(This syllabus is not part of the opinion of the Court. It has been prepared by the Office of the Clerk for
the convenience of the reader. It has been neither reviewed nor approved by the Supreme Court. Please
note that, in the interests of brevity, portions of any opinion may not have been summarized).
Argued January 29, 1996 -- Reargued September 24, 1996 -- Decided December 12, 1996
GARIBALDI, J., writing for a majority of the Court.
Integrity Insurance Company (Integrity or surety), became insolvent and filed for liquidation. The
Commissioner of Insurance (Commissioner) was appointed the Liquidator. Integrity had previously issued
surety bonds to Credit Lyonnais, guaranteeing the payment of the promissory notes of investors in certain
limited partnerships. The promissory notes, which called for installment payments, were assigned to Credit
Lyonnais as collateral for substantial loans that it made to the partnerships. The debtors had begun to
default on their installment payments before Integrity filed for liquidation.
The relevant statute governing the liquidation of an insolvent insurer permits creditors to file claims
that are due against the insurance company. Credit Lyonnais filed claims for the full amounts of the
promissory notes even though not all of the unpaid installments on the notes were actually due and owing on
the date the surety bonds terminated. That Credit Lyonnais may not file a claim with the Liquidator for
post-termination losses is undisputed. Credit Lyonnais, however, claims that it faced an uninsurable risk at
the time of Integrity's default and could not purchase alternative insurance. Therefore, it faced a loss in the
full amount of the bond. The issue, then, is whether Credit Lyonnais is entitled to file a claim for the full
amount of the surety bond because Integrity's liquidation led to damages equal to the whole value of the
bond.
The Liquidator sought summary judgment denying all proofs of claim to the extent that they made
claims for installment payments that were due after the date of liquidation. The trial court granted the
motions, finding that Credit Lyonnais and other similarly-situated creditors were entitled to the return of
unearned premiums only.
The Appellate Division reversed. It held that the claim of Credit Lyonnais was valid because under
the terms of the bond, Integrity's obligation to pay the outstanding bond amount arose when it issued the
bond. In addition, the Appellate Division held that the Liquidator was judicially estopped from challenging
this interpretation. The Supreme Court granted Integrity's petition for certification.
HELD: Credit Lyonnais is entitled to file a claim for an amount equal to each bond's face value less the
sum of payments already made by Integrity and the debtor and assets recoverable from the debtor.
1. The Legislature has enacted a statutory design to govern insolvent insurance companies, N.J.S.A. 17:30C-1
to -31. An order of liquidation effectively ends the insurer's business, and a court is required to set a specific
date for the termination of all policies. After liquidation, any losses suffered by policyholders should be
disallowed. Those with claims against the insurer can submit them and collect from the marshalled assets
pursuant to N.J.S.A. 17:30C-20. The statute, however, does not provide much guidance concerning which
claims should be allowed in liquidation, nor does it define the amount of any claim that may be filed due to
the premature termination of an insurance policy. Those answers must be found in the common law.
(pp. 7-8)
2. The common-law rule is that where an insurance company is adjudged insolvent, the claims existing on behalf of its policyholders have been held to be in the nature of damages for a breach of contract. Contract
damages are designed to put the injured in as good a position as he would have been if performance had
been rendered as promised. (p. 8)
3. For most policyholders, damages should be the difference between the cost of a new policy and the
present value of the premiums yet to be paid on the policy. If, however, the defaults of the debtors before
the date of termination indicated such a likelihood of future default that replacement insurance was
unavailable, then the Court should award the full amount of the policy. (pp. 9-12)
4. At the time Integrity was adjudged insolvent, the debtors had defaulted on several payments. Integrity
has conceded below that, as a result of the debtors' prior failure to pay, the risk of default on the remaining
payments was so great that Credit Lyonnais could not have obtained alternative insurance. Therefore, under
breach-of-contract rules, Credit Lyonnais is entitled to file a claim for an amount equal to each bond's face
value less payments already made by Integrity and the debtor and future amounts recoverable from the
defaulting debtor. (pp. 12-13)
5. From the record it cannot be determined whether some of the debtors may have assets capable of
covering all or a portion of the outstanding loans. It would be inequitable to permit Credit Lyonnais to
pursue recovery from the surety for the face value of the bonds without first seeking payment under the
promissory notes. On remand, Credit Lyonnais must quantify its loss by providing evidence of the amount of
recovery available under the promissory notes. (pp. 14-16)
Judgment of the Appellate Division is AFFIRMED and the matter is REMANDED for further
proceedings consistent with this opinion.
JUDGE SHEBELL, concurring, is of the view that at the time of Integrity's liquidation, the
outstanding balance due on the notes was an absolute obligation of the surety because of the default of the
debtors. The majority shifts the burden to Credit Lyonnais to prove that it cannot obtain payment under the
notes, notwithstanding the fact that the very purpose of obtaining the bonds was to avoid this burden.
Integrity's obligation to pay the outstanding balance due under the notes clearly flows from its contractual
liability under the surety agreements.
JUSTICE HANDLER, dissenting, in which JUSTICE O'HERN joins, is of the view that the relevant
statute, the language of the promissory notes, and hornbook concepts of suretyship allow creditors like Credit
Lyonnais to file claims only for promissory notes that are due and owing. The terms and provisions of the
suretyship contracts also indicate that Integrity's obligation was secondary and limited only to the amounts
actually due and owing under the principal obligations. The majority's analysis, which is based on a measure
of contract damages, is flawed. Contract principles allow recovery only for claims that already exist, namely,
claims that are currently due and owing. Moreover, by allowing Credit Lyonnais to recover in contract for
amounts that were not due and owing on the date of the termination of the bonds, the majority greatly
prejudices the legitimate contractual claims of other creditors whose claims were due and owing on the
termination date.
JUSTICES STEIN and COLEMAN, and JUDGE LONG, temporarily assigned, join in JUSTICE
GARIBALDI'S opinion. JUDGE SHEBELL, temporarily assigned, filed a concurring opinion. JUSTICE
HANDLER filed a dissenting opinion in which JUSTICE O'HERN joins. CHIEF JUSTICE PORITZ and
JUSTICE POLLOCK did not participate.
