PRACTICAL POLICYHOLDER ADVICE 

In a recent opinion, the US Court of Appeals for the Ninth Circuit overruled a district court’s determination that could have bolstered an insurer’s attempts to deny liability coverage for a wide range of fraud-based claims. In Office Depot, Inc. v. AIG Specialty Insurance Co., the Ninth Circuit held that California law does not preclude insurance coverage for losses incurred as a result of suits brought under the California False Claims Act (CFCA). In doing so, the court rejected the district court’s theory that all CFCA violations, even those that were merely reckless, involved intentional acts and were therefore barred from coverage. 

In a recent opinion, the US Court of Appeals for the Ninth Circuit revived a long-running insurance coverage dispute between Office Depot and AIG. Office Depot, Inc. v. AIG Specialty Insurance Co. confronted the question of whether California law precludes insurance coverage for losses incurred in connection with alleged violations of the California False Claims Act (CFCA). In breathing life back into the lawsuit, the Ninth Circuit held that such coverage is not categorically precluded by California law.

In March 2009, a former Office Depot employee filed a qui tam suit against the company under the CFCA, which prohibits knowingly presenting the government with a false claim for payment or knowingly using a false record to get a false claim paid by the government. The suit alleged that Office Depot used a variety of underhanded practices to overcharge for the office supplies it provided to more than 1,000 government entities in California. The alleged tactics included misrepresenting prices in brochures, tricking customers into opting for higher priced plans, failing to disclose costs, changing its prices more frequently than promised, and discontinuing popular cheaper products in order to charge more for similar items. Once the suit was unsealed in 2012, several government entities in California that had contracted with Office Depot intervened in the case and asserted their own claims against the company. The parties settled the dispute in 2015. Under the settlement agreement, Office Depot admitted no liability but agreed to pay $77.5 million, and the aggrieved parties released Office Depot from all liability. 

When the case was first unsealed in 2012, Office Depot notified its insurer, AIG, of the suit. Office Depot had purchased two insurance policies from AIG covering the relevant time period and in presenting its claim for coverage asserted that it was entitled to defense costs and indemnity coverage under those policies. AIG disagreed and rejected the claims. 

Following the settlement in the underlying action, in 2015, Office Depot sued AIG in the Central District of California, raising four claims: Count I alleged that AIG breached its duty to defend Office Depot in the CFCA suit, Count II alleged that AIG breached its duty to indemnify Office Depot for the costs incurred in the settlement, Count III alleged that AIG breached the implied covenant of good faith and fair dealing, and Count IV sought declaratory judgement regarding the first two counts. AIG moved to dismiss these counts, and in 2016 the district court granted the motion as to Count II. Section 533 of the California Insurance Code, the district court explained, provides that insurers are not liable for “a loss caused by the willful act of the insured.” Although the CFCA covers claims made with reckless disregard for their truth, which seem to fall below Section 533’s “willful” threshold, the district court reasoned that because a false claim must be submitted for the purpose of receiving payment for the law to apply, a CFCA violation “necessarily requires the intent to induce reliance.” Thus, CFCA violations involve willful acts and Section 533 barred AIG from indemnifying Office Depot, according to the district court. 

Six months later, the district court relied on the same theory to grant summary judgment to AIG on Count I, alleging that AIG breached its duty to defend Office Depot in the CFCA case. Because Section 533 prevented AIG as a matter of law from indemnifying Office Depot, the district court reasoned, there was neither the potential for coverage nor the reasonable expectation of coverage required to trigger the duty to defend. 

Office Depot appealed both of these rulings to the Ninth Circuit, challenging the district court’s interpretation of the CFCA. Reading an intentional act into any CFCA violation, Office Depot argued, violated the statute’s clear language, which provides that a claim made with reckless disregard for (i.e., without intent toward) its truth can constitute a violation. Moreover, Office Depot argued, cases construing the federal False Claims Act (FCA) (on which the CFCA was based), as well as the legislative history of the federal law, also indicate that mere recklessness is sufficient for a violation. And since other cases have held that Section 533 does not preclude insurance coverage for losses involving violations of other statutes that premise liability on recklessness, Section 533 similarly cannot preclude coverage here. The upshot of all this, Office Depot argued, is twofold. First, the proper interpretation of the CFCA shows that AIG’s duty to indemnify Office Depot was not, as the district court concluded, precluded by law, and so the claim should not have been dismissed. And second, because the duty to indemnify was not precluded by law, there was a possibility of coverage for Office Depot’s claims, which clearly triggered AIG’s duty to defend and meant that the district court erred in granting AIG summary judgement on the claim. 

United Policyholders also weighed in as an amicus in support of Office Depot’s pro-coverage positions. The group’s amicus brief reiterated Office Depot’s argument that Section 533 did not preclude coverage of these claims because an act need not be willful in order to constitute a CFCA violation. Accepting the district court’s theory that any CFCA violation involves an intentional act, United Policyholders went on to note, would mean that any false claim—even those that are false as a result of negligence rather than design—are uninsurable by law. And the theory would not be limited to claims on the government for reimbursement; it would also threaten the insurability of a wide range of other claims, like “securities-related disclosures by corporations” and “advice given by lawyers [or] accountants.” 

In its answering brief, AIG defended the district court’s reading of the CFCA. AIG pointed out that a California appeals court had previously found Section 533 to preclude coverage for losses from a violation of an analogous corporate disclosure statute that creates liability for a statement made with reckless disregard for its truth, but with the intent to cause the purchase or sale of a security. According to AIG, the district court was thus justified in reasoning that CFCA violations, involving claims allegedly made with the intent to cause the government to reimburse them, necessarily involve willful acts. By that same argument, Section 533 would consequently vitiate any duty for AIG to indemnify, or defend, Office Depot. AIG went on to argue that, even if Section 533 did not preclude coverage, Office Depot’s claims fell outside the scope of the insurance agreement.

In an unsigned, unpublished opinion, the Ninth Circuit sided with Office Depot. A panel comprising Judges Wardlaw, Nguyen, and Owens explained that it was “unpersuaded by the district court’s reasoning that CFCA liability also requires the ‘intent to induce reliance.’” On the contrary, CFCA claims require only recklessness, and so don’t necessarily involve the “willful” conduct required by Section 533. Thus, the Ninth Circuit held that the district court had erred in dismissing Office Depot’s duty-toindemnify claim and in granting summary judgement to AIG on the duty-to-defend claim. The Ninth Circuit remanded so the district court could consider AIG’s remaining arguments about whether Office Depot’s claims were within the scope of the insuring agreement.

On its face, this decision confronted the availability of insurance coverage for losses incurred in connection with alleged violations of the CFCA. The similarities between the CFCA and the federal FCA, however, raise the potential for broad application of this decision by policyholders facing such claims. An affirmance by the Ninth Circuit would have solidified a significant restriction on the types of fraud-based claims for which policyholders could seek a defense and indemnification from their insurers. Indeed, as the United Policyholders amicus brief noted, the district court’s theory could have justified precluding coverage in cases far beyond false claims act violations. By keeping open the possibility of coverage for CFCA claims, the Ninth Circuit roundly rejected this theory in a manner favorable to policyholders.