants had concealed a business relationship that they had with the husband's divorce lawyer. This charge also overlapped the coverage of the two polices, as did the further charge that the defendants had conspired to prevent the plaintiff from bringing the malpractice suit against her former lawyers until the statute of limitations had run.

James River points to several exclusions in its policy that it contends excuse it from having to pay for the lawyers' defense against the claim of wrongful acts committed during the James River policy period, or to pay any part of the settlement that resolved the malpractice suit. Kemper argues that James River has the burden of proving that the exclusions apply, and that is correct, but it is important to distinguish between two grounds for that placement of the burden.

The first ground is simply that James River is the plaintiff, and plaintiffs have the burden of proof except with respect to defenses. The second ground is based on insurance law. If the insureds (the lawyers) had been suing James River, it would have had the burden of proving that its insurance policy didn't cover any of the claims against them. That is the rule in Illinois. Hildebrand v. Franklin Life Ins. Co., 455 N.E.2d 553, 564 (Ill. App. 1983); Sokol & Co. v. Atlantic Mutual Ins. Co., 430 F.3d 417, 422-23 (7th Cir. 2005) (Illinois law). And the allocation of the burden of proof in a diversity case (or any other case governed by state law) is determined by state law. Raleigh v. Illinois Dept. of Revenue, 530 U.S. 15, 20-21 (2000); Dick v. New York Life Ins. Co., 359 U.S. 437, 446 (1959); In re Stoecker, 179 F.3d 546, 551-52 (7th Cir. 1999). At least this is so when there is no direct conflict with a federal statute, or with a rule adopted under the Rules Enabling Act. Walker v. Armco Steel Corp., 446 U.S. 740, 747-58 (1980). The allocation of burden of proof (in the sense of burden of persuasion-which side loses a tie) absolutely determines the outcome in cases where the evidence is in equipoise, and by doing so advances the substantive policies of a state, cf. Thorogood v. Sears, Roebuck & Co., 547 F.3d 742, 746 (7th Cir. 2008); Harbor Ins. Co. v. Continental Bank Corp., 922 F.2d 357, 364-65 (7th Cir. 1990), here a policy of favoring insureds in litigation with their insurance companies. American States Ins. Co. v. Koloms, 687 N.E.2d 72-75 (Ill. 1997); Connecticut Specialty Ins. Co. v. Loop Paper Recycling, Inc., 824 N.E.2d 1125, 1130 (Ill. App. 2005). To apply a different rule in a diversity suit would make the happenstance of diversity provide a decisive advantage to one of the litigants if the evidence was evenly balanced.

This suit, however, is not between an insured and an insurance company, but between two insurance companies (the insureds were parties but are no longer), and the real plaintiff is Kemper, which is seeking a money judgment against James River. A plaintiff has the burden of proof, except with regard to affirmative defenses, and this should be the rule also for a declaratory-judgment defendant who is the real plaintiff, the declaratory-judgment action having been brought merely to accelerate the defendant's suit for damages or other relief. By seeking declaratory relief in lieu of simply balking at a demand for payment, an insurance company protects itself from being found to have refused the insured's demand in bad faith, a finding that would expose the company to having to pay punitive damages.

It is sensible to place the burden of proof of an affirmative defense on the defendant, rather than making the plaintiff prove a negative; and the sense of the rule is not diminished just because the "defendant" has made himself a "plaintiff" by filing a declaratory-judgment action rather than waiting to be sued. Lenience extended to insureds who find themselves in litigation with an insurance company has no place when the plaintiff in a suit against an insurer is another insurer. As explained in Royal Indemnity Co. v. Wingate, 353 F. Supp. 1002, 1004 (D. Md.), affirmed without opinion, 487 F.2d 1398 (4th Cir. 1973), in a declaratory-judgment action "the burden of proof should not be mechanically placed on the doorstep of the plaintiff simply because it is the one seeking relief . . . . [I]t would seem unwise to apply any general formulation with respect to the burden of proof but rather to address such a question from the standpoint of which party must lose where there is failure of proof."

Still, that approach, sensible as it seems, is not universally followed. 10B Charles A. Wright, Arthur R. Miller & Mary Kay Kane, Federal Practice and Procedure § 2770, pp. 677-80 (3d ed. 1998). But is it law in Illinois? After we said in International Hotel Co. v. Libbey, 158 F.2d 717, 721 (7th Cir. 1946), though without explanation, that "when an issue of fact is tendered by the complaint and denied by the answer, the plaintiff must prove its complaint, even though it is a complaint for a declaratory judgment," the Supreme Court of Illinois, quoting this language from our opinion without any elaboration, said that this was the rule in Illinois. Board of Trade of City of Chicago v. Dow Jones & Co., 4 ...


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