Federal Deposit Insurance Corp. v. Duffy

United States Court of Appeals,

Fifth Circuit.

No. 93-3815.

FEDERAL DEPOSIT INSURANCE CORPORATION, as Manager of the Federal
Savings & Loan Insurance Corporation Resolution Fund, Plaintiff-
Appellant,

v.

Peter E. DUFFY and New England Insurance Company, Defendants-
Appellees.

NEW ENGLAND INSURANCE COMPANY, Plaintiff-Appellee,

v.

FEDERAL DEPOSIT INSURANCE CORPORATION, as Manager of the Federal
Savings & Loan Insurance Corporation Resolution Fund, Intervenor-
Defendant-Appellant.

March 9, 1995.

Appeals from the United States District Court for the Eastern
District of Louisiana.

Before SMITH and EMILIO M. GARZA, Circuit Judges, and STAGG,1
District Judge.

TOM STAGG, District Judge:

The Federal Deposit Insurance Corporation ("FDIC") appeals

from the district court's grant of summary judgment in favor of

appellee, New England Insurance Company ("New England"). For the

reasons set forth below, we affirm the judgment of the district

court.

FACTS

I. PROCEDURAL HISTORY.

This case has a convoluted procedural history and has been

1
District Judge of the Western District of Louisiana,
sitting by designation.

1
ruled on by a panel of this court twice before on other aspects of

the litigation. The decision now on appeal involves three rulings

issued in two prior trials. The first ruling was in an action

commenced on November 21, 1986 by the Federal Savings and Loan

Insurance Corporation ("FSLIC") against John Mmahat, the law firm

of Mmahat & Duffy, and New England Insurance Company. The firm of

Mmahat & Duffy was composed of five partners—John Mmahat, Peter

Duffy, Marvin Opotowsky, Vallerie Oxner, and Annabelle Walker, and

two associates—Noel Vargas and N. Eleanor Graham. New England

issued a professional liability policy to Mmahat & Duffy for the

period during which the alleged wrongdoing occurred.

The FSLIC's suit alleged that John Mmahat and his law firm

committed legal malpractice and breached fiduciary duties by

advising Gulf Federal Savings and Loan ("Gulf Federal") to make

loans in violation of federal regulations. There was evidence that

Mmahat advised Gulf Federal to disregard federal law concerning

limitations on loans to one borrower regulations, even after

warnings by the Federal Home Loan Bank Board. The evidence at

trial indicated that Mmahat encouraged these loans to generate fees

for his firm. The jury found that Mmahat and Mmahat & Duffy had

committed malpractice and breached fiduciary duties owed to Gulf

Federal. Damages of $35 million were awarded.

The question of insurance coverage was reserved for the court,

and the district court ruled on December 28, 1988 that the policy

of insurance issued to Mmahat & Duffy by New England did not

provide coverage for the $35 million judgment. That ruling was

2
based on an exclusion in the policy for any claim "that results in

a final adjudication that any Insured has committed a dishonest,

fraudulent or malicious act, error, omission or personal injury

with deliberate purpose and intent." This court affirmed the

district court's ruling in FDIC v. Mmahat, 907 F.2d 546 (5th

Cir.1990).

The second ruling occurred several months later in an action

in which the FDIC, as successor to the FSLIC, brought suit against

Peter Duffy and New England, seeking to recover from Duffy his

virile share of the $35 million judgment. The district court

dismissed the suit sua sponte based on a finding of res judicata.

The FDIC appealed that ruling, and a panel of this court reversed

and remanded in FDIC v. Mmahat, 960 F.2d 1325 (5th Cir.1992). This

court reasoned that in the subsequent suit against Duffy, the FDIC

merely sought to collect an existing judgment in its favor.

Mmahat, 960 F.2d at 1329. Accordingly, the suit did not require

readjudication of the malpractice claim and thus was not barred by

res judicata.

Following the remand, New England filed a motion for summary

judgment, which was granted by the district court. That third

ruling is now on appeal before this court.

