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Despite Evidence of Intentional and Negligent Concealment, Bankruptcy Court Dismisses Trustee’s Spoliation of Evidence Counterclaims Because No Injury Was Shown

Posted in CASE SUMMARIES

In re Tri-State Armored Services, Inc., 332 B.R. 690 (Bankr. D.N.J. 2005)

Insurance company brought adversary proceeding against Chapter 7 trustee, seeking either equitable rescission of employee dishonesty, crime, and disappearance insurance policies issued to debtor armored car company, or declaratory judgment that coverage did not exist under the policies. The trustee asserted several counterclaims against the insurer and served discovery requests that sought the production of all documents, including emails related to the insurance policies and the trustee’s claims. The trustee thereafter filed a motion to compel and obtained an order directing the insurer to comply with the outstanding discovery requests. Still, the insurer produced no emails.

After it was discovered in deposition that the insurer’s counsel who had been involved in the determination of coverage (Mr. West) had maintained a telephone log in connection with the case, the insurer produced Mr. West’s telephone log and legal research file. The telephone log consisted of a steno pad with Mr. West’s handwritten list of the telephone and email contacts between himself and the insurer’s representatives, along with numerous faxes that were never provided in discovery or included in the insurer’s privilege log. When the court ordered the insurer to produce the emails identified in the log, the insurer informed the court that it could not produce them because Mr. West had discarded his computer six months before, and the insurer had overhauled its computer systems, erased the hard drives and donated the computers to various charities and schools. The insurer also explained that it utilized America Online (“AOL”) as its email provider and that AOL only saved emails for 27 days; therefore, there were no backup records of the emails. Thereafter, the trustee obtained leave to amend its counterclaim to include claims for spoliation of evidence. The trustee sought compensatory and punitive damages for the insurer’s alleged fraudulent concealment and negligent failure to preserve evidence. When the court decided the merits, however, it dismissed the trustee’s spoliation claims.

The court observed that, under New Jersey law, spoliation and fraudulent concealment of evidence are addressed in the same manner. To establish a cause action under this tort, the plaintiff must show: (1) That defendant in the fraudulent concealment action had a legal obligation to disclose evidence in connection with an existing or pending litigation; (2) That the evidence was material to the litigation; (3) That plaintiff could not reasonably have obtained access to the evidence from another source; (4) That defendant intentionally withheld, altered or destroyed the evidence with purpose to disrupt the litigation; and (5) That plaintiff was damaged in the underlying action by having to rely on an evidential record that did not contain the evidence defendant concealed. With respect to the trustee’s negligence claims, the court observed that New Jersey courts have declined to recognize negligent spoliation of evidence as a separate tort, and have instead resorted to discovery sanctions or to traditional tests for negligence causes of action.

The court concluded that there were sufficient facts to establish the first three elements of the tort of fraudulent concealment. The insurer had a legal obligation to disclose evidence to the trustee in connection with the pending litigation, evidence dealing with the manner in which the claim was being adjudicated was material to the litigation, and the trustee had no other access to the information. The court also found the fourth element was satisfied:

[O]ne could readily surmise that Great American intentionally destroyed the emails since the elimination of both Great American’s and Donald West’s electronic records, in a way that precluded retrieval of the records, appears to be more than coincidental. Buttressing the finding that Great American intentionally destroyed the emails is the fact that [the adjuster], the only person at Great American charged with adjusting the Tri-State claim, maintained no file in connection with the claim . . . Notwithstanding the fact that the Tri-State claim was the largest claim he ever adjusted at Great American, he maintained no internal notes, no hard copies of emails, and no copies of written communications, either sent or received. [The debtor's insurance expert] confirmed that it is highly unusual for a claims adjuster not to maintain a file on the conduct and progress of the claims process.

However, the court determined that the last element, requiring a demonstration that the complaining party was damaged in the underlying action by the concealment, had not been established. “In light of the determination that the policies in question have been rescinded, one can only speculate about how the trustee was damaged by having to rely on an evidential record that did not contain the evidence defendant concealed.” The evidentiary record established that the debtor’s renewal applications contained material misrepresentations about past losses and occurrences which could lead to claims, on which the insurer reasonably relied to issue renewal policies. The court stated it did not know, nor could it reasonably infer from this record, how information developed in March 2001 and beyond by the insurer might have shed positive light on the debtor’s defenses to rescission of the policies.

The court determined that the same was true of the trustee’s assertion regarding the negligent concealment of evidence by the insurer. The trustee contended that Great American negligently failed to maintain adequate records by (1) erasing its computers’ hard drives and donating them without saving backup copies of emails; (2) using AOL as its email provider even though the provider erases all emails after approximately a month; (3) failing to maintain any copies of the emails listed on Donald West’s telephone log prior to disposing of his computer; (4) failing to instruct its employees to maintain copies of emails after Great American determined to deny coverage, and (5) failing to enact any type of company wide policy to preserve claims related documents. The court stated that a cause of action based on negligence requires the demonstration of an injury to the plaintiff proximately caused by the defendant’s breach, and that no articulated injury to the plaintiff was shown. Accordingly, the court dismissed the trustee’s intentional and negligent spoliation of evidence claims.