Facultative Certificates achieve concurrency by incorporating the terms and conditions of the reinsured policy through a “follow-the-form” or “following form” clause, which “expressly limits the reinsurance to the terms and conditions of the underlying policy” such that “the scope of the reinsurer’s undertaking is not broader (or narrower) than that of the ceding insurer.” A Facultative Certificate “will most often be intended to be congruent, or nearly so, with the underlying policy.” In other words, a reinsurer’s liability under a facultative certificate is generally understood to be identical to a cedent’s liability under the underlying policy, unless the facultative certificate expressly states otherwise. Accordingly, in the 1970s and 1980s, when an underlying policy required a cedent to pay investigation and defense expenses in addition to paying the applicable limits of loss, facultative reinsurers would likewise pay expenses in addition to the applicable “Reinsurance Accepted” amount, unless non-concurrency was specifically indicated.
This industry understanding was upended by a 1990 Second Circuit holding (generally referred to as “Bellefonte”) that a facultative certificate’s “Reinsurance Accepted” amount stated an overall limitation on the reinsurers’ liability. Several courts extended the decision, putting cedents in a tenuous position where their reinsurance was limited by the “Reinsurance Accepted” amount, even though they were required to pay their insured’s defense costs in addition to loss limits under the terms of their commercial general liability and/or commercial umbrella policies. Where a cedent was responsible for paying under a policy that insured liabilities like asbestos, defense costs often greatly exceeded loss payments.
Beginning in 2016, however, the Second Circuit, based on guidance from the New York Court of Appeals, began moving away from the Bellefonte notion that the “Reinsurance Accepted” amount stated in a facultative certificate imposes a per se cap on a reinsurer’s liability in a line of cases generally referred to as Global Re. Then, at the end of 2021, it firmly disavowed the earlier line of cases which had imposed such a cap. Instead, the Second Circuit applied ordinary rules of contract interpretation to find that the facultative certificates at issue required a reinsurer to pay defense costs in addition to loss limits.
Shortly before the Second Circuit’s 2021 ruling in Global Re, a district court in the Eastern District of Michigan similarly considered whether a reinsurer’s total liability under a facultative certificate was capped by the “Reinsurance Accepted” amount stated in the certificate under Michigan law. In Amerisure Mutual Insurance Company v. Transatlantic Reinsurance Company, the district court applied ordinary rules of contract interpretation and similarly found that the certificates required the reinsurer to pay defense costs in addition to loss limits.
Together, these recent decisions show a clear judicial trend towards applying ordinary principles of contract interpretation when determining a reinsurers’ liability under facultative certificates.
II. Legal Background: Bellefonte, Unigard, and Excess
In Bellefonte Reinsurance Company v. Aetna Casualty and Surety Company, Aetna issued primary and excess liability policies to A.H. Robins Company (“Robins”), the manufacturer of the Dalkon Shield intrauterine device. After a number of products liability actions were brought against Robins, Robins filed a declaratory judgment action against Aetna seeking a decision that Aetna was obligated to pay its defense costs under the excess liability policies, regardless of whether those defense costs exceeded the limitations of liability stated in the excess insurance policies. Aetna and Robins eventually reached a settlement under which Aetna agreed to pay an amount “substantially in excess” of the liability limit stated in the policies.
Aetna turned to its reinsurers to recoup a portion of the excess. The facultative certificates at issue contained a “following form” clause and provided a “Reinsurance Accepted” limit of, as one example, “$500,000 part of $5,000,000 excess of $10,000,000 excess of underlying limits.” The reinsurers filed a declaratory judgment action, seeking a determination that their liability under the applicable facultative certificates was limited by the “Reinsurance Accepted” amount. The district court granted the reinsurers’ motion for summary judgment, finding that the “Reinsurance Accepted” amount stated an overall limitation on the reinsurers’ liability. In other words, the reinsurers only had to reimburse Aetna up to the “Reinsurance Accepted” amount stated on their facultative certificate, inclusive of both indemnity and expense.
Aetna appealed to the Second Circuit, which agreed with the district court, holding that the “Reinsurance Accepted” portion of a facultative certificate limited a reinsurer’s total liability for loss indemnity and expense:
Once the reinsurers have paid up to the certificate limits, they have no additional liability to Aetna for defense expenses or settlement contributions. Any other construction of the reinsurance certificates would negate the phrase “the reinsurer does hereby reinsure Aetna ... subject to the ... amount of liability set forth herein.” (emphasis added). The reinsurers are liable only to the extent of the risk they agreed to reinsure. They cannot be liable for the insurer's action in excess of the agreement.
This became known in the insurance industry as the “Bellefonte cap.”
A few years later, the Second Circuit reaffirmed the Bellefonte cap in its decision Unigard Security Insurance Company, Inc. v. North River Insurance Company (“Unigard”). Then, in 2004, the New York Court of Appeals in Excess Insurance Company v. Factory Mutual Insurance (“Excess”) applied the reasoning of Bellefonte and Unigard to a property reinsurance agreement, finding that the reinsurers in that case could not be required to pay loss adjustment expenses in excess of the stated limit in the facultative certificates—“[o]therwise the reinsurers would be subject to limitless liability.”