II. THE DISTRICT COURT'S RULING AND THE INSURANCE POLICY.

The district court granted summary judgment based on four

grounds: 1) the New England policy is void ab initio because of

material misrepresentations of the risk; 2) the policy does not

provide coverage for the judgment based on a "prior acts"

3
exclusion; 3) the FDIC has no standing to raise waiver as a

defense in this case; and 4) there was no waiver by New England.

A. THE DISTRICT COURT'S CONCLUSION THAT THE POLICY IS VOID AB
INITIO

The application for insurance answered by Mmahat & Duffy

contained the following question:

Is the proposed insured aware of any prior incident, act,
error or omission which there is reason to suppose might fall
within the scope of the proposed insurance?

Section III(E) of policy. Preceding the signature line of the

application is the following paragraph:

The applicant declares that to the best of his knowledge of
all persons to be insured the statements set forth herein and
in any attachments made hereto are true and no material facts
have been suppressed or misstated.

The application defines "applicant" as "all Lawyers associated with

the firm." New England successfully argued to the district court

that the finding of legal malpractice and breach of fiduciary duty

against Mmahat conclusively established that he was aware of "prior

acts" which might fall within the scope of the New England policy.

Therefore, a material misrepresentation was made when Mmahat &

Duffy answered "no" to Section III(E).

B. THE DISTRICT COURT'S FINDING THAT THE JUDGMENT WAS EXCLUDED FROM
COVERAGE UNDER THE POLICY

Alternatively, the district court found that coverage was

excluded by Section I, subparagraph I(A)(2)(b)(ii) of the policy.

This section was entitled "INSURING CLAUSES" and stated that the

policy provided coverage for prior acts only if, prior to the

commencement date of the policy, "the firm's management committee

or governing body, howsoever designated, or any member thereof

4
designated in the application, had no reasonable basis to believe

that any Insured had breached a professional duty." The district

court concluded that Mmahat was on the management committee of the

firm and was a partner designated in the application for coverage.

Accordingly, his knowledge that he had breached a professional duty

caused the judgment to be excluded from coverage.2

C. THE DISTRICT COURT'S RULINGS ON WAIVER

The district court rejected the FDIC's argument that New

England had waived its right to assert the defenses of material

misrepresentation and non-coverage against Duffy. This conclusion

was based on the district court's finding that Louisiana law holds

that a third party not in privity to a contract lacks standing to

argue that one of the parties to the contract waived its rights

under the contract. Alternatively, the lower court found that New

England's actions in this case did not constitute waiver.3

ANALYSIS

I. DOES THE FDIC HAVE STANDING TO RAISE THE ISSUE OF WAIVER?

We review the district court's award of summary judgment de

novo. MacDonald v. Monsanto Co., 27 F.3d 1021, 1023 (5th

Cir.1994); FDIC v. Myers, 955 F.2d 348, 349 (5th Cir.1992).

The FDIC argued to the district court that New England had

waived its defenses of material misrepresentation and exclusion

2
The policy defined "insured" as Mmahat & Duffy and any
employee, partner, officer, or director of the firm.
3
As will be discussed later, we do not reach the issue of
waiver and, accordingly, express no opinion with respect to the
correctness of the district court's ruling on the issue.

5
from coverage. The district court reasoned that because the FDIC

was not party to the insurance contract, it had no standing to

raise the issue of waiver. In so finding, the court relied on the

Louisiana Direct Action Statute and several cases. The court

concluded that in limited cases of post-claim breaches of an

insurance policy, an injured third party has standing to sue. The

district court reasoned that because New England's defenses of

material misrepresentation and exclusion under the policy rely on

acts that occurred before the policy was entered into, there was no

standing.

The district court analogized the situation to cases involving

whether causes of action were available to third parties rather

than whether a third party could argue that the insurer waived a

defense to the policy. New Zealand Ins. Co. v. Holloway, 123

F.Supp. 642 (W.D.La.1954) merely found that material

misrepresentations void the policy ab initio, even with respect to

innocent third parties who have been injured. Randall v. Lloyd's

Underwriter's, 602 So.2d 790 (La.App. 4th Cir.1992) concluded that

a third party not in privity to the insurance policy could not

maintain an action in contract against the insurance company.

