Don’t Hide Issue Until Trial

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At trial on the breach of contract action plaintiffs sought to amend their complaint to include an otherwise untimely reformation claim based on mutual mistake and a preexisting oral agreement. In 34-06 73, LLC, et al. v. Seneca Insurance Company, 2022 NY Slip Op 06029, No. 81, New York Court of Appeals (October 27, 2022) the insurer appealed the reformation of its policy sought for the first time at trial.

Seneca Insurance Company issued plaintiffs 34-06 73, LLC, Bud Media, LLC, and Coors Media, LLC a multi-million dollar, written insurance policy covering several of plaintiffs’ vacant commercial properties. The parties do not dispute the contents of the policy, only whether plaintiffs’ complaint asserting breach of contract and seeking damages put defendant on notice of the transactions or occurrences underlying plaintiffs’ belated claim to reform the policy to eliminate the condition that supported the claim denial.

The policy, as issued, included a Protective Safeguards Endorsement (“PSE”) that required plaintiffs, among other things, to maintain an automatic sprinkler device on the subject property as a material condition precedent to coverage.

Approximately one month after the policy went into effect, defendant’s agent conducted an inspection of the premises and issued a report to plaintiffs’ principal and sole owner, Mohammad Malik, advising him that there was no compliant sprinkler system on the premises and recommending that plaintiffs notify the insurer defendant of the system’s non-operability. Malik did not do as advised.

A little more than four months later, there was a fire on the premises and plaintiffs requested payment under the policy for damages incurred. Defendant notified plaintiffs that it was denying the claim under the PSE because plaintiffs did not maintain a working sprinkler system.

Plaintiffs sued for breach of contract, seeking over $2.4 million in damages based on defendant’s failure to cover the fire loss.

At trial, for the first time, plaintiffs argued that the written policy did not reflect the parties’ agreement. Malik testified that he told his insurance broker that he did not want the policy to include a protective safeguard endorsement because the properties were vacant buildings or lots, and most did not have sprinklers. However, he admitted that he did not read the insurance policy. Defendant’s Vice President of Underwriting, Carol Muller, testified that an underwriting file disclosed during discovery did not contain documents referencing the PSE or the sprinkler system, that the premiums quoted for the Policy were for a non-sprinklered building, and that the inclusion of the PSE may have been a mistake.

After plaintiffs rested, they orally moved to amend the complaint to conform the pleadings to the proof by adding a claim for reformation. The court granted plaintiffs’ motion, concluding that the claim related back to the complaint because it was “part of the whole thrust of the complaint originally” and the jury should decide whether the PSE’s inclusion resulted from a mutual mistake.

The jury returned a verdict in favor of plaintiffs on the reformation claim, finding that plaintiffs established by clear and convincing evidence that the parties’ true agreement was a policy without a PSE and it was a mutual mistake to include the PSE in the policy.

Defendant maintained that the complaint alleged only nonperformance and contained no indication that the contract failed to reflect the parties’ intent. Defendant also asserted surprise and prejudice. Regardless, the Appellate Division affirmed the judgment in the plaintiffs’ favor, holding that the court providently granted plaintiffs’ application to conform the pleadings to the trial evidence to assert a claim for reformation.

ANALYSIS

Applications to amend pleadings are within the sound discretion of the court and exercise of such discretion may be upset by an appellate court only for abuse as a matter of law. However, the high court concluded that there was no sound basis in law to grant amendment to add an untimely claim.

It was undisputed that when plaintiffs sought to amend their complaint the statute of limitations on the reformation claim had expired and was therefore time-barred unless it related back to the original pleading. Plaintiffs’ reformation claim will only relate back to the original complaint – and is thus not barred by the statute of limitations – only if the complaint placed defendant on notice of the transactions, occurrences, or series of transactions or occurrences, to be proved in support of that claim.

To plead reformation, a plaintiff must allege sufficient facts supporting a claim of mutual mistake, meaning that “the parties have reached an oral agreement and, unknown to either, the signed writing does not express that agreement”. New York recognizes a heavy presumption that a deliberately prepared and executed written instrument manifests the true intention of the parties, the proponent of reformation must show in no uncertain terms, not only that mistake or fraud exists, but exactly what was really agreed upon between the parties.

In plaintiffs’ complaint they failed to give notice to defendant of the transactions or occurrences on which plaintiffs based their reformation claim.

In their original complaint, plaintiffs reference a specific written policy which they identified as the parties’ agreement and which they allege defendant breached. The complaint further alleged that plaintiffs complied with all of the conditions precedent and subsequent pursuant to the terms of the subject policy. The latter allegation is fatal to plaintiffs’ assertion that the complaint provides notice of the transactions or occurrences to be proved in support of a reformation claim. In fact, if anything, it suggests the opposite because, by asserting total compliance with the policy (as issued) and its conditions plaintiffs necessarily disclaimed any challenge to the policy’s terms, specifically the PSE.

The reformation claim, as advanced by plaintiffs, was based on a purported oral agreement negotiated by Malik with the broker that preceded the contract’s formation, whereas the breach of contract claim in the original complaint was based on the written policy which includes the PSE and with which plaintiffs alleged full compliance. Therefore, nothing in the stand-alone breach of contract claim put defendant on notice that there was a prior oral agreement that excluded the PSE and that the PSE’s inclusion in the written policy was a mistake.

Plaintiffs’ complaint foreclosed a factual or inferential basis for notice of mutual mistake notice by unqualifiedly alleging that they “complied with all of the conditions precedent and subsequent pursuant to the terms of the subject policy.” The complaint contained no alternate theory of recovery or factual allegations based on pre-formation transactions or occurrences. The complaint therefore only put the defendant on notice of transactions or occurrences related solely to the written policy and plaintiffs’ total compliance with that agreement’s terms, which include the PSE’s sprinkler requirement.

As a result the reformation claim cannot relate back to plaintiffs’ original pleading because it only alleged compliance with the policy as written and the trial court abused its discretion as a matter of law when it granted plaintiffs’ motion to amend to include this time-barred claim.

Plaintiffs’ motion to amend the complaint to include a reformation cause of action was denied, and the case was remitted to Supreme Court (trial court), New York County, for entry of judgment in accordance with the opinion herein.

The plaintiff insured and counsel made a decision at the time the suit was filed to sue only for breach of contract although the plaintiff knew he felt the policy issued was not what he ordered and when he was told of the error – before the fire – did nothing to correct the terms and conditions of the policy. Rather than dispute the PSE as an error he sued claiming he had complied with the condition that he was advised did not exist. Only later, during trial did he seek reformation. The trial court erred allowing reformation because the defendant was not given notice of the equitable claim and was sandbagged and unable to do discovery or bring in evidence to counter the claim. Malik’s failure to react to the advice about the condition requiring PSE and that he lacked appropriate PSE defeated his claim.

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 54 years in the insurance business. He is available at http://www.zalma.com and zalma@zalma.com.Subscribe and receive videos limited to subscribers of Excellence in Claims Handling at locals.com https://zalmaoninsurance.locals.com/subscribe.Subscribe to Excellence in Claims Handling at https://barryzalma.substack.com/welcome.

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