SUPREME COURT OF NEW JERSEY
A-
2 September Term 1996
IN THE MATTER OF
THE LIQUIDATION OF INTEGRITY
INSURANCE COMPANY
Argued January 29, 1996 -- Reargued September 24, 1996
Decided December 12, 1996
On appeal from the Superior Court, Appellate
Division, whose opinion is reported at 28l
N.J. Super. 364 (l995).
Thomas S. Novak argued the cause for
appellant The Commissioner of Insurance of
the State of New Jersey, in his capacity as
Liquidator of Integrity Insurance Company
(Sills Cummis Zuckerman Radin Tischman
Epstein & Gross, Special Council, and Peter
G. Verniero, Attorney General of New Jersey,
attorneys; Mr. Novak and Joseph L. Yannotti,
Assistant Attorney General, of counsel; Adam
J. Kaiser and Thomas M. Hunt, Deputy Attorney
General, on the brief).
Barry G. Saretsky, a member of the New York
bar, argued the cause for respondent Credit
Lyonnais (Shanley & Fisher, attorneys; Susan
M. Sharko, on the briefs).
James M. Mulvaney submitted a brief on behalf
of amicus curiae, Surety Reinsurers (McElroy,
Deutsch & Mulvaney, attorneys; Mr. Mulvaney
and Margaret F. Catalano, on the brief).
The opinion of the Court was delivered by
GARIBALDI, J.
Integrity Insurance Company (Integrity or surety), a New
Jersey insurance company, became insolvent and filed for
liquidation. The Commissioner of Insurance (Commissioner) was
appointed the Liquidator. Integrity had previously issued surety
bonds to Credit Lyonnais, guaranteeing the payment of the
promissory notes of investors in certain partnerships. The
promissory notes, which called for installment payments, were
assigned to Credit Lyonnais as collateral for substantial loans
that it made to the partnerships. Before Integrity was
liquidated, the debtors had begun to default on their installment
payments.
The relevant statute governing the liquidation of an
insolvent insurer permits creditors to file claims that are due
against the insurance company. Credit Lyonnais filed claims for
the full amounts of the promissory notes even though not all of
the unpaid installments on the notes were actually due and owing
on the date the surety bonds terminated. That Credit Lyonnais
may not file a claim with the Liquidator for post-termination
losses is undisputed. Credit Lyonnais, however, claims that it
faced an uninsurable risk at the time of Integrity's default and
could not purchase alternative insurance with its returned
premium. Therefore, it faced a loss in the full amount of the
bond. The issue, then, is whether under basic principles of
contract law Credit Lyonnais is entitled to file a claim for the
full amount of the surety bond because Integrity's liquidation, a
breach of contract, led to damages equal to the whole value of
the bond.
In l984 and l985, seven different groups of investors each created their own limited partnership in California. Some investors were limited partners in more than one partnership. Those partnerships were created as tax shelters for the investors.
The investors signed promissory notes obligating them to make installment payments to the limited partnerships running through November l989. According to the terms of the promissory notes, if an investor defaulted on an installment payment, the limited partnership maintained the right to demand immediate payment of the entire note.
All seven partnerships obtained loans from Credit Lyonnais, a multinational bank. The partnerships assigned the promissory notes to Credit Lyonnais as collateral for the loans. As part of those assignments, Credit Lyonnais became entitled to receive the installment payments directly from the investors. Credit Lyonnais sought surety bonds from Integrity to cover the risk of default on the part of the investors and partnerhips.
Integrity issued surety bonds to Credit Lyonnais that obligated Integrity to pay to Credit Lyonnais the entire amount of the note if the principal debtor defaulted. In sum, Integrity guaranteed repayment of Credit Lyonnais's loans to the
partnerships. Integrity also issued surety bonds to other banks
for similar arrangements with limited partnerships. To limit its
risk, Integrity reinsured those bonds. At the time of
insolvency, Integrity had reinsurance policies in the amount of
$63.5 million.
In l986, the investors began to default. Credit Lyonnais
sent timely notice to Integrity, demanding payment of the missed
installments; Integrity covered the missed payments pursuant to
the surety bonds. The obligation to pay the entire unpaid
balance on the notes was not accelerated. Integrity sought to
collect the unpaid amounts from the defaulting investors. In
some cases, Integrity sued and obtained judgment for the entire
amount of the bond, not simply the amount of the missed payment.
Although Integrity obtained judgments for the entire amount, it
apparently never actually collected more than the amount of
missed installments.
In l987, Integrity filed an action for insolvency and
liquidation in the Superior Court, Chancery Division, under the
statutory scheme governing regulated insurance companies,
N.J.S.A. l7:30C-l to -3l. On March 24, l987, the Chancery
Division issued an Order of Liquidation declaring Integrity to be
insolvent. The Commissioner was appointed to serve as Liquidator
and was authorized to wind up the company's affairs. Although
the reinsurance policies were to remain in effect, the court
ordered Integrity's surety bonds to terminate on April 24, l987.
The reinsurers were required to pay the full amount of any claim
to the Liquidator, even if the underlying claimants received only
a percentage of their claims from Integrity's remaining assets.
In addition, the order set a deadline for filing proofs of claim
against Integrity.
On July 8, l987, the court established the procedure for the
determination of proofs of claim. The Liquidator was required to
recommend whether the court should accept the proofs of claim by
issuing Notices of Determination. Claimants that disagreed with
the Liquidator's determination could demand a hearing.
Credit Lyonnais submitted seven proofs of claim under the
surety bonds. Hundreds of proofs of claim were submitted against
other surety bonds that had been issued by Integrity. The
Liquidator recommended that the trial court deny all the proofs
of claim to the extent they made claims for installments that
were due after April 24, l987, the date the surety bonds
terminated. He relied on N.J.S.A. l7:30C-28a(1), which provides
that proofs of claim can encompass all claims that "[became]
absolute against the insurer on or before the last day fixed for
filing proofs of claim . . . ."