Harrelson v. La. Pacific Corp., 434 So.2d 479 (La.App. 2d Cir.1983)

similarly held that absent privity, an insurance company can not

take advantage of a plaintiff's waiver of his rights against a

separate insurance company. Finally, Guillory v. Gulf South

Beverages, Inc., 506 So.2d 181 (La.App. 5th Cir.1987) found that a

third party could not obtain penalties and attorneys' fees from an

6
insurance company for arbitrary refusal to pay a claim. The court

reasoned that the authority for an award of attorney's fees was a

statutory provision that provided that the insured could obtain the

fees.

Contrary to the foregoing situations, the Louisiana Direct

Action Statute creates a right of action in favor of an injured

third party against the insurer of the wrongdoer. La.R.S. 22:655

("The injured person ... shall have a right of direct action

against the insurer...."); Shockley v. Sallows, 615 F.2d 233, 238

(5th Cir.), cert. denied, 449 U.S. 838, 101 S.Ct. 113, 66 L.Ed.2d

44 (1980). The Shockley court stated that:

Defendant insists that there was no "privity" between the
insurer and the plaintiff. When "privity" was a talismanic
word, courts recognized that an enforceable right in a third
party beneficiary might be created by statute. That is
precisely what the Louisiana Legislature did. The statute, by
its terms, is a part of the policy and creates a contractual
relationship which inures to the benefit of any and every
person who might be negligently injured by the insured as
completely as if such injured person had been specifically
named in the policy.

Shockley, 615 F.2d at 238, citing Dixon v. Shockley, 356 So.2d 96

(La.App. 1st Cir.1978).

We conclude that the district court erred in finding that the

FDIC did not have standing to raise the issues of waiver and

misrepresentation. Accordingly, the judgment of the district court

is reversed with respect to this issue.

II. WAS THERE A KNOWING WAIVER BY NEW ENGLAND?

Because the district court addressed the issue of whether New

England had waived its rights under the policy, we address this

issue. The FDIC argues that the handling of other claims by New

7
England operated as a waiver of its defenses to the policy.

Waiver is the "intentional relinquishment of a known right,

power, or privilege." Steptore v. Masco Constr. Co., 643 So.2d

1213, 1216 (La.1994); See also Tate v. Charles Aquillard Ins. &

Real Estate, Inc., 508 So.2d 1371, 1373 (La.1987). Reliable proof

of waiver is necessary, and the burden is on the party claiming

waiver to establish its existence. Tate, 508 So.2d at 1375. The

district court concluded that the only acts by New England which

would be relevant to waiver in this case were New England's

handling of the Duffy claim. Both Duffy and Opotowsky testified in

deposition that New England did not communicate to them that it was

waiving any defenses. Moreover, New England did not provide a

defense to Duffy. The district court also noted that in the

previous Mmahat case, New England issued a letter that indicated

that it was reserving its rights.

The FDIC argues that New England has been a party to this

litigation since 1986, and that Mmahat was adjudged to have been

dishonest in 1988. However, New England did not raise the defense

that the policy was void until 1992, and it did not send a letter

reserving its rights to assert that defense until 1993. The FDIC

points to New England's statement in the second Mmahat trial that

it was "putting an end to the litigation without reservation of any

claims against any of its insureds, except as regards the appeal of

the Phase I judgment." The FDIC also notes that New England has

continued to pay claims under the policy, which is inconsistent

with its position that the policy is void ab initio.

8
 We agree with the district court that New England did not

waive its defenses under the policy. Conduct in paying one claim

under a policy does not prevent the insurer from raising defenses

to the policy. Monju v. Continental Cas. Co., 487 So.2d 729, 732

(La.App. 5th Cir.1986). La.R.S. 22:651 specifically provides that

the following acts by an insurer do not constitute a waiver under

any provision of a policy:

(1) Acknowledgment of the receipt of notice of loss or
claim under the policy.

