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Master issues rallying cry for ‘meaningful’ insurance for lawyers’ clients in insolvency situations

|Written By Glenn Kauth

Following a Superior Court master’s rallying cry for “meaningful professional negligence insurance in insolvency situations” for innocent clients of insured solicitors, the Ontario government has confirmed it will consider the issue as part of its upcoming review of the Insurance Act.

‘It’s terrible when the public isn’t protected,’ says Milton Davis.

“The 2012 budget noted the government’s intent to review and update the Insurance Act,” Finance Ministry spokesman Scott Blodgett said in response to questions raised about Superior Court Master Donald Short’s declaration that “we have waited long enough for correction of this inequitable situation by other institutions.”

“The government is continuing this initiative over the next several years,” Blodgett continued.

“This issue can be expected to be part of that review.”

Short made the comments about solicitors’ errors-and-omissions insurance in his June 28 decision in a bankruptcy matter, Re iPLANcorp. The ruling reflects his obvious concern that the government and the Law Society of Upper Canada have failed to address the issue despite a call to do so almost 30 years ago in Perry v. General Security Insurance Co. In fact, Short began his reasons by quoting then-Ontario Court of Appeal justice John Arnup’s words on the issue in 1984 in Perry, a case that dealt with a claim for negligence and breach of contract against a bankrupt solicitor: “Finally, I heartily endorse the view of [former associate chief justice James] MacKinnon that immediate action should be taken by the law society or the legislature, or both, so that the present unfairness to innocent clients of insured solicitors can be ended.”

In iPLANcorp., Short was considering a motion to lift a stay of proceedings in the Superior Court due to the bankruptcy. The plaintiff, Mademont Investments Inc. had sued iPLANcorp. in relation to a proposed land development. It had earlier hired iPLANcorp., a consulting company, and in 2010 launched an action against it for alleged professional negligence. Then in March 2012, iPLANcorp. issued a third-party claim against its lawyer and his firm seeking contribution and indemnity, according to Short in his reasons for decision.

“Mademont and its principals now seek to lift the stay in order that they may, in their words ‘have access to’ the bankrupt’s insurance policy,” wrote Short.

“Counsel for that insurer took no position on the motion before me. Rather, the challenge to the availability of the policy held by iPLAN was led by counsel for the third-partied lawyers who will continue to be involved in the litigation at the instance of iPLAN and its insurer, if the action is allowed to proceed.”

According to Short, counsel for the lawyers and their insurer argued there was no legal basis for Mademont to have access to iPLANcorp.’s insurance. They referred to s. 132 of the Insurance Act, which allows plaintiffs to have direct recourse to an insolvent defendant’s insurer only for injury or damage to the person or property of another. The court’s ruling in Perry, Short noted, “held that this provision cannot be interpreted to mean that recovery for economic loss unrelated to physical damage or property” would apply.

So faced with those restrictions, Short found himself in the position of looking at whether some route was available to give the plaintiffs recourse. In iPLANcorp., he proposed a possible route. “With respect to the majority in Perry, I, too, believe, the intention of the legislature is best achieved either by giving a wide interpretation to the word ‘property’ or by finding another route that will permit a more fair result to be achieved,” he wrote.

The route Short took was a fairly long one. He referred, for example, to Supreme Court rulings on privity, including Fraser River Pile & Dredge Ltd. v. Can-Dive Services Ltd., in which former justice Frank Iacobucci suggested “the courts should not abdicate their judicial duty to decide on incremental changes to the common law which were necessary to address emerging needs and values in society.”

“In my view, ‘commercial reality and justice’ dictate that in this case it would be contrary to the available principles of equity to refuse to lift the stay otherwise imposed by the [Bankruptcy and Insolvency Act],” wrote Short.

“Now, of course, as a general rule, a contract cannot be enforced except by a party to the contract; and either of two persons contracting together can sue the other, if the other is guilty of a breach of or does not perform the obligation of that contract,” he continued.

“But a third person — a person who is not a party to the contract — cannot do so. That rule, however, is subject to this exception: if the contract, although in form it is with A., is intended to secure a benefit to B., so that B. is entitled to say he has a beneficial right as cestui que trust under that contract; then B. would, in a court of equity, be allowed to insist upon and enforce the contract. That, in my opinion, is the way in which the law may be stated.”