The Liquidator then filed a motion for summary judgment,
which Credit Lyonnais and other banks opposed. The trial court
appointed a Special Master to hear the claims. The Special
Master concluded that the surety bonds terminated under the
Liquidation Order and recommended denying the claims for defaults
on installments due after termination, because they neither
occurred nor existed at the time the bonds terminated. The
Special Master further recommended refunding unearned surety
premiums attributable to post-termination coverage.
The trial court adopted the Special Master's recommendation,
in November l992, and granted summary judgment to the Liquidator,
denying claims for post-termination defaults but ordering the
return of unearned premiums. The trial court remanded to the
Special Master, however, to create a formula for calculating
unearned premiums. The Special Master's calculations were
approved in an additional order in April l994. Credit Lyonnais
then appealed the portions of the trial court's order, granting
the Liquidator's motion for summary judgment and confirming the
disallowance of the proofs of claim to the extent they sought a
distribution for post-termination defaults. The Liquidator
cross-appealed on the limited basis that if the entire claim was
upheld, the order returning the premiums should be reversed.
The Appellate Division reversed. 28l N.J. Super. 364
(l995). It held that Credit Lyonnais's claim was valid, because
under the text of the bond Integrity's obligation to pay the
outstanding bond amount arose when it issued the bond. In
addition, the panel held that the Liquidator was judicially
estopped from challenging this interpretation. The Appellate
Division upheld Credit Lyonnais's claim for the full amount of
the unpaid balance and vacated the award of unearned premiums.
We granted Integrity's petition for certification. l
42 N.J. 5l0
(l995).
The Legislature has enacted a statutory design to govern insolvent insurance companies, N.J.S.A. 17:30C-1 to -31. Under N.J.S.A. 17:30C-8, the Commissioner can apply to the Superior Court for an order directing the liquidation of an insolvent insurance company. The court will grant an order of liquidation if the insurer is indeed insolvent, and the Commissioner will be appointed the liquidator.
The order of liquidation effectively ends the insurer's business, and the court is required to set a specific date for the termination of all policies. "When a company of this character becomes insolvent, and passes into the hands of a receiver, it ceases to be for all purposes, except that declared by the statute, the winding up of its affairs . . . ." Doane v. Millville Mut. Marine & Fire Ins. Co., 43 N.J. Eq. 522, 535 (Ch. 1887), rev'd on other grounds, 45 N.J. Eq. 274 (E. & A. 1889). After liquidation and termination, any losses suffered by policyholders "should be disallowed. The date of the decree of insolvency is the time at which the [insurer's] liability for future losses terminated." Withers v. Great Am. Nat'l Life Guardian, 124 N.J. Eq. 4, 9 (Ch. 1938); accord Mayer v. Attorney General, 32 N.J. Eq. 815 (E. & A. 1880).
N.J.S.A. 17:30C-9 requires the Commissioner to marshall all
assets of the estate, and N.J.S.A. 17:30C-20 provides a mechanism
for those with claims against the insurer to submit them and
collect from the marshalled assets. The statute, however, does
not provide much guidance concerning which claims should be
allowed in liquidation, nor does it define the amount of any
claim that may be filed due to the premature termination of an
insurance policy. Those answers must be found in the common law.
The common-law rule is that "[w]here an insurance company is
adjudged insolvent, the claims existing on behalf of its
policyholders have been held to be in the nature of damages for a
breach of the contract." 19A John A. Appleman & Jean Appleman,
Insurance Law & Practice § 10721, at 196 (1982).
On the date of liquidation, Integrity breached its contract
with every policyholder, because it repudiated its prior promise
to provide insurance and bear future losses. As a result of that
breach, each policyholder was entitled to pursue a claim for
damages pursuant to ordinary contract rules. Contract damages
are "designed 'to put the injured in as good a position as he
would have had if performance had been rendered as promised.'"
Donovan v. Bachstadt,
91 N.J. 434, 444 (1982) (citation omitted).
For most policyholders, damages should not be a simple
return of premiums, but rather "the difference between the cost
of a new policy and the present value of the premiums yet to be
paid on the policy at the date of the breach . . . ." 19A
Appleman, supra, § 10721, at 204; see also American Lead Pencil
Co. v. New Jersey Title Guarantee & Trust Co.,
130 N.J. Eq. 148,
151 (Ch. 1941) (awarding cost of replacement insurance), aff'd
o.b.,
131 N.J. Eq. 473 (E. & A. 1942); In re Citizens Title Ins.
& Mortgage Co.,
127 N.J. Eq. 551, 554 (Ch. 1940) (awarding cost
of replacement insurance upon liquidation). The cost of
replacement insurance is evaluated as of the date of termination,
and should include consideration of any increased risk of loss
due to events since the issuance of the policy that have
increased the cost of insurance. See Davis v. Amra Grotto
M.O.V.P.E.R., Inc.,
89 S.W.2d 754 (Tenn. 1936) (stating that cost
of replacement life insurance, including fact that policyholder
is now older and disabled, is proper award), reh'g denied,
91 S.W.2d 294. Allowing a claim for the cost of reinsurance makes
sense, because the damages suffered by a policyholder, on the
date of breach, are limited to the cost of replacement insurance.
"The insured is enabled to place himself in the same position he
would [have] been in if his insurance policy had not been
cancelled by receiving [funds] sufficient to obtain similar
insurance . . . ." Caminetti v. Manierre,
142 P.2d 741, 747-48
(Cal. 1943).
Many courts have followed this breach-of-contract approach
to valuing claims, awarding the cost of replacement insurance.
