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A Dishonest Employee: A Single Cause of Loss or A Man of a Thousand Occurrences? An Analysis of Single Loss Limitations in Modern Crime Policies in the Wake of Auto Lenders Acceptance Corporation v. G

October 2005

Fidelity Law Journal

I. Introduction

There is an old French proverb, Le Diable chie toujours au même endroit, a PG version of which has become a staple of American crime dramas: "a criminal always returns to the scene of the crime." In the context of commercial crime policies providing coverage for employee dishonesty, this adage takes on special significance. This is because dishonest employees will literally return to the scene of the crime, that is, the workplace, five days a week, month after month, possibly for years, all the while exposing their employers to loss in the form of continuous and multiple thefts, embezzlement" kickback schemes, and the like.

Protecting against this type of long-term risk1 is one of the primary reasons for employee theft insurance.2 Knowing the amount of coverage available in the event of such losses is essential to both insureds, in deciding how much insurance to purchase, and to underwriters, in calculating premiums.3 In order to provide certainty as to that issue, modem commercial crime policies contain a single loss limitation.4 Such provisions typically define as a single "occurrence" all loss caused by (i) one or more dishonest acts by a single employee, and/or (ii) an ongoing scheme by one or more employees to defraud, or steal from, the employer.

To that end, the standard Commercial Crime Policy,5 which provides for a single loss limitation per "occurrence," defines "occurrence," as it respects employee theft coverage, as follows: "'Occurrence' means all loss caused by, or involving, one or more 'employees', whether the result of a single act or a series of acts.”6 The Financial Institution Bond 7 approaches this issue using somewhat different language, defining "Single Loss" (as opposed to "occurrence") as all covered loss resulting from. . . "all acts or omissions. . . caused by any person (whether an Employee or not) or in which such person is implicated[.]"8 Note, however, that with respect to crimes not involving employees of the insured, the Financial Institution Bond defines "Single Loss" as all covered loss resulting from "anyone act or series of related acts of burglary, robbery",9 etc. As discussed below, other crime policies have employed terms defining as a single occurrence all loss caused by or resulting from a "series of acts" or, alternatively, a "series of related acts.”10 Each such "occurrence" (or, in the case of the Financial Institution Bond, "single loss") is subject to (i) a "per occurrence" limit of insurance and (ii) a "per occurrence" deductible amount, both of which are typically set forth on the declarations page of the policy.

The per occurrence limit of insurance and deductible amount are central to the bargain struck between the insurer and the insured and are primary factors, together with the size of the insured and its loss history, in determining the premium to be charged for the policy.11 Predictability in the application of these policy terms is needed in order for the insured to know what it is buying, for the insurer to know what it is selling, and for agents and brokers to know what recommendations to make as to the amount of coverage and the appropriate deductible for their specific accounts. Take, for example, an insured that deals in large sums of money, but believes that its own safeguards provide adequate protection against petty thefts. Such an insured may primarily wish to insure against the risk of large-scale insider-frauds and, for that reason, may seek a policy with a $10,000,000 per-occurrence limit of insurance. Of course, the higher the limit of insurance, the higher the premium will be for the policy. However, by absorbing the risk of smaller-scale employee thefts and accepting, for example, a $50,000 per-occurrence deductible, that insured may be able to obtain the insurance it wants at an acceptable premium. The business of another insured,' such as a retailer or warehouse, may primarily consist of small-scale transactions in consumer goods of less than $500. Such an insured may be concerned chiefly about petty theft. Purchasing a crime policy with a deductible of less than $500, however, would naturally be relatively expensive. Fortunately, because crime policies treat multiple thefts by the same employee as one occurrence, that insured may be able to obtain appropriate, affordable crime coverage, providing for a $2,500 per- occurrence deductible.

The plurality of courts have found such single loss provisions to be unambiguous and have interpreted them in a manner so as to find a single occurrence in cases involving long-term and repeated acts of dishonesty by employees. 12 Unfortunately, there are exceptions, the most recent and notable of which is the decision by the New Jersey Supreme Court in Auto Lenders Acceptance Corp. v. Gentilini Ford, Inc.,13 a case which, if followed and applied broadly, could adversely affect the interests of both insurers and insureds in understanding and making business decisions regarding per-occurrence limits and deductibles in crime policies.

II. An Analysis of the Facts, the Policy Terms, and the Holding in Gentilini

In Gentilini, a dishonest credit manager at an auto dealership, Mr. Carpenter, assisted twenty-seven separate customers in falsifying their credit applications in order to purchase vehicles under installment sales contracts.14 The fraud consisted of providing the customers with phony or altered paystubs and, in some cases, false drivers licenses, copies of which would be submitted to an auto financing company. Contemporaneous with each sale, the dealer would assign the installment sales contracts to the financing company, which would fund the credit portion of the purchases.15 The contract between the dealer and the financing company, however, required the dealer to repurchase the installment sales contracts in the event, among other things, of any inaccuracies in the subject credit applications.16 When the fraud was discovered, the financing company sued the dealer.17 The dealer settled the case and sought to recover its loss from its insurer under an employee dishonesty extension to a commercial property policy. 18

