Blogs From the Advisory Board: Insurer Potentially Liable To Investor in Ponzi Scheme Where Insurer Ignored Known Misrepresentations by Its Insured, Investment Company

Blogs From the Advisory Board: Insurer Potentially Liable To Investor in Ponzi Scheme Where Insurer Ignored Known Misrepresentations by Its Insured, Investment Company

   By Daniel W. Gerber, Partner, Goldberg Segalla LLP

Ivie v. Diversified Lending Group, Inc., Case No. 1:09-CV-751, 2011 U.S. Dist. LEXIS 27680 (W.D. Mich., Mar. 17, 2011)

Plaintiff, Ivie, invested $2.2 million in a "guaranteed" 9% interest-earning note issued by DLG. DLG represented that the note was a "safe and conservative investment," guaranteed by an A+ rated insurance company that issued "reinsurance" policies to reinsure Ivie's principal investment. The investment contract contained a "Reinsurance Endorsement" that provided the principal amount of the investment will be insured by a AA rated or better insurance company that will issue a "Collateral Assignment" in the principal amount of the investment contract.

DLG then executed a "Collateral Assignment" by which it assigned to Ivie its interest in an annuity purchased from Jackson National Life Insurance Company. The Collateral Assignment described the annuity as "not more than $2,200,000". The annuity itself was issued by Jackson to DLG with an initial premium of only $220,000, 10% of Ivie's initial investment.

Ivie's Complaint alleged that the investment scheme was a fraudulent Ponzi scheme, alleging that DLG did not invest money as it represented but instead funneled investors' contributions for personal use and unrelated ventures. Further, Ivie alleged the reinsurance of its investors' notes was entirely bogus because the annuities assigned to reinsure the notes were only a fraction of the notes' total value.

As to Jackson, Ivie alleged that it was aware that DLG was marketing the assignment as reinsurance of Ivie's total investment event though the value of the annuity was only a fraction of the total investment. Before Ivie invested his funds, he alleged, Jackson had sent DLG a cease and desist letter directing DLG to stop representing that Jackson was a reinsurance company or to start using a disclaimer in all materials that Jackson does not reinsure or underwrite DLG's investments. DLG did not comply with the cease and desist letter. Nonetheless, Jackson continued to conduct business with DLG, issuing policies like the annuity assigned to Ivie.

Ivie sued both Jackson and DLG. As to Jackson, the Complaint alleged numerous counts including breach of contract, negligence, negligent misrepresentation, silent fraud, breach of duty of good faith and fair dealing, fraudulent misrepresentation, aiding and abetting breach of fiduciary duty, civil conspiracy and RICO. The court dismissed numerous counts against Jackson including the fraud and negligence claims because it found Jackson owed no duty in tort to Ivie. However, four claims survived Jackson's motion to dismiss-breach of contract, aiding and abetting breach of fiduciary duty, civil conspiracy, and RICO.

The court ruled Ivie alleged a justiciable claim for aiding and abetting breach of fiduciary duty and civil conspiracy based on allegations that Jackson continued to issue annuity contracts to DLG after Jackson was aware DLG was misrepresenting the nature of the annuities as full reinsurance. Ivie alleged a breach of fiduciary duty by DLG, and Jackson's assistance to DLG in issuing the annuities with knowledge of DLG's misrepresentations as to the nature and value of the annuities. The court also held Ivie alleged an actionable breach of contract claim against Jackson based on allegations that Jackson refused to pay Ivie the full value of the annuity contract on his proper demand. In a prior ruling, the court refused to dismiss the RICO claim against Jackson.

As a result of the decision, Insurers issuing policies or annuities to back investment companies may find themselves liable for investors losses if the insurers become aware that the investment companies are misrepresenting to their investors the nature or value of the insurance but nonetheless continue to conduct business with the investment companies. Insurers do not need to proactively seek to discover misrepresentations of their insureds in this regard but must be take appropriate action when misrepresentations come to light.

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