See, e.g., Carr v. Hamilton,
129 U.S. 252,
9 S. Ct. 295,
32 L.
Ed. 669 (1888) (stating that, on insolvency, policyholders have
claim for equitable value of policy); Shloss v. Metropolitan Surety Co., 128 N.W. 384 (Iowa 1910) (holding that policyholders become creditors in amount equal to equitable value of policies); Kentucky Home Life Ins. Co. v. Miller, 104 S.W.2d 997, 1000 (Ky. 1937) ("[U]pon the insolvency of the [insurance company] the policyholder became entitled to his proportionate share in the reserve or cash value . . . of his policy . . . against the estate of the defunct company."); New York v. Security Life Ins. & Annuity Co., 78 N.Y. 114 (1879) (awarding damages in amount of cost of replacement insurance); Smith v. St. Louis Mut. Life Ins. Co., 2 Tenn. Ch. 727 (1877) (stating that upon insolvency each policyholder is entitled to recover difference between cost of new policy and present value of premiums yet to be paid on policy at time of breach through insolvency); Universal Life Ins. Co. v. Binford, 76 Va. 103 (1882) (holding policyholders entitled to amount required to purchase replacement insurance); accord 2A Couch on Insurance 2d §22:70, at 673 (rev. ed. 1984) ("[T]he company is liable in damages measured by the net value of such policies, calculated as of the date of dissolution."); Annotation, Basis for Allowance of Claims Under Policies of Insolvent Life Insurance Company, 106 A.L.R. 1513 (1937). But see State v. Surety Corp. of Am., 162 A. 852, 856 (Del. Ch. 1932) (holding that damage award for default is return of unearned premium); Guy v. Globe Ins. Co., 9 Ins. L. J. 466 (Va. 1880) (recognizing that, ordinarily, claimant's damage award should be
calculated as cost of replacement insurance, but holding that
when claimant is uninsurable, claim is limited to return of
premiums).
If the debtors in the current appeal had never indicated any
sign of default, but then suffered financial setbacks after
liquidation and subsequently defaulted, Credit Lyonnais's claim
would be limited to the cost of replacement insurance on the date
of termination; it would not be able to recover for the cost of
replacement insurance based on post-termination losses. When a
life-insurance policyholder died several days after insolvency,
the Pennsylvania Supreme Court awarded the net value of the
policy, calculated on the date of insolvency, and refused to
award a death claim. Pennsylvania ex rel. Kirkpatrick v.
American Life Ins. Co.,
29 A. 660 (Pa. 1894); see also Shloss,
supra, 128 N.W. at 384 ("[H]e cannot maintain a claim . . . for
the amount provided in the policy to be paid in the event of loss
on account of a loss suffered subsequently to the date of such
final decree of dissolution."). That rule implements a basic
principle of contract law: once the policy is terminated, Credit
Lyonnais should secure reinsurance; if it does not, then it
should bear the cost of that failure to mitigate. Integrity is
not liable for damages suffered as the result of post-termination
losses due to Credit Lyonnais's failure to mitigate.
If, however, the debtors' defaults before the date of
termination indicated such a likelihood of future default that
replacement insurance was unavailable, then the Court should
award the full amount of the policy. "[T]he claim of a
policyholder should be valued as a death claim [for the entire
amount], where, from the age and health of the claimant,
reinsurance would be impossible." 19A Appleman, supra, §10721,
at 204. Thus, the California Supreme Court has held that an
uninsurable policyholder should receive the face amount of his or
her policies "less the premiums payable during his [or her] life
expectancy, each reduced to its value at the time of
cancellation." Caminetti, supra, l42 P.
2d at 747; accord
Commissioner of Ins. v. Massachusetts Accident Co.,
50 N.E.2d 801, 807-08 (Mass. 1943) (upholding award to policyholders of
full value of disability insurance). The unavailability of
insurance indicates that the insured event is no longer a risk
but a certainty, and the insured should obtain compensation based
on that reality.
At the time that Integrity was adjudged insolvent, the
investors and limited partnerships had defaulted on several
payments. Those investors, however, still were obliged to make
additional installment payments that were not due until after
Integrity's date of liquidation. Although those later payments
were not yet due, Integrity has conceded below that, as a result
of the investors' prior failure to pay, the risk of default on
the remaining payments was so great that Credit Lyonnais could
not have obtained alternative insurance. "The Liquidator now
acknowledges that replacement insurance was unavailable once
Integrity became insolvent." In re Integrity Ins. Co.,
281 N.J.
Super. 364, 376 (App. Div. 1995).
When Integrity terminated its policy with Credit Lyonnais,
the investors had not yet defaulted on not-yet-due payments. As
of that date, however, the risk of default was such a certainty
that no other insurance company would provide insurance. On that
date, the market had determined that Credit Lyonnais faced a loss
in the total amount of its bond (which loss Integrity had
promised to bear), and no one was willing to purchase that
potential loss. Under ordinary principles of contract law,
Integrity is liable for all damages that occurred due to its
wrongful termination of the insurance contract. Any other result
is unfair and contrary to well-established principles of contract
law. Therefore, under breach-of-contract rules, Credit Lyonnais
should be entitled to file a claim, as damages for Integrity's
breach, for an amount equal to each bond's face value less
payments already made by Integrity and the investor and future
amounts recoverable from the defaulting debtor. Although Credit
Lyonnais can file a claim for the entire amount due, it will
collect only a small percentage of its claim.See footnote 1
Recall that Credit Lyonnais made loans to partnerships
secured by the promissory notes of investors in the partnerships.
From this record it cannot be determined whether some of those
investors may have assets capable of covering all or a portion of
the outstanding loans. It would be inequitable to permit Credit
Lyonnais to pursue recovery from the surety for the face value of
the bonds (less payments already received from the surety) due to
the partnerships' defaults on their loan payments, without first
seeking payment under the promissory notes. On remand Credit
Lyonnais will have to show that no recovery is available from the
investors.
The surety's liability under each irreplaceable bond will be
the face value of the bond reduced by both the amount of assets
recoverable under the collateral promissory notes and payments
already made by the surety and the investor on each bond. Before
the trial court, Credit Lyonnais must quantify its loss by
providing evidence of the amount of recovery available under the
promissory notes.
The Appellate Division held that "[t]he clear language of the Bonds indicates that Integrity was liable at the time of execution and delivery for the full amount under the Bonds, and such amount was reduced if only the investors made their scheduled payments under the Notes." Integrity, supra, 28l N.J. Super. at 380. The panel also invoked judicial estoppel against Integrity based upon Integrity's prior assertion that the contract's terms imposed liability for the full amount of the bonds prior to termination. We disagree and hold that the bond language demonstrates that Integrity was liable only for payments as missed by the investors and that judicial estoppel should not apply.
