Claims Against Insolvent Insurer Assigned Low Priority, Court Says

By Don R. Sampen, published, Chicago Daily Law Bulletin, June 27, 2023

The 1st District Appellate Court recently held that a reinsurer’s claims against the estate of an insurer in liquidation were entitled to a low “general creditor” priority and that the reinsurer was not entitled to post-judgment interest on a judgment against the estate.

The case is Severinghaus v. Catalina Holdings (Bermuda) Ltd., 2023 IL App (1st) 211370 (May 12). The reinsurer, Catalina, was represented by Novak Law Offices of Chicago. Thompson Coburn LLP of Chicago represented the director of the Department Insurance in her role as the liquidator of the liquidated insurer.

In 2003, the circuit court found Legion Insurance Co. insolvent, ordered liquidation and appointed the director of the Illinois Department of Insurance as the statutory liquidator. Before then, Legion had entered into multiple quota-share reinsurance treaties with reinsurers, which entities Catalina later purchased. Catalina thus became responsible for the treaties, all of which contained arbitration clauses for resolution of disputes.

In 2014, the director notified Catalina of her claim that Catalina owed Legion $1 million under the treaties. Catalina demanded arbitration and counterclaimed for unpaid premiums, attorney fees and costs. In 2018, an arbitration panel sided with Catalina and awarded it approximately $76,000 in premiums. In addition, the panel awarded Catalina $437,000 in attorney fees and costs. In 2020, a federal district court confirmed the award and converted it to a judgment.

Subsequently, Catalina sought payment in the liquidation court. That court allowed Catalina’s claim for the premiums and attorney fees, plus 6% interest—the rate ordered by the arbitration panel—until the entry of the federal court judgment. The court denied Catalina’s request for statutory 9% post-judgment for the period following entry of the judgment.

In addition, the court concluded that all amounts owed to Catalina were to be assessed at the “priority (g) level” under the Illinois Insurance Code, which was the priority level for general creditors. Catalina had argued that all the amounts except for the premiums themselves should be allowed at the “priority (a) level” applicable to estate administrative expenses.

Catalina thus took this appeal.

Priority of Claim

In an opinion by Justice David R. Navarro, the 1st District affirmed. He noted that the Insurance Code provides for nine levels of priority, and that the higher levels of priority—beginning with level (a) administrative costs—must be satisfied in full before lower-level claims can receive a distribution.

As Catalina had argued, Navarro found in accordance with In re Liquidations of Reserve Insurance Co., 122 Ill. 2d 555 (1988), that unpaid premiums owed Catalina had to be assigned priority level (g) for claims of general creditors. Catalina nonetheless contended that the attorney fees, costs and interest were entitled to administrative cost priority.

Navarro proceeded to analyze the meaning of “costs and expenses of administration” as used in the Insurance Code. Given the statutory language (see 215 ILCS 5/205), he determined that the legislature intended to include overhead expenses of state guaranty associations and the labor and other resources expended by the director. That term was not intended to include the costs of an adverse award of attorney fees or a claimant’s interest.

In addition, Navarro observed that, under Reserve Insurance, reinsurer claims against an insurer in liquidation are typically regarded as those of a general creditor, and Catalina’s claim for fees and interest arose out of its reinsurance relationship with Legion Insurance Co. Hence, they should be accorded the same priority.

Catalina nonetheless raised a variety of arguments why attorney fees and interest should be included as administrative costs. It argued, for example, that its award of fees and costs did not truly arise out of the insurance treaties, but rather out of the director’s failure to adhere to notice requirements and other failures in connection with the arbitration process. Navarro disagreed, stating that the arbitration award itself arose from the reinsurance treaties.

Catalina also relied on bankruptcy court-related decisions, including Reading Co. v. Brown, 391 U.S. 471 (1968), where the court held that damages relating to a receiver’s negligence constitute administrative expenses. Navarro again disagreed. He wrote, with respect to the Reading case, that the director did not engage in negligence, and the fee award was based on the arbitration clause which, once again, arose out the reinsurance relationship.

Post-judgment Interest

With respect to Catalina’s request for 9% post-judgment interest, Navarro appeared to acknowledge that post-judgment interest is typically mandatory under 735 ILCS 5/2-1303(a). Nonetheless he relied on In re Liquidation of Pine Top Insurance Co., 322 Ill. App. 3d 693 (1st Dist. 2001), for the proposition that for public policy reasons the running of post-judgment interest may sometimes be stopped in connection with liquidation proceedings.

He observed, for instance, that allowing post-judgment interest could artificially inflate the amount of Catalina’s claim, depending on when it chose to file proofs of its claim. The interest could also cause administrative burdens and thwart the purpose of the priority distribution scheme. And it could penalize the estate of an insolvent insurer based on reasons beyond the control of the director.

The 1st District therefore affirmed the trial court by maintaining the assigned priority (g) level for Catalina’s claim and denying its request for statutory post-judgment interest.

Key Points

• Claims of reinsurers against an insolvent insurance company are typically assigned priority level (g) applicable to claims of general creditors.
  
• In a liquidation setting, claims based on judgments against the director of insurance or liquidation estate may not be entitled to accumulate statutory post-judgment interest.