(2) Furnishing forms for reporting a loss or claim, for
giving information relative thereto, or for making proof of
loss, or receiving or acknowledging receipt of any such forms
or proofs completed or incompleted.

(3) Investigating any loss or claim under any policy or
engaging in negotiations looking toward a possible settlement
of any such loss or claim.

La.R.S. 22:651. In 1986 New England sent a letter reserving its

rights under the policy. The FDIC seeks to make the distinction

that the letter never stated that New England reserved its rights

to void the policy, but we conclude that no such technical language

is required. The insureds and the FDIC were aware that although

New England was providing a defense for its insureds, it denied

liability. The judgment of the district court is affirmed on this

issue.

III. IS THE POLICY VOID AB INITIO ?

Under Louisiana law, an insurance policy is null from its

inception if a material "oral or written misrepresentation or

warranty [is] made in the negotiation of an insurance contract, by

the insured in his behalf ... [if] the misrepresentation or

9
warranty is made with the intent to deceive" or if it would have

affected the insurer's decision to proceed with the contract or

with the rate. Mazur v. Gaudet, 826 F.Supp. 188, 193

(E.D.La.1992), citing Estate of Borer v. Louisiana Health Service

& Indemnity Co., 398 So.2d 1124, 1125 (La.1981); see also

La.Rev.Stat. 22:619.4 The district court concluded that the

insured's negative answer to Section III(E) of the insurance

application regarding prior acts was a material misrepresentation

made with the intent to deceive. FDIC v. Duffy, 835 F.Supp. 307,

314 (E.D.La.1993). Specifically, the court noted that the jury

verdict finding that Mmahat had committed malpractice and breached

his fiduciary duty was binding upon the FDIC, and thus the FDIC was

judicially estopped from arguing otherwise. Id.

In essence, the district court ruled that the jury verdict

that Mmahat committed intentional acts to gain monetary advantage

for his law firm negated the necessity of a factual inquiry on the

issue of whether Mmahat intended to deceive.5 The district court

4
La.R.S. 22:619(A) provides that: "Except as provided in
Subsection B of this Section and R.S. 22:692, and R.S. 22:692.1,
no oral or written misrepresentation or warranty made in the
negotiation of an insurance contract, by the insured or in his
behalf, shall be deemed material or defeat or void the contract
or prevent it attaching, unless the misrepresentation or warranty
is made with the intent to deceive." (emphasis added).
5
The district court also noted that Mmahat himself never
signed the application. The applicant for the insurance was the
law firm of Mmahat & Duffy, and Marvin Opotowsky signed the
application as a partner of the firm. Section III(E), the
question at issue, is phrased with respect to whether the
"insured" is aware of any prior incident. The applicant, by
signing the form, declares "that to the best of his knowledge of
all persons to be insured the statements set forth herein and in
any attachments made hereto are true and no material facts have

10
stated that:

The Court ... has no hesitancy under the undisputed facts in
concluding that the misrepresentation regarding prior acts in
the application for coverage by and on behalf of the partners
of M & D was material to the risk, was false, and was made
with intent to deceive for the purpose of securing insurance
coverage. The Court is further of the opinion that based upon
the undisputed facts, no reasonable trier of fact could
conclude otherwise.

....

The findings of intentional dishonest acts in the final
judgment of the Mmahat case are binding upon the FDIC, so as
to preclude it from relitigating issues resolved by that
judgment. The doctrine of judicial estoppel precludes a party
in a legal proceeding from asserting a position contrary to a
position taken by the party in a prior proceeding.

....

It would be most unusual if not unprecedented for a court to
find that a person did not have actual knowledge of his own
intentional dishonest acts. The law of this case is that
Mmahat, an insured under the New England policy, prior to the
application for professional liability coverage in November of
1985 committed intentional dishonest acts from which both he
and M & D benefitted. This Court's prior findings of fact in
Mmahat case lead to but one reasonable conclusion, that John
Mmahat had knowledge of these prior "dishonest" acts, and
thus, it was falsely represented in the application that the
applicant (i.e., which by definition included all Lawyers
associated with the firm) were not aware of any prior incident
which there is a reason to suppose might fall within the scope
of the proposed insurance (i.e., professional liability

been suppressed or misstated." The "applicant" is defined to
include each lawyer associated with the firm. Opotowsky
acknowledged that he understood that his signature was made on
behalf of the entire firm. FDIC v. Duffy, 835 F.Supp. at 311, n.
9.

