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Note: To assure reimbursement of the USD 500,000 deductible on automobile liability, worker’s compensation, and general liability insurance policies issued by Liberty Mutual Insurance Co. (Insurer/Beneficiary), Metro Affiliates, Inc. (Insured/Applicant) provided a standby letter of credit. The parties agreed that Insurer/Beneficiary could pay out insurance claims including the deductible amount and reimburse itself from collateral that it held, including drawing on the letter of credit or applying any proceeds from a drawing. When Insured/Applicant failed to provide a replacement for expiring standbys, Insurer/Beneficiary drew on the standby, producing a collateral fund which it held of approximately USD 16,200,000.

Insured/Applicant became insolvent and filed for bankruptcy protection and proposed a plan and a memorandum regarding claim handling procedures. The Insurer/Beneficiary and Insured/Applicant agreed that the collateral not used in reimbursing deductible amounts would be returned to the Bankruptcy Estate.

The plan provided that claimants could proceed to seek recovery from applicable policies to the extent that there were funds available under the applicable policies. After such funds were exhausted, claimants would constitute general unsecured creditors of the Estate.

Kathleen McCarthy (Claimant), a person who was severely injured in a motor vehicle accident covered by a policy with a USD 25,000 limit, moved to have the memorandum between Applicant/Insured’s Liquidating Trustee and Insurer/Beneficiary rejected and seeking a clarification of the plan. The U.S. Bankruptcy Court for the Southern District of New York, Lane, J., denied both motions.

The Judge rejected Claimant’s argument that the collateral be used on a pro rata basis on all uninsured claims, and ruled that Claimants’ attempt to “stake ownership over the collateral solely for the benefit of the insured unsecured claims is improper under the Plan and the applicable bankruptcy law. It is clear that, while the collateral is not currently property of the Debtors per se, given the applicable law and letters of credit, the Debtor retains a residual property interest in seeking the return of any unused portions of the collateral….”

[KCM]

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The views expressed in this Case Summary are those of the Institute of International Banking Law and Practice and not necessarily those of the ICC or Coastline Solutions.