Second Circuit Limits Zeig v. Massachusetts Bonding & Insurance Co.

On June 4, 2013, the federal Second Circuit Court of Appeals issued an important decision addressing when underlying insurance will be deemed exhausted for purposes of the attachment of higher layers of excess insurance. In doing do, the court sharply limited an influential 1928 precedent, Zeig v. Massachusetts Bonding & Insurance Co., 23 F.2d 665 (2d Cir. 1928). Zeig, written by Judge Augustus Hand, is often cited as the leading case standing for the proposition that, if an excess policy ambiguously defines "exhaustion," settlement with an underlying insurer will constitute exhaustion of the underlying policy for purposes of the attachment of the excess coverage.

The new decision, Mehdi Ali v. Federal Insurance Co., 719 F.3d 83 (2d Cir. 2013), involved a single tower of D & O insurance that had been issued to a now bankrupt computer company (Commodore). Two of the insurers in the tower were themselves in liquidation and unable to pay claims. Commodore's former directors, defendants in numerous post-bankruptcy lawsuits, sought a declaration that the obligations of their excess insurers were triggered once the total amount of their defense and/or indemnity obligations exceeded the limits of the underlying policies. The District Court denied the directors' motion for partial summary judgment, ruling that the excess policies did not attach until there was actual payment of the underlying losses. Judgment was entered pursuant to a stipulated dismissal. The Second Circuit, in an opinion by Judge José Cabranes, affirmed.

The Second Circuit reasoned that the plain language of the excess policies required full payment of the underlying losses as a condition precedent to the attachment of coverage under the excess policies. Those policies provided, with slight variations, that coverage "shall attach only after [the] Underlying Insurance has been exhausted by payment of claims," and that "exhaustion" occurs "solely as a result of payment of loses thereunder."

Much of the opinion was devoted to distinguishing Zeig. Zeig had involved a claim against an excess burglary insurance policy. The plaintiff had three underlying policies with total limits of $15,000. After the plaintiff suffered a loss owing to an alleged burglary, he settled with the three underlying policies for $6,000, and then sought to recover against the excess insurer. The excess policy stated that it would apply "only after all other insurance herein referred to shall have been...