Georgia Federal Court Rules FIRREA Blocks Jurisdiction for Failed Bank’s D&O Insurer’s Declaratory Judgment Action

Georgia Federal Court Rules FIRREA Blocks Jurisdiction for Failed Bank’s D&O Insurer’s Declaratory Judgment Action

 As part of our beat here at The D&O Diary, we have to read a lot of judicial decisions. We are well acquainted with the fact that court rulings vary quite a bit, but every now and then we read an opinion that makes us stop and say – “What?” That was our reaction to a recent set of rulings out of the District of Georgia in an insurance coverage action relating to an FDIC failed bank claim.

One of the regular features of FDIC failed bank litigation – going all the way back to the S&L crisis – has been that frequently the FDIC’s liability claim often is accompanied by a parallel action in which the agency or the failed bank’s D&O insurer seek a judicial declaration that the FDIC’s claims are or are not covered under the failed bank’s policy. While this kind of insurance coverage litigation has been a staple of failed bank litigation landscape for decades — during which scores of failed bank insurance coverage suits have gone forward — the FDIC has now decided to argue that under FIRREA’s anti-injunction provision, the carrier cannot pursue a coverage action against the agency in its capacity as receiver of the failed bank. Not only that, but the FDIC has managed to convince a federal district court judge to go along with this interpretation.

In a series of two decisions, Northern District of Georgia Judge Richard W. Story has held that a failed bank’s D&O insurer’s declaratory judgment action against the FDIC as receiver of the failed Habersham Bank and against the failed bank’s former directors and officers were precluded by the “jurisdictional  bar” in Section 1821(j) of the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA). Section 1821 (j) provides that “no court may take any action, except at the request of the Board of Directors by regulation or order, to restrain or affect the exercise of powers or functions of the [FDIC] as conservator or a receiver.”

Judge Story’s initial March 28, 2013 ruling can be found here [an enhanced version of this opinion is available to lexis.com subscribers] and his March 5, 2014 ruling denying the D&O insurer’s motion for reconsideration can be found here [enhanced version].

Habersham Bank of Clarkesville, Georgia failed on February 18, 2011. On August 25, 2011, the FDIC as receiver for Habersham Bank sent a claim letter to certain of the failed bank’s former directors and officers, in which the agency asserted that the individuals had breached their duties to the bank in connection with certain loan transactions and therefore are liable for alleged damages. The failed bank’s D&O insurer initiated an action seeking a judicial declaration that, based on a number of grounds, there is no coverage under its policy for the FDIC’s claims.

The FDIC filed a motion to dismiss the D&O insurer’s declaratory judgment action, arguing that the Court lacks jurisdiction over the action under Section 1821(j). The agency argued that the action would “restrain or affect” the FDIC’s powers as receiver because it would impede or interfere with its power under FIRREA to “collect all obligations and money due the institution.”

In his initial March 2013 ruling, Judge Story granted the FDIC’s motion, based on his determination that “the FDIC has a future interest in the D&O coverage” and that “issuing a declaratory judgment on Plaintiff’s claims would affect the FDIC’s ability to collect money due to Habersham,” and therefore that the declaratory judgment action is “barred” under Section 1821(j). He ruled further that because the D&O insurer cannot proceed against the FDIC, its declaratory judgment action against the individual officers cannot proceed either, because it would “affect the FDIC’s interests in the policy if and when the FDIC attempts to assert its rights to the policy.” In reaching this decision, Judge Story relied on a Northern District of Illinois (the “Wheatland” decision) in which the court had similarly held that Section 1821 (j) operated as a jurisdictional bar to a D&O insurer’s declaratory judgment action.

Judge Story added that the application of Section 1821(j)’s “jurisdictional bar” does not leave the D&O insurer without a remedy. The D&O insurer, he said, can pursued its declaratory judgment action through FIRREA’s administrative processes, and if the D&O insurer’s “claims are not adequately addressed through the administrative process, it is entitled to de novo review in federal district court.”

The D&O insurer filed a motion for reconsideration and for leave to file an amended complaint from which the FDIC would be dropped as a party, so that the action for declaratory judgment could proceed against the directors and officers alone. In making this motion, the D&O insurer referenced the further proceedings in the Wheatland action, in which the Northern District of Illinois had held that the insurer’s declaratory judgment action could proceed after the insurer amended its complaint to remove the FDIC as a party to the action.