The district court cited Mazur v. Gaudet, 826 F.Supp.
188 (E.D.La.1992) for the conclusion that the insurance
policy issued by New England should not be applied
separately to each insured. Because there was no
severability clause in the contract, the policy was void as
to all insureds as opposed to those involved in wrongdoing.
We adopt the district court's reasoning on the severability
issue. FDIC v. Duffy, 835 F.Supp. at 315-16.

11
 coverage).

FDIC v. Duffy, 835 F.Supp. at 314-15. The district court concluded

that a finding that Mmahat was intentionally dishonest in his

dealings with Gulf Federal was sufficient to establish as a matter

of law that he intended to deceive New England by answering the

"prior acts" question in the negative.

The FDIC argues that this ruling was erroneous, as the issue

of whether an insured acted with the intent to deceive necessarily

involves a factual inquiry. The FDIC argues that the proper

question is whether Mmahat intended to deceive by answering Section

III(E) in the negative.

The FDIC is correct that the jury did not find that Mmahat

intended to deceive by filling out the application. But, as noted

by the district court and a previous panel of the Fifth Circuit,

the FDIC was not content to rest on a pure legal malpractice

theory, instead choosing to pursue its theory of breach of

fiduciary duty.6 In so doing, it placed before the jury the

question of whether Mmahat intentionally committed a dishonest act.

Under Louisiana law, a cause of action for breach of

6
An earlier panel of this court noted that:

But, as the district court correctly pointed out, FDIC
"was not content to rest its case on whether Mmahat and
his firm were guilty of malpractice solely because of
improper advice.... Rather, [FDIC] included in its
argument and evidentiary presentation to the jury the
claim that Mmahat and his firm breached their fiduciary
duties as lawyers because of actions taken to generate
fees." We will not let FDIC undo what it has wrought.

Mmahat, 907 F.2d at 553.

12
fiduciary duty "requires proof of fraud, breach of trust, or an

action outside the limits of the fiduciary's authority." Gerdes v.

Estate of Cush, 953 F.2d 201, 205 (5th Cir.1992).

The dominant characteristic of a fiduciary relationship is the
confidence reposed by one in the other and [a person]
occupying such a relationship can not further his own
interests and enjoy the fruits of an advantage taken of such
a relationship. He must make a full disclosure of all
material facts surrounding the transaction that might affect
the decision of his principals.

Plaquemines Parish Comm'n Council v. Delta Development Co., Inc.,

502 So.2d 1034, 1040 (La.1987). In this case, the jury found that

Mmahat's failure to disclose that he was acting for the benefit of

his law firm amounted to a breach of fiduciary duty. The

definition of breach of fiduciary duty in Louisiana requires that

the act constituting the breach be intentional. As noted by the

district court, a person is necessarily aware of his intentional

acts. Accordingly, we conclude that the jury verdict declaring

that Mmahat breached his fiduciary duty is dispositive on the issue

of intent to deceive.7

CONCLUSION.

After concluding that the New England policy was void ab

initio because of material misrepresentations of the risk, the

district court went on to find that a separate exclusion in the

policy precluded coverage for the acts of Mmahat in this instance.

7
We also note that this court has already affirmed the
district court's finding that the verdict against Mmahat was
excluded from coverage based on the exclusion in the policy for
any claim "that results in a final adjudication that any Insured
has committed a dishonest, fraudulent or malicious act, error,
omission or personal injury with deliberate purpose and intent."
Mmahat, 907 F.2d at 553.

13
The district court then found that the FDIC did not have standing

to raise the issue of waiver, but that, in any event, there was no

waiver by New England. Because the first rationale for the

district court's ruling is dispositive of this case, we need not

address appellant's remaining arguments. The ruling of the

district court is AFFIRMED.

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