When an insured acquires an insurance policy the insured promises, among other things, to first prove that when presenting a claim for indemnity the Insured will establish a prima facie (on its face) case that coverage is available. In Network F.O.B., Inc. v. Great American Ins. Co. of New York, Slip Copy, 2014 U.S. Dist. LEXIS 91498 (D.Minn.), [enhanced version available to lexis.com subscribers], the District Court for the District of Minnesota was asked to rule upon the motion for summary judgment by defendant Great American Insurance Company of New York (Great American) who claimed there were no facts that would support the claim.
This suit arose out of the theft of funds by non-party Laura Schwartz from her employer, plaintiff Network F.O .B., Inc. (Network). Schwartz worked for Network as a billing and bookkeeping clerk and, at all times relevant to the instant dispute, was classified as an independent contractor for tax purposes.
Schwartz’s employment was initially governed by an Independent Contractor Agreement (2006 Agreement), which was signed by Network and Schwartz in her individual capacity. Schwartz established an LLC, LM ENT Services (LM ENT), which executed a new Independent Contractor Agreement (2009 Agreement) with Network. Schwartz engaged in numerous fraudulent transactions and stole approximately $183,000 from Network. Eventually Schwartz was convicted of six counts of theft by swindle.
Great American provided insurance coverage to Network for business, property and commercial operations pursuant to an insurance contract (Policy). The Policy provided coverage for “loss of or damage to money, securities and other property resulting directly from theft committed by an employee.” Network tendered a claim to Great American for its losses resulting from the theft by Schwartz. Great American informed Network that the claim was not covered by the Policy because Schwartz was not an “employee” of Network within the meaning of the Policy.
State law governs the interpretation of insurance policies. The parties agreed that Minnesota law governs this action. In Minnesota, the interpretation of an insurance policy is a question of law. Under Minnesota law, the insured has the initial burden of establishing a prima facie case of coverage.
The policy defines the key term, “employee” since only theft by an employee is covered. It states that “‘Employee’ means: (1) any natural person: (a) while in your service and for the first 30 days immediately after termination of service …; (b) who you compensate directly by salary, wages or commissions; and (c) who you have the right to direct and control while performing services for you … ¶ (b) ‘Employee’ does not mean any agent, broker, factor, commission merchant, consignee, independent contractor or representative of the same general character not specified in paragraph 5.a.”
Network argues that because Schwartz, a natural person, committed and was convicted of the underlying theft, the court need not consider the fact that her employment relationship with Network flowed through a corporate entity. It was undisputed that Schwartz established LM ENT as an LLC. Thereafter, Network and LM ENT executed the 2009 Agreement, which detailed their relationship and identified LM ENT as an independent contractor. Thus, the proper analysis is whether LM ENT— not Schwartz — was an employee of Network as defined by the Policy since the theft was by Schwartz acting as LM ENT.
The Policy provides coverage only for the activities of those workers who are natural persons. If all potential “employees” were natural persons, however, such a provision would be superfluous. The provision contemplates and rejects a definition of “employee” that includes non-natural entities, such as an LLC. As a result, LM ENT — as an LLC rather than a natural person — was not an employee within the scope of the Policy at issue in this case. Therefore, Network cannot establish a prima facie case of coverage. Neither LM ENT is not, nor can it be, a natural person. Summary judgment is warranted.
If Network wanted coverage for the actions of Schwartz acting as LM ENT it needed a different policy than the one it purchased. It needed one that insured against theft by employees or by independent contractors retained to deal with the funds of the insured. It bought a limited coverage and could not convince the trial court to stretch the meaning of the policy from “employee” to any person or entity that steals from it.
It took a certain amount of chutzpah (Yiddish for unmitigated gall) to argue that a limited liability company is a natural person and was intended to be insured by the insurer. The District Court simply refused to fall for the argument and simply read the policy as written.
By Barry Zalma, Attorney and Consultant
Reprinted with Permission from Zalma on Insurance, (c) 2014, Barry Zalma.
Barry Zalma, Esq., CFE, is a California attorney who limits his practice to consultation regarding insurance coverage, insurance claims handling, insurance bad faith and fraud and acting as a mediator or arbitrator on insurance disputes. Mr. Zalma serves as a consultant and expert almost equally for insurers and policyholders. He founded Zalma Insurance Consultants in 2001 and serves as its only consultant. He recently published the e-books, "Zalma on Rescission in California - 2013"; "Random Thoughts on Insurance" containing posts from this blog; "Zalma on Insurance;" "Murder and Insurance Don't Mix;" “Heads I Win, Tails You Lose — 2011,” “Zalma on Diminution in Value Damages,” “Arson for Profit” and “Zalma on California Claims Regulations,” and others that are available at Zalma Books.
Mr. Zalma can be contacted at Barry Zalma or firstname.lastname@example.org, and you can access his free "Zalma on Insurance Fraud" newsletter at Zalma’s Insurance Fraud Letter.
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