Connecticut Court Holds No Coverage for Late Notice Under D&O Policy

In Zahoruiko v. Fed. Ins. Co., No. 3:15-cv-474 (VLB), 2017 U.S. Dist. LEXIS 28204 (D. Conn. Feb. 28, 2017), the United States District Court for the District of Connecticut had occasion to consider whether an insured’s late notice of a pending lawsuit can preclude D&O coverage.

Graham Zahoruiko was an officer of SpaceWeb Corporation, which was later known as Refresh Software Corporation. The company and Zahoruiko were covered under two Directors and Officers (D&O) insurance policies.

In 1999, Zahoruiko executed a debt note for a line of credit on behalf of the company. Zahoruiko also executed a personal guaranty to secure the note. The company subsequently defaulted on the note. In 2002, the note creditor filed a lawsuit against the company and Zahoruiko. In 2003, Zahoruiko and the company entered into a settlement agreement with the note creditor, which required the company and Zahoruiko to execute a second promissory note as consideration for releasing all claims under the 1999 note. Zahoruiko executed a personal guaranty on the second promissory note.

The company began missing loan payments again in May 2008. On April 29, 2010, the note creditor sent the company a demand letter regarding the debt. On July 10, 2010, the note creditor filed a second lawsuit alleging a breach of the second promissory note.

On February 3, 2012, the creditor notified the company that it intended to seek summary judgment. Ten days later, on February 13, 2012, Zahoruiko and the company notified their D&O insurer of the pending lawsuit. On February 28, 2012, the note creditor filed its motion for summary judgment, which was subsequently granted. On March 8, 2012, the D&O insurer denied coverage.

Three years later, on April 1, 2015, Zahoruiko filed suit against the company’s D&O insurer. The D&O insurer filed a motion for summary judgment, offering seven separate grounds for excluding coverage under the D&O policy. The court addresses only two: (1) pending or prior litigation exclusion; and (2) timely notification of claim.

First, the insurer argued that the 2010 and 2002 claims were related and should be treated as a single claim, and therefore coverage would be excluded by the prior litigation exclusion in the D&O policy. The court found the claims were not related because the 2002 claim was “definitively resolved and any obligations under that note were extinguished” by the prior settlement agreement. Thus, the court held that the claims were not related, and coverage for the 2010 claim was not barred by the prior litigation exclusion.

Second, the insurer argued Zahoruiko’s notice to the insurer was untimely within the meaning of the D&O policy. The court agreed, stating that “…an unexcused, unreasonable delay by an insured in notification of a [claim] … entirely discharges an insurance carrier from any further liability…” The court added that an insurer will only be discharged if it was prejudiced by the lack of notice. The court noted that Zahoruiko did not notify the company’s D&O insurer of any claims until February 13, 2012 – “ten days after learning that [the creditor] intended to move for summary judgment, sixteen months after being served the 2010 complaint, [and] 20 months after receiving a demand letter…” The court noted that Zahoruiko offers “no legitimate explanation for his failure to promptly notify [the insurer] of the claim.”

According to the court, this lack of timely notice also prejudiced the insurer because Zahoruiko executed a forbearance agreement, in which he waived defenses to suits for non-payment of the loan, and insured litigation costs defending the 2010 lawsuit – all without any participation of the insurer. The court stated, “[Zahoruiko] not only failed to comply with the prohibition against assuming contractual obligations and defense costs, he also prevented [the insurer] from negotiating better repayment terms or from settling the lawsuit before the defense costs were incurred.” The court therefore ruled in favor for the D&O insurer, finding that Zahoruiko unreasonably delayed notifying the insurer of the claim, and the delay prejudiced the insurer.