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August 2013

No Professional Liability Coverage for Law Firm Victimized by Check Scam

On June 28, the U.S. District Court for the District of New Hampshire issued a ruling denying coverage under a professional liability policy to an insured attorney and his law firm who were victimized by a Nigerian-style check scam. The court held that the claim fell under a policy exclusion for losses from “conversion, misappropriation or improper commingling by any person” of funds held or controlled by an insured. 

In Attorneys Liability Protection Society, Inc. v. Whittington Law Associates, PLLC, the insureds, Whittington Law Associates and W.E. Whittington, were contacted by an imposter prospective client. The imposter asked the insureds to deposit a check for $195,790 into the insured attorney’s client trust account in Ledyard National Bank and then promptly wire the bulk of the funds to a bank account in Japan. Ledyard later discovered that the check deposited to the insured’s account was invalid, by which time the wire transfer to the Japanese bank account already had been processed and the funds withdrawn from the insured’s account.

Ledyard sued the insureds in New Hampshire state court to recover the funds, prompting the insureds to seek coverage from their professional liability insurer, Attorneys Liability Protection Society, Inc. The insurer responded by filing an action in the federal court seeking a declaration that no coverage was available for the claim. The insureds filed counterclaims for declaratory judgment and breach of contract. 

The insurer moved for summary judgment, arguing that there was no coverage because the claim did not fall within the definition of “an act, error or omission in professional services that were or should have been rendered,” and that even if the claim fell within the insuring agreement, it was excluded as “conversion, misappropriation or improper commingling.” In response, the insureds cross-moved for summary judgment.

The court noted that the issue of whether losses due to a Nigerian-style check scam arise from “professional services” for professional liability insurance purposes has been examined by a number of state and federal courts, with differing results. The court declined to reach that issue, however, because it found that the following exclusion applied:

THIS POLICY DOES NOT APPLY TO ANY CLAIM ARISING FROM OR IN CONNECTION WITH . . . [a]ny conversion, misappropriation or improper commingling by any person of client or trust account funds or property, or funds or property of any other person held or controlled by an Insured in any capacity or under any authority, including any loss or reduction in value of such funds or property.

The court noted that this clause had not yet been interpreted by other courts, but nevertheless held that it was clear and unambiguous as applied to the facts before it because Ledyard’s claim arose from the scam artists’ misappropriation of its funds, which were in control of the insureds. 

The crux of the insureds’ argument was that they never held or controlled the money sent to them by the scam artists because that money never existed. The court rejected this argument, distinguishing between the money represented by the fraudulent check and funds that actually were wired by Ledyard. The court noted that Ledyard’s claim arose out of the funds that the insureds ordered it to wire to Japan, rather than from the non-existent funds represented by the fraudulent check. Therefore, the relevant inquiry was whether the insureds controlled or held the funds that were actually wired. 

Control, in the court’s analysis, meant “to exercise restraining or directing influence over” or “to have power over.” The court found that the bank’s compliance with the insureds’ order to wire the funds to Japan was direct evidence of the insureds’ control of these funds. The court found support for its conclusion in the exclusion clause language referring to funds controlled by the insureds “in any capacity or under any authority,” which was broad enough to include the insureds’ status as account holders at Ledyard. The court concluded that the insureds’ authority to direct the bank to wire the funds at issue was a “but for” cause for the loss. 

The court also rejected the insureds’ argument that the language of the exclusion was ambiguous because the insurer could have added language specifically excluding claims arising from the dishonoring of any financial instruments. The court reasoned that ambiguity is not determined by the issue of whether the insurer could have included a more precise exclusion. Rather, ambiguity is found if the parties may reasonably differ about the interpretation of the language. 

The court also rejected the insureds’ argument that they were entitled to coverage under a later policy, which contained a different version of the exclusion that did not include the phrase “by any person.” The insureds argued that the removal of that language from the exclusion was intended to limit the exclusion to acts by the insured and to exclude acts by others.  The court rejected that argument, noting that an insurer intending to exclude acts by the insured only would specify that by stating that the acts excluded are those “by an Insured.” Hence, the removal of the phrase “by any person” did not mean that the clause was limited to acts “by an Insured” only.

Finally, the court rejected the insureds’ argument that coverage of their claim would be consistent with their reasonable expectations, looking instead to the plain language of the exclusion and holding that the exclusion was contrary to the expectation articulated by the insured.     

Click here for the opinion.

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