In the end, Short found he could lift the stay provided that the plaintiffs amend the statement of claim. “I am satisfied that notwithstanding the decision in Perry, which in my view still ought to be reversed by legislation, the plaintiffs ought to be placed in a position to endeavour to prove their entitlement to the insurance which was purchased by the bankrupt specifically to provide recovery in the event of a proven negligent act.”

He continued: “Applying Rule 2.01 and Rule 1.04, in response to the request for further and other relief, I am granting leave [to] permit the amendment of the statement of claim therein to remove any claim against the bankrupt for damages and to include a claim for a declaration that he is a trustee of the chose in action represented by the policy of liability insurance for the benefit of the plaintiff, all to be effected in compliance with the Rules of Civil Procedure.

“Unless good reason is established to the contrary, I would anticipate that the rights of the bankrupt under the insurance policy are to be assigned to the plaintiffs by the trustee, on notice to the other creditors, and that only the plaintiffs may pursue those rights, including any litigation to enforce those rights.”

For Milton Davis, managing partner of Davis Moldaver LLP in Toronto, the issues raised by Short in iPLANcorp. are important. “He’s basically requiring the insurer to be liable to a third party,” says Davis of Short’s findings.

“By and large, there’s no recourse to third-party insurers,” adds Davis, who has acted for plaintiffs in many lawyer malpractice cases.

“It’s particularly an issue in bankruptcy but it’s a broader issue,” he suggests.

In Davis’ view, the law society isn’t doing enough to protect lawyers’ clients, not only in bankruptcy situations but also in other circumstances. For example, he notes an insurer can deny coverage if the lawyer doesn’t report a claim to it, a situation that can leave clients in the lurch. “It’s terrible when the public isn’t protected. My own view is the law society has a duty to protect the public. . . . They do not do a good job in a number of ways. This is one of the ways.”

In fraud situations, for example, LawPRO can deny coverage, notes Davis. While the law society has a compensation fund for such cases, there are limits on the amounts available, he points out. “This is timely for a lot of people,” he says of Shorts’ comments in iPLANcorp.

Other Ontario cases that have considered these issues include Laiman v. Lawyers’ Professional Indemnity Co. in 1999. In that case, the plaintiff successfully sued a lawyer who was unable to satisfy the judgment because he went bankrupt. Murray Laiman then went after the lawyer’s insurance company but was unsuccessful in that litigation as well. “Having found that the insured was involved in dishonest, fraudulent or criminal conduct, the insurer was not obliged to indemnify him,” the court stated in Laiman.

“Therefore, even if LPIC were a trustee, it could not be required to indemnify a third party in circumstances in which it would not be obliged to indemnify the insured.”

Asked about its position on these issues, the law society suggested clients of bankrupt lawyers do have recourse depending on the circumstances. “The insurance policy under consideration in the decision was the insurance policy of iPLAN from its own insurer, not the LawPRO policy insuring the lawyer who had been brought in as a third party by iPLAN,” said law society spokesman Roy Thomas.

“In the LawPRO primary professional liability policy, the trustee in bankruptcy is an insured and can request indemnity to the benefit of a creditor. Therefore, in our view the Perry case is effectively superceded by the terms of the LawPRO policy itself.

“On a number of occasions, people with claims against bankrupt lawyers have accessed indemnity payments from LawPRO via the rights of the trustee in bankruptcy under our policy form. Having said that, it is important to remember that the position of the trustee in bankruptcy is subject to any equities that LawPRO as insurer has vis-a-vis the insured lawyer. For example, in the Perry case the court referred to the fact that the insured failed to report for some period of time and/or to co-operate, which circumstances can be relevant to coverage under an insurance policy. Any insurance policy needs to have boundaries (or terms and conditions) to the coverage provided or it is impossible to underwrite and set premiums appropriately. Those boundaries do not disappear when someone else (such as a trustee in bankruptcy) ultimately steps into the shoes of our insured lawyer.”

But for Short, the time has come to take legislative action on the issue. “Justice Houlden observed that the prime purpose of obtaining errors and omissions coverage was to protect members of the public who suffer damage from the acts or omissions of professionals,” he wrote, referring to the late Ontario Court of Appeal justice Lloyd Houlden.

“He sought to justify a means of enforcing that coverage in Perry. Although I am at a lower level in our courts, I feel we have waited long enough for correction of this inequitable situation by other institutions. It is my hope that by approaching the problem from a new perspective, utilizing the court’s inherent jurisdiction, it is now possible to properly achieve a realization of Justice Houlden’s desire for making available, meaningful professional negligence insurance coverage in insolvency situations in Ontario.”


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