Because the decisions undermined the fundamental principle of concurrency in reinsurance contracts, the reinsurance business community criticized Bellefonte, Unigard, and Excess extensively.
III. Recent Court Decisions
A. Moving Away From Bellefonte: Global Re and Utica
In 2016, the Second Circuit revisited the “Bellefonte cap” in Global Re III. In that case, Global Reinsurance Corporation of America (“Global Re”) issued ten facultative certificates to Century Indemnity Company (“Century”), under which Global Re agreed to indemnify Century for losses and litigation expenses Century might incur in connection with commercial liability policies Century issued to Caterpillar Tractor Company from 1962 to 1981. Under these policies, Century was obligated to pay for both Caterpillar’s loss and defense costs, but the obligation to pay for defense costs was not subject to the policies’ liability limits. The facultative certificates contained a “follow form” clause (materially identical to same clause considered in Bellefonte) and identified the basis of coverage as “Excess of Loss.” Global Re’s “Reinsurance Accepted” was: “$250,000 part of $500,000 each occurrence as original excess of the Company’s retention”.
Relying on Bellefonte and Unigard, the district court held that the facultative certificates imposed a cap on Global Re’s total liability with respect to both losses and litigation expenses. Century appealed, arguing that the facultative certificates did not cap payments related to litigation expenses because they were written to be “concurrent with,” or the same as, the policies that Century had issued to Caterpillar.
On appeal, with doubt surrounding prior rulings and unclear as to the scope of the New York Court of Appeals’ ruling in Excess, the Second Circuit expressed its hesitation to accept that the Bellefonte cap applied:
The purpose of reinsurance is to enable the reinsured to “spread risk of loss among one or more reinsurers.” . . . If the amount stated in the “Reinsurance Accepted” provision is an absolute cap on the reinsurer’s liability for both loss and expense, then Century’s payments of defense costs could be entirely unreinsured. This seems to be in tension with the purpose of reinsurance.
It therefore certified the question back to the New York Court of Appeals of whether Excess imposes a “rule of construction, or a strong presumption, that a per occurrence liability cap in a reinsurance contract limits the total reinsurance available under the contract to the amount of the cap regardless of whether the underlying policy is understood to cover expenses such as, for instance, defense costs?”
Upon consideration of the Second Circuit’s certified question, the New York Court of Appeals definitively answered “no” and declared that there is no rule or presumption that a “liability limitation in a [facultative] reinsurance contract caps all obligations of the reinsurer, such as payments made to reimburse the reinsured’s defense costs.” The court reasoned that reinsurance contracts are governed by the same principles that govern contracts generally, and that “[r]einsurance, like any other contract, depends upon the intention of the parties, to be gathered from the words used, taking into account, when the meaning is doubtful, the surrounding circumstances.” The New York Court of Appeals left it to trial courts to determine party intent “from the words used, taking into account, when the meaning is doubtful, the surrounding circumstances.” “Like any contract, a facultative reinsurance contract ‘that is complete, clear and unambiguous on its face must be enforced according to the plain meaning of its terms.’ ”
The Second Circuit thereafter ruled in Global Re VI that the district court’s determination that the Reinsurance Accepted amount capped the reinsurer’s liability “was premised on an erroneous interpretation of New York state law” and remanded the case to the district court, instructing it to construe the reinsurance certificates according to the language of those certificates and the specific context of reinsurance.
Later that same year, the Second Circuit confirmed in Utica Mutual Insurance Co. v. Clearwater Insurance Co. that a Facultative Certificate’s “reinsurance liability limit has little significance on its own.” Like in Global Re VI, the Second Circuit followed the New York Court of Appeals’ directive to analyze the facultative certificates at issue using “[p]rinciples of contract interpretation.” “Under New York law,” the Second Circuit explained, “a naked ‘limitation on liability’ or ‘reinsurance accepted’ clause does not inherently cap the reinsurer’s liability at that amount.” The “liability limit, in other words, says nothing about whether that liability cap is expense-supplemental or inclusive.” Whether a certificate is expense-supplemental turns on the terms of the umbrella that the certificate follows. Therefore, in light of “follow-the-form clause, “[b]ecause the underlying policies are expense supplemental, the Clearwater certificates likewise are expense-supplemental.”
B. The Latest Decision in Global.
On remand from the Second Circuit, the district court held the “plain and unambiguous meaning” of the Global Re’s facultative certificates was that the “Reinsurance Accepted” amount “caps losses, and also caps expenses when there are no losses, but does not cap expenses when there are losses”—in other words, the reinsurer was required to pay expenses in addition to losses. The district court explained that concurrent treatment of defense costs was incorporated into the certificates through each certificate’s “follow-form” clause, which made Global Re’s reinsurance subject to the same terms and conditions of the underlying Century policies except as otherwise specifically provided. Finding that no provision specifically provided for non-concurrent treatment of defense costs—and that the testimony of Century’s expert witnesses as to the presumption of concurrency in the reinsurance market was credible—the district court denied Global Re’s request for declaratory relief.