We conclude that any policyholder whose insured risk was no longer insurable on the date of default should be entitled to file a claim for the full amount of the policy, less amounts already paid and amounts recoverable from the debtors. Those policyholders who can purchase alternative insurance should be entitled to file a claim for the cost of that insurance, because that recovery would be sufficient to place them in the same position as before the breach of contract. That rule does not provide coverage for post-termination losses but simply applies general contract rules to value claims on the date of breach.
We affirm the judgment of the Appellate Division and remand
the matter to the trial court for further proceedings consistent
with this opinion.
JUSTICES STEIN and COLEMAN, and JUDGE LONG, temporarily
assigned, join in JUSTICE GARIBALDI'S opinion. JUDGE SHEBELL,
temporarily assigned, filed a concurring opinion. JUSTICE
HANDLER filed a dissenting opinion in which JUSTICE O'HERN joins.
CHIEF JUSTICE PORITZ and JUSTICE POLLOCK did not participate.
SUPREME COURT OF NEW JERSEY
A-
2 September Term 1996
IN THE MATTER OF
THE LIQUIDATION OF INTEGRITY
INSURANCE COMPANY
SHEBELL, P.J.A.D. (temporarily assigned), concurring.
I join in the opinion of the court insofar as it would allow
recovery on the surety bonds beyond that permitted by the trial
judge, who adopted the special master's recommendation that the
lender's claims for post-termination defaults be barred. I also
agree that the return of unearned premiums is not required in
these circumstances.See footnote 2
I, nonetheless, write to express my accord with the
determination of the Appellate Division that "[t]he clear
language of the Bonds indicates that Integrity was liable at the
time of execution and delivery for the full amount under the
Bonds." Integrity, supra, 281 N.J. Super. at 380. That amount
was to be reduced only if the investors made their scheduled
payments under the notes. Thus, at the time of Integrity's
liquidation, the outstanding balance due on the notes was an
absolute obligation because of the default of the investors.
As Integrity (surety) breached its contract with Credit
Lyonnais (lender) by filing for and receiving an Order of
Liquidation, I find no impediment to Credit Lyonnais pursuing a
claim for the entire amount of default under the unambiguous
language of the bonds. The attorney for the Liquidator made it a
point at oral argument to stress that the terms of the bonds were
"negotiated for" and that, therefore, the language contained in
the agreements' notice provisions should be applied according to
its literal terms. Because these are negotiated agreements,
there is no reason to disregard the prominent language of the
bonds which state that Integrity as surety "is held and firmly
bound...in the amount of [full amount of bond] for the payment
whereof Surety binds itself by, and in accordance with, the
conditions hereof."
The notice provision upon which the Liquidator relies for
support of his contention that the absolute obligation of the
surety at any point in time is only the amount of each
installment payment as it becomes due and not paid, reads as
follows:
1. (a) Should any investor fail to make a required payment under a Note, exclusive of any amount due by virtue of Lender's right of acceleration, when same shall be due (the Payment Due Date), Lender shall notify Surety of such
failure within thirty (30) days of
the Payment Due Date.
(b) . . .
(c) The Notice, signed by an officer of
Lender, shall contain the following
information: . . . .
(iv) Amount of Payment Due and not
Paid (exclusive of any
accelerated balance) . . .
(d) Notice sent by Lender as above
set forth shall constitute
Lender's claim and demand for
payment, together with
interest from date of
default, hereunder and
Surety shall be obligated to
pay such amount to
lender; provided, however,
Surety shall have the right,
at its sole option, to require
Lender to accelerate the
entire balance due under the
Note(s), in which case
the amount due from Surety
shall be such amount, as
accelerated. . . .
2. . . .
3. The obligation of Surety hereunder is
primary, direct and unconditional,
except as set forth herein. . . .
4. The Premium hereunder shall be payable
upon the execution and delivery of this
Bond and shall be fully earned and non- refundable from that time.
5. . . .
6. . . .
7. Notice by Lender with respect to any one default by an Investor shall not exhaust Lender's rights against Surety, and unless Surety shall have required Lender to accelerate a Note and shall have paid to Lender the full amount of the unpaid balance thereof (if accelerated) with
accrued interest, Lender shall have the
right to make successive claims against
Surety on each succeeding due date of an
installment under a Note . . . .
[Emphasis added.]
It is unnecessary to inquire as to whether either Integrity
or Credit Lyonnais actually accelerated the entire unpaid balance
due from the debtors. As to both surety and lender, the maxim
that "[e]quity regards and treats as done what in good conscience
ought to be done" is applicable. See Martindell v. Fiduciary
Counsel, Inc.,
133 N.J. Eq. 408, 413 (E. & A. 1942). Further,
acceleration would as to both Integrity and Credit Lyonnais be to
their advantage and not their detriment as suggested by the
dissent. Post at ___ (dissenting slip op. at 8). The benefit
to Credit Lyonnais is direct and readily apparent. The benefit
of acceleration to Integrity, it being in liquidation, arises by
virtue of the Liquidator's ability to then proceed against the
reinsurers for the full balance due on the notes, thereby aiding
all of the Integrity's creditors.
Under the terms of the agreements, the surety had "the
right, at its sole option, to require Lender to accelerate the
entire balance due under the Note(s), in which case the amount
due from Surety shall be such amount as accelerated...." As
noted by Justice Garibaldi, Integrity's liquidation constituted a
breach of the surety contract. Ante at ___ (slip op. at 8).
That breach was not capable of being remedied. In these
circumstances, if indeed it is necessary, there is no reason why
it should not be presumed that Integrity, as Surety, exercised
its option to accelerate the entire balance due on the underlying
notes, which were clearly in default at that time. See Schorr 5¢
to $1.00 Stores, Inc. v. Jacob Ellis Realties, Inc.,
131 N.J. Eq. 499 (Ch. 1942). The agreements are clear that upon acceleration
"the amount due from Surety shall be such amount, as
accelerated." I concede that the Appellate Division's reliance
on the principle of judicial estoppel was misplaced; nonetheless,
Integrity's acts of advancing litigation on its own behalf for
the entire amounts due from debtors reflects that Integrity
itself considered the entire balances due pursuant to its right
of acceleration.
