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Insurance/ReinsuranceJanuary2012MADOFF AND INSURANCECOVERAGEThis article first appeared in Insurance Day in December 2011 and is reproduced with their kindpermission. www.insuranceday.comReports of the Madoff fraud in December 2008led to an influx of insurance notifications onBankers Blanket Bond (“BBB”)/Crime; Directors’& Officers’ (“D&O”); Errors and Omissions(“E&O”) and Professional Indemnity (“PI”)policies. Notifications were primarily made onE&O and PI policies, and mainly on behalf oflawyers, accountants and financial institutions.The litigation which ensued has led to a numberof important insurance coverage issues:BBB/Crime are first party policies whoseapplication in this context is usually restrictedto frauds undertaken by employees; forgedinstruments or computer misuse. Coverageissues include:• Was Madoff an employee (as well as adirector)? Policies usually exclude theacts and omissions of directors, howevernormally these do not apply to employeedishonesty sections of the policies.• Was it the company’s or the employee’sfraud? While a company cannot benefit fromits own fraud, it can benefit from insurancewhich protects against losses arising fromit’s employee’s fraud.• Most policies require the proof of loss tobe provided within six months of discoveryof the fraud but such deadlines can beextended with insurers’ consent. Thedefinition of loss can make the formulationof a proof of loss a complex issue.Third party policies have however been the mostaffected:• Many financial institutions’ E&O policiesrenew their insurance on a calendaryear basis. The awareness of the fraudin December 2008 resulted in issuesconcerning the scope of notifications andprior awareness of circumstances exclusionsin the renewing policies.• Claims brought by the Trustee of Bernard L.Madoff Investment Securities LLC againstthe feeder funds and, in turn, feeder funds’


claims against their investors havebeen largely restitution claims,normally excluded under E&O andPI policies.• The recent decision of JusticeBannister QC in the BVI in respectof the liquidator of Fairfield SentryLimited’s restitution claims againstinvestors provides hope to thosedefending those claims. For thoseentities defending such actionson behalf of their investor clients,substantial legal costs havebeen incurred. Some have takenadvantage of the mitigation costscover in their policies but they willhave to show such costs havebeen incurred to mitigate potentialclaims.• Securities Act exclusions excludeclaims arising out of breachesof the Securities Act 1933 andSecurities Exchange Act of 1934.Such exclusions are usually broadand issues have arisen as a result.• The professional servicesexclusion. For D&O claims thiswould exclude claims arisingfrom the professional andfinancial services of the insured’scompany.• Insolvency and fraud exclusionsalso come into play.There have been a multitude of claimsand/or defence costs paid to date byinsurers on Madoff related litigationhighlighting the benefits of suchinsurance. The litigation and insurancecoverage issues arising provides auseful aide for risk managers to ensurethey have the right cover in place fortheir organisations moving forward.For further information, pleasecontact Graham Denny, Associate,on +44 (0)20 7264 8387 orgraham.denny@hfw.com, or yourusual contact at HFW.Lawyers for international commerce hfw.comHOLMAN FENWICK WILLAN LLPFriary Court, 65 Crutched FriarsLondon EC3N 2AET: +44 (0)20 7264 8000F: +44 (0)20 7264 8888© 2012 Holman Fenwick Willan LLP. All rights reservedWhilst every care has been taken to ensure the accuracy of this information at the time of publication, the information is intended as guidance only. It should not beconsidered as legal advice.Holman Fenwick Willan LLP is the Data Controller for any data that it holds about you. To correct your personal details or change your mailing preferences pleasecontact Craig Martin on +44 (0)20 7264 8109 or email craig.martin@hfw.com

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