Global Re appealed, and the case went back to the Second Circuit. The Second Circuit agreed with the district court and finally—firmly and unequivocally—disavowed Bellefonte and Unigard:
Applying ordinary rules of contract interpretation, . . . the reinsurance certificates’ follow-form clauses require Global to pay its proportionate share of Century's defense costs in excess of the certificates’ liability limits. We base this conclusion on the certificates’ unambiguous language as well as the testimony of Century's experts confirming that a strong presumption of concurrency prevailed in the reinsurance market at the time the certificates were issued.
To the extent that Bellefonte and Unigard suggest a different outcome, we conclude that those cases have been undermined by the decision of the New York Court of Appeals answering our certified question. For that reason, Bellefonte and Unigard no longer constitute the law of our circuit. Accordingly, we affirm the judgment of the district court.”
This latest decision in Global Re VIII thus confirms that New York courts will apply ordinary rules of contract interpretation when interpreting facultative certificates.
C. The Eastern District of Michigan Comes to the Same Conclusion as Global Applying Michigan Rules of Contract Interpretation in
Shortly before the Second Circuit made its latest ruling in Global Re VIII, the Eastern District of Michigan considered whether Transatlantic Reinsurance Company (“TransRe”) was obligated to pay defense costs in addition to the applicable limit of liability for covered asbestos loss payments. Unlike in New York, there have been few reported reinsurance decisions involving Michigan law, so the court was able to write on a clean slate without the need to reconcile conflicting precedent.
In 1981 and 1982, TransRe issued to Amerisure Mutual Insurance Company’s predecessor facultative certificates that covered a portion of Amerisure’s risk under commercial general liability and umbrella policies it issued to Armstrong Machine Works. Armstrong manufactured a steam trap with a gasket containing non-friable asbestos. Amerisure’s umbrella policies with Armstrong obligated Amerisure to pay defense costs in addition to the applicable limit of liability for covered loss payments. The facultative certificates provided reinsurance on a “Contributing Excess” basis and contained a standard follow-the-form clause. The “Reinsurance Accepted” amount was, on one certificate, $2 million part of $4 million “each occurrence and in the aggregate where applicable excess of” $1 million “each occurrence and in the aggregate where applicable excess of primary.”
TransRe argued that under the terms of the facultative certificates, its total liability was capped at by the “Reinsurance Accepted” amount. The court disagreed, finding “the plain terms in the facultative certificates rebuff Defendant’s reading of them” because the “Reinsurance Accepted” provision does not explain what payments count towards the $2 million aggregate limit. The court based its decision on ordinary principles of contract interpretation, which are standard across jurisdictions:
- Insurance policies are interpreted “like any other contract;”
- Insurance policies are “read as a whole, with meaning given to all terms;” and
- Courts read contract terms based on “their commonly used meaning.”
In particular, the court looked to the follow-the-form clause in the certificates’ General Conditions, which stated that TransRe’s liability “follow[s]” Amerisure’s “liability in accordance with the terms and conditions of the policy reinsured” except “to those terms and/or conditions as may be inconsistent with the terms of th[e] [c]ertificate.” The question for the court, then, was “whether the loss expense liability in the primary insurance policy is ‘inconsistent with the terms of th[e] [c]ertificate.’” The “Contributing Excess” definition explicitly stated that TransRe’s limit of liability, as set forth by the “Reinsurance Accepted” amount, “applies proportionally to all loss settlements”. The certificates defined “loss” to mean money damages paid by Armstrong in settlement or judgment, and the definition of “loss” explicitly excluded “loss expense,” which the certificates separately defined to mean defense costs. Therefore:
Put together, the 1981 certificate provides: the reinsurer’s liability limit applies proportionally (based on the $2 million part of $4 million percentage) to all amounts actually paid by Plaintiff only in settlement or satisfaction of claims, awards, or judgments. Adopting Defendant's reading of the certificates is revisionist. Reading the term “loss expenses” into the “Contributing Excess” definition would alter the parties’ intent because the parties explicitly excluded loss expenses from counting against Defendant's liability limit. . . . [T]he certificates’ terms are clear, and the Court must enforce the terms as written.
IV. Key Takeaways
Amerisure indicates that other jurisdictions will follow the Second Circuit’s lead in THE Global Re decisions and enforce facultative certificates according to their plan terms, applying ordinary rules of contract interpretation. After the New York Court of Appeals’ and Second Circuit’s recent decisions in Global Re, the “Reinsurance Accepted” amount does not provide a presumptive cap on a reinsurer’s total obligation under a facultative certificate with respect to both losses and expenses under New York law. Together with the decision in Amerisure, there is now strong and clear precedent that for a court to properly interpret a facultative certificate, it must look at the language used by the parties and apply ordinary principles of contract interpretation. Where there is a standard follow-the-form clause, a reinsurer’s liability under a facultative certificate will likely be concurrent with its cedent’s liability. These decisions underscore the importance of using clear language and clearly defined terms in facultative certificates.