Further, the fact that Integrity, as surety, had the option
to require Credit Lyonnais, the lender, to accelerate the balance
due on the notes does not detract from the right of Credit
Lyonnais to accelerate the balance due from the debtors upon
default. The exercise of reasonable prudence by a lending
institution, considering its duty to its own investors, would
dictate that Credit Lyonnais accelerate the balances due from the
debtors, if not upon their default, then at least upon
Integrity's filing for liquidation. Therefore, this court may
consider that which should have been done as done. Martindell,
supra, 133 N.J. Eq. at 413. Further, since Integrity provided in
the surety agreements that the up-front premium paid to it by
Credit Lyonnais "shall be fully earned and non-refundable from
[the time of execution and delivery of the Bond]," Integrity's
others creditors may not be heard to complain that Credit
Lyonnais is receiving favored treatment from the court.
The Liquidator's concession that the risk of default renders
the notes uninsurable has been viewed by the Court as a basis to
render Integrity liable for an amount equal to the face value of
the bonds less payments already made by Integrity and the
debtors. However, the court shifts the burden to Credit Lyonnais
to prove that it cannot obtain payment under the notes executed
by the investors, notwithstanding the fact that the very purpose
of obtaining the surety bonds from Integrity was to avoid this
burden. In a footnote the Court points out that the Appellate
Division observed that because of the availability of
reinsurance, a decision in favor of Credit Lyonnais would
actually help Integrity's other policyholders (citing 281 N.J.
Super. at 381-82). Ante at ___ (slip op. at 14 n.1). While the
Appellate Division's observation may be perfectly valid with
respect to a determination that Integrity is liable for its
absolute obligation on the surety bonds, that conclusion is not
so clear if, in fact, Integrity's obligation is held to be based
on the theory that the damages awarded are consequential because
of the lender's inability to obtain alternate insurance. These
two complications are unnecessary and avoidable as Integrity's
obligation clearly flows from its contractual liability under the
surety agreements.
Therefore, while I join in the decision to affirm the
judgment of the Appellate Division, I do so on a different basis
than that set forth in the Court's opinion.
SUPREME COURT OF NEW JERSEY
A-
2 September Term 1996
IN THE MATTER OF
THE LIQUIDATION OF INTEGRITY
INSURANCE COMPANY
HANDLER, J., dissenting.
This case presents the issue of whether, in an insurance-company liquidation proceeding, secured creditors may file claims
for the full amount of promissory notes even though not all of
the unpaid installments on the notes were actually due and owing
on the date that the debt instruments terminated. The relevant
statute, the language of the promissory notes, and hornbook
concepts of suretyship allow such creditors to file claims only
for promissory notes that are due and owing. However, the Court
overrides this requirement by holding that "basic principles of
contract law" entitle the banks to file claims for the full
amounts of the notes. Because the Court deviates from the
statute, the language of the notes, and sound principles of
suretyship, I respectfully dissent.
The rights of claimants against an insolvent insurer are governed by statute. A creditor, such as Credit Lyonnais, may file a proof of claim for claims that "[became] absolute against the insurer on or before the last day fixed for filing proofs of claim." N.J.S.A. 17:30C-28(a)(1). The trial court terminated the surety bonds before the deadline for filing proofs of claim. Credit Lyonnais contends that at the time the surety bonds terminated, Integrity owed the entire remaining amount covered by the bonds, including installment payments not yet due.
The parties and the courts below differed sharply over whether the provisions of the surety bonds dictated allowing claims for amounts not yet due. The issue calls initially for an analysis and interpretation of the terms of the surety bonds in the general framework of suretyship principles.
The legal principles governing suretyships, though fairly complex, are well-settled and generally well-understood. Suretyships involve three parties: the surety (also known as the secondary obligor), the principal (also known as the principal obligor), and the creditor (also known as the obligee). The primary obligation is between the principal and the creditors; it is based on a debt that the principal owes to the creditor. The suretyship is the contractual relation between the surety and the creditor. Under the suretyship agreement, the surety promises the creditor that it will discharge the principal's obligation if the principal fails to do so. The extent of the surety's
obligation is ordinarily measured by the principal's liability
and cannot exceed it. The primary obligation that forms the
basis for the surety's undertaking with the creditor-obligee is
between the principal and the creditor. Hence, the essential
understanding is that the creditor looks first to the principal
rather than the surety to perform the duties of the underlying
obligation. Nevertheless, surety contracts can require that the
creditor-obligee resort first to the surety for satisfaction of
the principal obligation. The surety contract thus may provide
that the surety's obligation to the creditor is direct, primary,
and absolute.
The suretyship contract itself defines the surety's
obligation to the creditor-obligee. According to the suretyship
contract, the surety or secondary obligor will have an obligation
to the creditor-obligee whenever:
(i) the secondary obligor has a duty to
effect, in whole or part, the performance
that is the subject of the underlying
obligation; or
(ii) the obligee has recourse against the
secondary obligor or its property in the
event of the failure of the principal obligor
to perform the underlying obligation; or
(iii) the obligee may subsequently require
the secondary obligor to purchase the
underlying obligation from the obligee or
incur the duties described in subparagraph
(i) or (ii).
[Restatement (Third) of Suretyship § 1(2)(b)
(Tentative Draft No. 4, 1995) at 48
(hereinafter Restatement (Third)).]
According to these general principles, Integrity's
obligation to pay Credit Lyonnais does not arise until the
investors fail to perform their underlying obligation of making
the installment payments. The investors' failure to perform is a
condition precedent to Integrity's obligation to pay.
It is also generally understood under suretyship principles
that "to the extent that the underlying obligation or the
secondary obligation is performed the obligee is not entitled to
performance of the other obligation." Restatement (Third),
supra, § 1(2)(c) at 48. Further, a surety's liability will
accrue at the same time as the principal's liability. Am. Jur.
