On September 6, 2011, the United States Court of Appeals for the Fourth Circuit amended its March 24, 2011 opinion in Bryan Brothers, Inc. v. Continental Casualty Co., which held that the prior knowledge provision in a policy is a condition precedent, not an exclusion, and changed the status of the opinion from unpublished to published.
In Bryan Brothers, Inc. v. Continental Casualty Co., an accounting firm sought coverage under a claims made and reported professional liability insurance policy issued by Continental Casualty Co. for liability arising from illegal acts of a former Bryan Brother’s employee. Continental denied coverage under the policy’s prior knowledge provision, which provided as follows:
In accordance with all the terms and conditions of this policy, we will pay on your behalf all sums in excess of the deductible, up to our limits of liability, that you become legally obligated to pay as damages and claim expenses because of a claim that is both first made against you and reported in writing to us during the policy period by reason of an act or omission in the performance of professional services by you or by any person for whom you are legally liable provided that:
. . .
2. prior to the effective date of this policy, none of you had a basis to believe that any such act or omission, or interrelated act or omission, might reasonably be expected to be the basis of a claim
In other words, Continental denied coverage because the former employee had reason to believe, before the effective date of the policy, that her thefts might become the basis for claims.
Bryan Brothers brought suit for coverage under the policy and the parties filed cross-motions for summary judgment. Bryan Brothers argued the prior knowledge provision was an exclusion from, as opposed to a condition precedent to, coverage. Therefore, by Bryan Brothers’ reasoning, because the former employee was the only insured with prior knowledge of her thefts, coverage was saved for insureds other than the former employee by the innocent insureds provision:
If coverage under this Policy would be excluded as a result of any criminal, dishonest, illegal, fraudulent, or malicious acts of any of you, we agree that the insurance coverage that would otherwise be afforded under this Policy will continue to apply to any of you who did not personally commit, have knowledge of, or participate in such criminal, dishonest, illegal, fraudulent or malicious acts or in the concealment thereof from us.
Continental, on the other hand, argued the prior knowledge provision was a condition precedent that precluded coverage if unfulfilled. Further, Continental argued coverage was not denied because the former employee’s acts were “illegal” under the bad acts exclusion; consequently, the innocent insureds provision was not triggered to save coverage otherwise precluded by the prior knowledge provision.
Applying Virginia law, the court sided with Continental and found Bryan Brothers had failed to fulfill a condition upon which Continental’s obligation was dependent:
The plain language and structure of the policy convince us that the prior knowledge provision is a condition precedent to coverage. In the first coverage agreement clause, Continental Casualty Company agrees to cover Bryan Brothers’ liability on claims made during the policy period “provided that . . .prior to the effective date of this policy, none of you had a basis to believe that any such act or omission, or interrelated act or omission, might reasonably be expected to be the basis of a claim” (emphasis added). This language may be rephrased to say that if any defined “you” knew prior to the effective date of the policy that an act or omission might become the basis for a claim, any claims arising from such acts or omissions are not covered. Here, Bryan Brothers’ lack of prior knowledge is a condition of Continental Casualty Company’s agreement to cover Bryan Brothers’ liability from acts predating the policy. Because Whitworth had prior knowledge, “[t]here has been a failure to fulfill a condition upon which [Continental Casualty Company’s] obligation is dependent.”
This interpretation melds with the concept of fortuity, a fundamental premise of insurance law. Insurers do not usually contract to cover preexisting risks and liabilities known by the insured. Thus, it is generally the insured’s duty to provide truthful and complete information so the insurer can fairly evaluate the risk it is contracting to cover. If the insured fails to comply with a clear condition required by the insurer, it is typically not liable on the policy.
Here, the prior knowledge provision essentially makes fortuity a condition of coverage. The prior knowledge provision indicates in clear and unambiguous language Continental Casualty Company’s unwillingness to cover liability arising from prior acts or omissions that any insured might reasonably expect to result in a claim.
(internal citations omitted).
In addition, the court found that Continental’s denial of coverage was based on Bryan Brothers’ failure to comply with a condition precedent; thus, the innocent insureds provision, which appeared to be an exception to the bad acts exclusion, was not implicated. The court also noted that even if the innocent insureds provision could be considered an exception to the prior knowledge provision, “it is elemental that exclusions and exceptions in an insurance policy cannot expand the scope of agreed coverage.” Accordingly, the court found that the innocent insureds provision could not provide coverage that was precluded by the plain language of the prior knowledge provision.