JUNE 2014 BAD FAITH CASES: ATTORNEY INSURED’S BREACH OF CONTRACT AND BAD FAITH CLAIMS DISMISSED UNDER PRIOR KNOWLEDGE EXCLUSION IN MALPRACTICE POLICY WHERE DRAGONETTI ACTION AGAINST ATTORNEY AND THE CLIENTS BRINGING SUBSEQUENT MALPRACTICE SUIT CREATED OBJECTIVELY REASONABLE BASIS TO KNOW OF POTENTIAL MALPRACTICE CLAIM (Philadelphia Federal)
In Ettinger & Assocs., LLC v. Hartford/Twin City Fire Ins. Co., the court addressed coverage under an attorney’s professional liability policy. The initial events concerned a suit against a realtor, who purportedly failed to inform his clients correctly about the zoning of a lot adjacent to a property. Although the realtor’s clients profited from the eventual sale of the property, they brought suit, alleging that the realtor’s errors and/or misrepresentations in connection with the zoning still resulted in lost profits.
The court ultimately found against the realtor’s clients on summary judgment.
The realtor subsequently filed suit against the clients and their lawyer for wrongful abuse of civil proceedings pursuant to the Dragonetti Act in bringing the action against the realtor. The realtor alleged that the attorney “not only knew his filings and prosecution of the [Realtor Action] claims were wrongful and malicious under the law, but encouraged and/or permitted his clients to pursue those claims rather than terminating or withdrawing from the action as their counsel, even in the face of being forewarned of the consequences.”
The realtor’s counsel had repeatedly warned the clients’ counsel that the claims were frivolous. The attorney represented both himself and the clients in the Dragonetti action, after telling the clients there was no conflict of interest in doing so.
The clients later fired the attorney and filed cross claims against him in the Dragonetti action, asserting professional negligence and malpractice, as well as a separate malpractice action. First, they alleged that he was negligent in advising them that the original claims against the realtor had merit, putting them in a position to be subject to the Dragonetti action.
They further alleged that the attorney breached a fiduciary duty by failing to advise them about potential conflicts of interest stemming from his representation of both them and himself in the Dragonetti action, and of their right to file a cross claim against him in the Dragonetti action.
The attorney sought coverage from his insurance carrier under a Claims Made Professional Liability Policy, which the carrier declined. The attorney brought a declaratory judgment action against the carrier, seeking coverage for himself and his firm, and asserting statutory bad faith. The carrier denied coverage on the basis of the “prior knowledge” exclusion, and “Relation Back Provision”, and brought a motion for judgment on the pleadings, which is governed by the Twombly/Iqbal standards.
The attorney-insured obtained the policy approximately six months before the malpractice suit was filed. The policy provided coverage for claims made during the policy period, defining claims as “[a] demand received by an insured for money or services alleging a negligent act, error, omission, or personal injury in the rendering of or failure to render professional legal services…’ or “[s]ervice or receipt of a suit or arbitration dispute resolution proceeding in which damages are claimed”.
The policy contained a “prior knowledge” exclusion which stated that the policy did not apply to claims arising out of an act occurring prior to the inception date of the policy, if any insured knew or could have reasonably foreseen that such an act might be expected to be the basis of a claim.
The insurer declined coverage on the basis that the attorney-insured knew from the Dragonetti action that his allegedly deficient representation of the clients in the Realtor Action could have been the basis for a future malpractice claim by those clients against the attorney.
The insurer argued that a reasonable lawyer in that situation would have been on notice that its acts, errors, or omissions in prosecuting the underlying Realtor litigation could be the basis of a claim. The carrier also took the position that the policy’s Relation Back Provision applied because both the malpractice action and the Dragonetti action arose out of the same or related negligent acts, errors or omissions and would be treated as a single claim pursuant to the aforementioned policy provision, i.e. the original advice in bringing the action against the realtor.
In analyzing the Prior Knowledge Exclusion, the Court applied the two-part Selko test. First, the insurer must show that the insured knew certain facts related to the prior incident, and second, the knowledge must be sufficient to create a reasonable “basis to believe” that a professional duty had been breached. Selko v. Home Ins. Co., 139 F. 3d 146 (3d Cir. 1998).
The court found that the Prior Knowledge Exclusion applied as a matter of law, reasoning that the filing of the Dragonetti action in itself constituted an allegation of professional negligence for purposes of the policy’s prior knowledge exclusion. Moreover, by that point, the attorney knew that the underlying action, which he filed on behalf of the clients, had been dismissed on the basis that the case lacked factual support for the claims asserted against the realtor (specially observing that the clients admitted the realtors statements were true at the time made).
The court found knowledge existed from the language in the Dragonetti complaint that the attorney “not only knew his filings and prosecution of the [Realtor Action] claims were wrongful and malicious under the law, but encouraged and/or permitted his clients to pursue those claims rather than terminating or withdrawing from the action as their counsel, even in the face of being forewarned of the consequences.”
It stated that these allegations were sufficient as a matter of law to show that a reasonable attorney would have had a basis to believe that he had breached a professional duty.
The Court also addressed the “Relation Back Provision”. The Policy contained a provision which stated that all claims arising out of the same or related incident will be deemed to have been made when the first claim is made. To determine whether claims relate back to the same facts, courts review the previous complaint to determine if the acts at issue, not the legal theories, are the same as, or related to, the alleged acts in the current dispute.
The Court concluded that the “bad advice” aspect of the malpractice action arose from the same acts as the original action as a matter of law, reasoning that attorney’s advice in pursuing the original action and subsequently continuing a frivolous suit was proximate cause of legal fees and the eventual Dragonetti action against the clients.
The Court, however, noted that the dual-representation aspect of the malpractice action, based on the attorney’s representation of his clients in the original suit and the Dragonetti Action, did not relate back for purposes of the policy exclusion.
Ultimately, this distinction did not affect the eventual disposition of the suit as coverage was still unavailable under the Prior Knowledge Exclusion. Therefore, the Court granted the insurer’s Motion for Judgment on the Pleadings.