Surety § 141; C & L Rural Electric Co-op Corp. v. American
Casualty Co.,
199 F. Supp. 220 (E.D. Ark. 1961).
The primary standard governing surety relations are the
terms and contractual language of the surety bonds. "The duties
of the secondary obligor to the obligee are determined by the
contract creating the secondary obligation [subject to surety
defenses]." Restatement (Third), supra, § 28(1). We thus look
to the terms and conditions of the surety bonds issued by
Integrity to determine whether they create an obligation to pay
the full bond amount, including the unpaid balances not yet due
on the underlying promissory notes.
The surety bonds each provide that:
Integrity Insurance Company . . . as Surety
(Surety) is held and firmly bound to [Credit
Lyonnais] (Lender) in the amount of [Full
amount of bond] for the payment whereof
Surety binds itself by, and in accordance
with, the conditions hereof.
Now, therefore, the condition of this
obligation is such that if the investors make
all payments in accordance with the payment
schedule set forth in each Note, then the
obligation is null and void; otherwise, the
parties agree as follows:
(1) (a) [If an investor misses a payment,]
Lender shall notify Surety of such failure
within thirty (30) days of the Payment Due
Date.
(c) The Notice, signed by an officer of
Lender, shall contain the following
information:
(iv) Amount of Payment Due and not
Paid (exclusive of any accelerated
balance)
(d) Notice sent by Lender as above set
forth shall constitute Lender's claim and
demand for payment, together with interest
from date of default, hereunder and Surety
shall be obligated to pay such amount to
lender; provided, however, Surety shall have
the right, at its sole option, to require
Lender to accelerate the entire balance due
under the Note(s), in which case the amount
due from Surety shall be such amount, as
accelerated.
(3) The obligation of Surety hereunder is
primary, direct and unconditional, except as
set forth herein. . . .
(4) The Premium hereunder shall be payable
upon the execution and delivery of this Bond
and shall be fully earned and non-refundable
from that time.
(7) Notice by Lender with respect to any one
default by an Investor shall not exhaust
Lender's rights against Surety, and unless
Surety shall have required Lender to
accelerate a Note and shall have paid to
Lender the full amount of the unpaid balance
thereof (if accelerated) with accrued
interest, Lender shall have the right to make
successive claims against Surety on each
succeeding due date of an installment under a
Note . . . .
The surety bonds' preamble states that Integrity is "firmly
bound" for the full amount "in accordance with the conditions
hereof." Moreover, the succeeding paragraph of the preamble
imposes a condition on the obligation that if the investors fully
perform, "then the obligation is null and void; otherwise, the
parties agree as follows."
The intended meaning of the terms of the surety bond is that
reflected in the trial court's interpretation. The body of the
surety bond, in section three, defines Integrity's obligation as
"primary, direct, and unconditional." That, however, is only a
part of the definition of the surety's obligation. The
definition includes "exceptions," viz: "except as set forth
herein." Thus, while the definition initially provides that
Integrity would be directly, primarily, and unconditionally bound
to Credit Lyonnais to pay the promissory notes even if Credit
Lyonnais did not first demand payment from the investors-obligors, the qualification of that obligation by "except as set
forth herein" alters its nature and character.
The Appellate Division did not perceive the language of
"except as set forth herein" to modify the apparently
unconditional obligation of Integrity to pay Credit Lyonnais.
Instead, it held that the first sentence of the preamble was
conclusive of Integrity's obligation, particularly when
construing ambiguities against paid sureties.
281 N.J. Super. 364, 379-80 (1995). A consideration of all of the provisions of
the surety bonds, however, reveals that their certain meaning is
that Integrity's obligation is conditioned on the investors'
actual default on installments as they come due.
The trial court held that the surety owed only the amounts
already due. It found that the key to interpreting the extent of
Integrity's obligation was the surety bonds' limitation of its
obligation to installment amounts actually defaulted. Section
1(d) of the surety bonds provides that "Notice sent by
Lender . . . shall constitute Lender's claim and demand for
payment, together with interest from date of default, hereunder
and Surety shall be obligated to pay such amount to
lender . . . ." (emphasis added).
As noted, the bonds specify that the obligation of the
surety is to pay only the amounts of installments actually
defaulted. Only those amounts may be included in the creditor's
notice of claim and demand for payment. Thus, at the time that
the bonds were issued, Integrity was not obligated to pay the
full amount of the bonds but only to pay "such amount," namely,
that which would be specified in the "Notice sent by Lender."
This interpretation is reinforced by the terms set forth in
section 1(c)(iv) of the surety bonds. It requires that the
Notice list only the "Amount of Payment Due and not Paid
(exclusive of any accelerated balance)." (emphasis added). Under
the bonds, Integrity's obligation to pay was limited to the
amount of payments due and not paid, which excludes payments not
yet due.
The surety bonds, in section 1(d), do provide that Integrity
has an obligation to pay the full bond amount, including amounts
not yet due, whenever Integrity invokes its right to require
Credit Lyonnais to accelerate the debt. Thus, under the terms of
the bonds, Credit Lyonnais did not have a right to accelerate the
debt unilaterally. Under section seven, it had a right only to
make successive claims for later missed installments as they came
due. That right was extinguished (per section seven) only if
"[Integrity] shall have required [Credit Lyonnais] to accelerate
a Note and shall have paid to [Credit Lyonnais] the full amount
of the unpaid balance thereof (if accelerated) with accrued
interest."
This interpretation conforms with the basic contract rule
that in an installment contract, a new cause of action arises on
the date on which each payment is missed, absent a repudiation.
Metromedia Co. v. Hartz Mountain Assoc.,
139 N.J. 532, 535 (1995)
(citing 4 Corbin on Contracts § 951 (1951 & Supp. 1994)). An
acceleration clause should not be the basis for finding that the
entire debt became due on the first missed installment to the
detriment of the party having the acceleration right without
manifestation of the intent to accelerate the debt. FDIC v.
Valencia Pork Store, Inc.,
212 N.J. Super. 335, 339 (Law Div.
1986), rev'd on other grounds,
225 N.J. Super. 110 (App. Div.
1988).
