A Broker’s Embezzlement: Wrongful Act Exclusion Barred Coverage

December 16, 2016 | Insurance Coverage

The U.S. Court of Appeals for the Sixth Circuit, affirming a decision by a federal district court in Michigan, has ruled that a “Wrongful Act” exclusion in an errors-and-omissions (“E&O”) policy precluded coverage for losses stemming from an employee’s embezzlement scheme.

The Case

A representative for a licensed securities broker-dealer embezzled client funds by depositing checks written or endorsed by those clients directly into his own bank accounts. After two clients served the company and the representative with a Financial Industry Regulatory Authority arbitration action, alleging fraud and other claims, the representative committed suicide.

The company ultimately paid over $3 million to reimburse affected clients, and it sought indemnification for the costs of resolving these claims under its E&O policy.

The insurer denied coverage and the company sued in a federal district court in Michigan. The district court ruled in favor of the insurer, concluding that the policy’s wrongful act exclusion barred coverage for the company’s claims.

The company appealed to the Sixth Circuit.

The Sixth Circuit’s Decision

The circuit court affirmed.

In its decision, the circuit court explained that the E&O policy excluded indemnification for claims against arising out of any actual or alleged wrongful act that had been “committed with knowledge” that it was a wrongful act.

Because the company’s representative – who was included as an insured under the E&O policy – had knowingly stolen client funds, the exclusion precluded coverage, the circuit court ruled.

It rejected the company’s argument that the exclusion did not apply because the company had no knowledge of the fraud and that only the representative who had embezzled the funds had knowledge. The Sixth Circuit decided that the clause “plainly” referred to the “knowledge” of the insured who “committed” the wrongful act. Because the representative had known that what he was doing was wrongful, coverage was precluded, the circuit court ruled.

The case is Hantz Financial Servs., Inc. v. American Int’l Specialty Lines Ins. Co., No. 15-2237 (6th Cir. Nov. 9, 2016).

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  • Robert Tugander

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