In his March 5, 2014 order, Judge Story denied the insurer’s motion for reconsideration.  Among other things, Judge Story rejected the insurer’s attempt to rely on the further proceedings in the Wheatland case, ruling that the insurer’s efforts to amend its complaint and proceed with its declaratory judgment action in that case were unopposed, which was not true of the Habersham case.

Discussion

I would have thought that perhaps Judge Story might have been more skeptical of the FDIC”s novel theory that Section 1821(j) presents a jurisdictional bar to a D&O insurer’s declaratory judgment action. Surely, it seems, he might ask how it could be possible if this provision bars jurisdiction for the declaratory judgment action since there have been literally scores of insurance coverage declaratory judgment actions involving the FDIC since FIRREA was enacted – some of them, as noted below,  in Judge Story’s own courtroom. Indeed, the FDIC itself has initiated many of these actions.

I am equally surprised by the ease with which he concluded that the insurer’s declaratory judgment action would “restrain or affect the exercise of power or functions” of the FDIC as the failed bank’s receiver because it would affect the agency’s rights under FIRREA to “collect all obligations and money due the institution.” The insurer’s declaratory judgment action doesn’t restrain or affect anything if there is no coverage under the policy, because there is obligation or money due if there is no coverage. The purpose of a declaratory judgment action is to determine whether or not an obligation exists, not to interfere with an existing obligation. 

Judge Story’s determination to apply the jurisdictional bar regardless of these seeming logical restraints didn’t stop there; he went on to rule that the bar applies even if the D&O insurer were to amend its complaint to remove the FDIC as a party, on the theory that if the FDIC were to establish liability against the individuals, that a ruling in the declaratory judgment action would affect the FDIC’s rights as receiver.

Judge Story’s suggestion that the D&O insurer can just pursue administrative remedies and if its claims are not “adequately addressed” seek de novo review in a federal district court is equally surprising. Think of it this way – Judge Story is saying that though there is an absolute  jurisdictional bar to a declaratory judgment action, if the insurer’s goes through the exercise of disputing coverage with the agency in the agency’s own administrative processes, then the insurer can proceed in district court with the otherwise jurisdictionally barred action. That the declaratory action might go forward in the district court in the end anyway but only after going through an odd bit of kabuki theater suggests just how strained and illogical the FDIC’s inexplicable assertion of the supposed jurisdictional bar is here.

John McCarrick of the White & Williams law firm is quoted as saying in a March 10, 2014 Law 360 article (here, subscription required) that Judge Story’s decision, “seems to fly in the face of accepted understanding of how these cases work,” and he questioned whether something might be going on behind the scenes.

There is a particularly odd aspect to the fact that it is Judge Story is the one to issue this unexpected decision. Last year he was the author of a decision holding – without any jurisdictional constraints — that under the applicable D&O insurance policy’s insured vs. insured exclusion that coverage is precluded for the FDIC’s claims as receiver of a failed bank against the bank’s former directors and officers. (Refer here for further details about Judge Story’s coverage ruling.) This significant ruling is one on which D&O insurers likely would seek to rely in seeking a declaratory judgment that there is no coverage under their policies for an FDIC failed bank lawsuit. Judge Story’s determination that FIRREA imposes a jurisdictional bar to the declaratory judgment action would seem to present a significant barrier to a carrier’s attempt to rely on the insured vs. insured ruling.  

Judge Story’s suggestion that the insurer’s remedy if it believes there is no coverage is to pursue an administrative claim would, if followed by other courts, present the insurers with quite a dilemma. The carrier would have to decide whether to go through the seemingly meaningless formality of the administrative process, as while the administrative action is going forward, the carrier would likely have to be funding the former directors’ and officers’ defense fees. The delays associated with the administrative process might mean that the policy’s limits of liability could be substantially depleted if not exhausted while the administrative process unfolds.

It may be that this decision proves to be an outlier and that other courts will find this interpretation of Section 1821(j) to be strained and unconvincing. However, the landscape of failed bank insurance coverage litigation would be substantially altered if other courts were to reach the same conclusions as Judge Story here.

Special thanks to the several readers who sent me copies of Judge Story’s rulings.

 Read other items of interest from the world of directors & officers liability, with occasional commentary, at the D&O Diary, a blog by Kevin LaCroix.

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