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Federal Court Rescinds Policy, Holding Insurer Not Obligated to Investigate Insured’s Reported Loss History

Fox_thumbIn a reminder to policyholders to directly disclose all material loss information in their insurance submissions, the United States District Court for the Western District of Pennsylvania recently held that under New York law, an insurance policy issued by Starr Surplus Lines to H.J. Heinz Co. was subject to rescission where the policyholder intentionally misrepresented its loss history. See H.J. Heinz Co. v. Starr Surplus Lines Ins. Co., No. 15-cv-631 (W.D. Pa. Feb. 1, 2016). The court held that rescission was warranted even though information regarding Heinz’s loss history was either publicly available or contained in Starr underwriting files for different Heinz policies, limiting the obligation of the insurer to conduct its own investigation of the insured’s responses in its insurance application.

The coverage dispute arose when China’s food control agency discovered traces of lead in Heinz baby food, resulting in a product recall, and Starr denied coverage for the claim. Heinz sought a declaratory judgment that Starr breached the product contamination policy issued to Heinz by refusing to pay the $25 million per-occurrence limits. In response, Starr filed a counterclaim for rescission.

In support of its rescission claim, Starr alleged that Heinz intentionally omitted information in response to questions about whether it had been the subject of a government agency complaint within the preceding 3 years or had experienced any product recalls or withdrawals within the preceding 10 years. Specifically, Starr alleged that Heinz failed to disclose a number of prior recalls and withdrawals, including Heinz’s 2013 recall of mercury-tainted baby food and corresponding fine by the Chinese government, as well as its 2014 “silent recall” of nitrite-tainted baby cereal, resulting in the destruction of 245,000 pounds of the Heinz product and $11-12 million loss.

Heinz argued that it was not required to disclose those losses because Starr had sufficient knowledge about them. Specifically, Heinz contended that if Starr had performed its own search, it would have seen the public documents and newspaper articles discussing the undisclosed recalls, which were included in Starr’s underwriting file. Heinz further contended that the undisclosed recalls were included in its prior policy applications for a different type of policy, that Heinz’s global insurance director was “relatively new at his job” and that he did not think that the omitted information or false answers would be “material.”

The court found those arguments unpersuasive. It held that the Starr underwriters acted “professionally and prudently” and that they should not have been expected to look at an application for a different type of insurance submitted at some other time, or independently verify Heinz’s loss history. Accordingly, the court found that Starr lacked sufficient knowledge of Heinz’s misrepresentation when it issued the policy. The court further found that the misrepresentations were made to obtain a lower self-insured retention and/or to lower the policy premium.

Following a protracted choice of law battle, the court applied the less stringent New York rescission standard, allowing rescission where the insurer demonstrates, by a preponderance of the evidence, that the insured made a material misrepresentation – whether intentionally or unintentionally. By contrast, the court noted that under Pennsylvania law, the insurer bears the burden of proving, by clear and convincing evidence, that a material misrepresentation was knowingly made by the insured. Notably, in light of the court’s finding that Heinz made intentional material misrepresentations, the court held that Starr’s claim for rescission would still be successful if Pennsylvania rescission law applied to the dispute.