## Facts

- Reserve Insurance Company (Reserve) participated in a series of reinsurance arrangements referred to as the “3400 pool.”
- In the 3400 pool, Reserve both (a) issued insurance policies that were reinsured by other pool participants and (b) reinsured policies written by other pool participants.
- The 3400 pool was managed at different times by American Reserve Insurance Brokers International, Montgomery and Collins, Inc. of Texas, and Petroleum Insurance, Inc. (the “Managers”), who handled quarterly accountings and related transactions for pool participants.
- After each quarter, the pool manager provided accountings showing each participant’s premiums and losses; the participant then paid the manager the difference when premiums exceeded losses.
- Reserve’s losses often exceeded its premiums, and Reserve’s financial condition worsened.
- As Reserve’s condition declined, the manager stopped issuing Reserve policies, cancelled certain Reserve policies, and issued replacement policies in the names of other ceding companies.
- Reserve was declared insolvent and placed into liquidation under Illinois law.
- Philip R. O’Connor, the Illinois Director of Insurance acting as liquidator of Reserve, sued various defendants, including twenty-six reinsurers (including Insurance Company of North America) and the Managers.
- The liquidator sought to recover amounts allegedly owed to Reserve, including reinsurance proceeds, funds tied to claim payments, unearned premiums held by the Managers, and unearned commissions connected to cancelled Reserve policies.
- Defendants moved for partial summary judgment seeking a declaration that any recovery by Reserve’s estate must be reduced by setoff for debts Reserve owed them.
- The liquidator cross-moved for partial summary judgment contending that defendants were not entitled to setoff and that certain cancellations and related transactions were improper under Illinois liquidation rules.

## Issues

1. Whether, under the Illinois insurance liquidation statute, reinsurers and pool managers could set off mutual debts and credits arising before the liquidation order against amounts they owed to Reserve’s estate.
2. Whether the challenged pre-liquidation cancellations of Reserve policies and issuance of replacement policies were authorized under the governing agreements or were voidable as preferences or otherwise improper transfers.
3. Whether claims for reinsurance proceeds, unearned premiums, and unearned commissions could be collected without reduction for Reserve’s pre-liquidation obligations to the defendants.

## Decision

- The court granted defendants’ motions for partial summary judgment to the extent they sought recognition of setoff for mutual, pre-liquidation debts and credits under Illinois law.
- The court denied the liquidator’s cross-motion for partial summary judgment seeking to bar setoff and to treat the cancellations and related transactions as improper.
- The court held that the cancellations and associated handling of unearned premiums/commissions, as presented on the motions, were authorized by the contractual arrangements and did not qualify as voidable preferences on the theory advanced by the liquidator.
- As a result, certain claims premised on the absence of setoff rights or on a preference theory were resolved against the liquidator at the summary-judgment stage.

## Legal Principles

- Under Illinois insurance liquidation law, a creditor of an insolvent insurer may set off mutual debts and credits that arose before the entry of the liquidation order.
- “Mutual” debts generally require obligations running between the same parties in the same capacity, and both obligations must be pre-liquidation to qualify for statutory setoff.
- Statutory setoff may be available even if, in practice, it yields a better recovery to a setoff claimant than to other creditors, so long as statutory conditions are satisfied.
- Contractually authorized cancellations of policies, coupled with contemporaneous accounting and return of unearned premiums connected to the cancellation, are not treated as transfers on account of an antecedent debt merely because they occur close in time to insolvency.
- On summary judgment, where the governing contracts and the statutory requirements show no genuine dispute on setoff and authorization, the court may resolve those questions as a matter of law.

## Conclusion

In this pretrial diversity action by the Illinois liquidator of Reserve arising out of the 3400 pool reinsurance arrangements, the district court ruled on cross-motions for partial summary judgment that defendants could reduce amounts otherwise owed to the estate through statutory setoff of mutual, pre-liquidation debts, and it rejected the liquidator’s attempt to characterize the pre-liquidation cancellations and related transactions as voidable preferences or unauthorized conduct under the contracts and Illinois liquidation provisions.


O'Connor v. Insurance Company of North America, 622 F. Supp. 611 (1985)