The amount of the surety bonds also demonstrates that
Integrity was not liable for the full bond amount. The bonds
covered not only the investors' initial debt at the time the
bonds were issued but also the interest that would accumulate
over the following months.See footnote 31
Although the surety bonds do not
cover the maximum interest amount that the investors would owe,
it clearly covered more than the initial debt amount.See footnote 4 It
contravenes basic suretyship principles to hold Integrity liable
on the day it executed the surety bonds for the full bond amount
even though at that time, the principals did not owe the full
amount of the principal obligations. See
74 Am. Jur 2d
Suretyship § 25 ("[T]he liability of the surety is ordinarily
measured by the liability of the principal, and cannot exceed
it.").
The surety bonds, in section four, deem premiums paid as
"fully earned and non-refundable." Those provisions do not
define the extent of Integrity's obligation before the investors
default.
Taken together, these terms and provisions of the suretyship
contracts indicate that Integrity's obligation was intended to be
secondary and limited only to the amounts actually due and owing
under the principal obligations. The interpretation derived from
the language of the preamble that the surety is "firmly bound for
the full amount of the bond" is clearly qualified by substantive
conditions: "in accordance with the conditions hereof." By
denominating the provisions contained in the rest of the surety
bonds as "conditions hereof," the surety bonds explicitly limit
Integrity's obligation otherwise to pay the entire outstanding
bonds. The succeeding paragraph further indicates that the
surety's obligation is secondary. Only when the investors do not
fully perform is the obligation enforceable. The bond provisions
following the preamble define the obligation to pay. Those terms
imposed an obligation on the surety only to pay installments not
in default or otherwise due and owing if those amounts have been
accelerated by the creditor. As noted, however, Integrity never
invoked its right to require Credit Lyonnais to accelerate the
debt.
The critical interpretive determinations that we should make are that the condition that limits the obligation exclusively to amounts actually due and owing is in the nature of a condition precedent to the surety's secondary obligation and that, in this case, the nature of that condition is itself controlled by the provisions for accelerating the amount of the debt not otherwise due and owing. Several cases involving surety bonds that mandated that the obligation to pay "shall remain in full force and effect" if the principal did not fully perform appear to reach a different result. Those cases are distinguishable or not persuasive on this point of interpretation. E.g. Amelco Window Corp. v. Federal Ins. Co., 127 N.J. Super. 342 (App. Div. 1974) (holding contractor liable on construction surety bond where parties did not contest whether clause stating that the obligation "shall remain in full force and effect" created a condition precedent or condition subsequent); In re Liquidation of Wisconsin Surety Corp., 332 N.W.2d 860, 862-64 (Wis. Ct. App. 1983) (holding that language of replevin surety bond that provided that insurer and seller were "held and firmly bound unto [the buyer] for which payment [they] jointly and severally bind [themselves]" and that the obligation was "otherwise to remain in full force" was merely a condition subsequent, and was clearly influenced "by the purpose of the replevin bond: to insure that [the buyer] is reimbursed if the seizure, as here, is wrongful"); In re Liquidation of Wisconsin Surety Corp., No. 81-809, 1 981 WL 139113 (Wis. Ct. App. Dec. 28, 1981) (unpublished) (holding, in
case of surety bond issued to bank covering obligation of
corporate lender to repay loan, that bond provision that
principal and surety were "held and firmly bound unto" the bank
"jointly and severally, firmly by these presents" and that if
principal paid the loan "then this obligation shall be null and
void; otherwise it shall remain in full force and effect" for
principal that had not been defaulted before bankruptcy, was
condition precedent, thereby barring claim against insurance
company). In contrast to these decisions, Integrity's surety
bonds do not provide that the obligation "remain in full force
and effect." Rather, they provide that "the parties agree as
follows."
We would not need to decide how to interpret the surety
bonds had they provided that the obligation "shall remain in full
force and effect." A straightforward reading of the terms of the
surety bonds, however, demonstrates that Integrity's obligation
to pay is conditioned on Credit Lyonnais's providing notice of
defaulted payments. The literal, though admittedly not plain,
meaning of the surety bonds is that, absent acceleration of the
debt, Integrity bound itself to pay only the amounts that
investors had already failed to pay. Therefore, Credit
Lyonnais's claim for installment payments that were due after the
bonds terminated should be denied.
In spite of the bond language and fundamental principles of
suretyship, the Court concludes that Credit Lyonnais is entitled
to the entire outstanding bond amount as a measure of contractual
damages. The Court's analysis is flawed, however, in that
contract principles allow recovery only for claims that already
exist, namely, claims that are currently due and owing.
Moreover, by allowing Credit Lyonnais to recover in contract for
amounts that were not due and owing on the date of the
termination of the bonds, the Court greatly prejudices the
legitimate contractual claims of other creditors, whose claims
were due and owing on the termination date.
The trial court ruled that the appropriate damage award was
a return of unearned premiums. That ruling was based on the
court's determination that Credit Lyonnais was entitled to
recover under the surety bonds only the amount of defaulted
installment payments and not the entire amount of the bonds
representing the unpaid balance of those underlying obligations.
The Appellate Division did not consider this issue when reversing
on other grounds. Contrary to the Court's analysis, the trial
court was surely correct in determining that the proper award is
a return of unearned premiums, not the cost of reinsurance.
The issue here is what damages are appropriate for Credit
Lyonnais when the Liquidation Order terminated the surety bonds.
Claims can be made "in the nature of damages for a breach of
contract" only for claims that existed at the time that the
insurance company was declared insolvent. 19A J. Appleman,
Insurance Law and Practice § 10721 at 196 (rev. ed. 1982). As
discussed previously, Integrity did not owe the full bond amount
at the time of liquidation. See supra at __ (slip op. at 6-12).
Claims that arise after insolvency are not recoverable.
"When an insurance company is adjudicated insolvent[,] . . . its
right to continue business ceases and all of its outstanding
liability is canceled by operation of law, except claims of its
policyholders for unearned premiums and cash surrender values of
policies." Appleman, supra, § 10729 at 260. The surety bonds in
this case do not have any cash surrender value. Credit
Lyonnais's appropriate remedy, therefore, is a return of unearned
prem