At issue in Gentilini, among other things, 19 was whether the auto dealership's alleged loss was one "occurrence" for purposes of the policy's per-occurrence limitation of insurance or, alternatively, whether the claim implicated twenty-seven separate "occurrences." The policy in Gentilini, which. contained a $5,000 per-occurrence limitation for employee dishonesty claims, defined "occurrence" in a manner that is similar, although not identical, to the standard Commercial Crime Policy:

All loss or damage:
(1) Caused by one or more persons; or
(2) Involving a single act or series of related acts; is considered one occurrence.20

Citing to subparagraph (1) of the above-quoted provision, the insurer argued that this provision "limits occurrences to one per employee/wrongdoer.”21 The Gentilini court did not directly address the insurer's proffered interpretation of this provision of the policy. Instead, the court stated that it would not read the subject provision "literally," concluding that to do so would always limit all losses to a single recovery "because losses of that type must, by their very nature, be 'caused by one or more persons."22 The court, therefore, determined to restrict the meaning of the subject provision "so as to enable fair fulfillment of the stated policy objective.”23 Applying that doctrine, the Gentilini court concluded that. "a fair reading" of the subject provision "simply means that for each loss of property covered by the policy there can only be one recovery, regardless of the number of employees that may have caused the loss.”24 In adopting that "fair" interpretation, however, the Gentilini court ignored the fact that the subject loss limitation expressly applied to "all loss or damage," rather than to "each loss." The Gentilini court also ignored a basic maxim of contract construction by rendering the "caused by one or more persons" clause entirely superfluous.25 By way of example, if ten employees got together and stole the contents of their employer's safe, that loss would clearly be viewed the result of "a single act or series of related acts." Even in the absence of the "caused by one or more persons" clause, as interpreted by the Gentilini, court, the subject example would be deemed to be one "occurrence," and the insured's recovery would be subject to the applicable single loss limitation. It is difficult to imagine a scenario in which a single (employee dishonesty) loss caused by multiple persons would not involve "a single act or series of related acts." Thus, under the Gentilini court's reading, the policy's "caused by one or more persons" language would appear to have no practical effect.

The Gentilini court also ruled, as a matter of law,26 that the subject claim, repeated similar dishonest acts by the same employee, "did not involve 'a single act or series of related acts."27 On this issue, the Gentilini court quoted and stated its agreement with a point made by the dissenting judge in the Appellate Division decision on appeal 28 that "the common pattern of these transactions cannot fairly be said to transform them into a single event.”29 Of course, the policy at issue defined "occurrence," not as a "single event," but as all loss or damage involving "a series of related acts[.]" In equating "occurrence" with a "single event," both the Gentilini court and the dissenting appellate division judge below appear to have based their understanding of the term "occurrence," not upon the policy definition before it, but upon how the term is used or understood, with or without a definition, in entirely different types of policies, which equate "occurrence" with an "event" or "incident.”33

Illustrative of this mistake in reasoning is the fact that the only "occurrence" case cited by the dissent in the Appellate Division's decision in Gentilini, which the dissent found "entirely inapposite," had to do with whether, under a liability policy, the drowning death of two brothers was one occurrence "where one had jumped in to save the other.”31 The cited case, for its part, had defined "occurrence" as "an accident, including injurious exposure to conditions which results, during the policy term, in bodily injury or property damage.”32 The term "accident," however, was not defined in the policy, and the court therefore applied the "generally accepted definition" that "an 'accident' is a sudden and fortuitous. event, unexpected by the person to whom it happens.”33 Harmonizing that policy's definition of "occurrence" with its understanding of the undefined term "accident," the court concluded that the two deaths were "so closely linked in time and space as to be considered by the average person to be one event," and therefore constituted a single "occurrence.”34 The express policy terms at issue in Gentilini, in contrast, did not define "occurrence" as an "accident" or a "single. event." Nevertheless, because the Gentilini court apparently imported those concepts into its understanding of the term "occurrence," the court was unwilling to view one employee's ongoing scheme, involving twenty-seven acts of credit fraud, as one occurrence, notwithstanding the policy's definition of one "occurrence" as including a "series of related acts."

In finding multiple occurrences, the Gentilini court also emphasized its view that, under the facts of the case, the auto dealer suffered a direct loss of property each time that it parted with an automobile in exchange for a fraud-induced and "faulty" installment sales contract, noting that the "purchaser and the terms of each sale are unique. . . .”35 On this point, the Gentilini court cited the case of Appalachian Insurance Co. v. Liberty Mutual Insurance Co.36 for the proposition that the number of occurrences "is determined by reference to cause of loss.”37 The Gentilini court's citation to Appalachian is curious, however, because that decision would appear to compel the opposite result than that which the Gentilini court ultimately reached. Appalachian, which concerned a liability insurance policy, stated the "general rule" that an "occurrence is determined by cause or causes of the resulting injury.”38 Applying that "general rule",39 the court in Appalachian found only one cause (that is, the insured's adoption of certain discriminatory employment practices) and, hence, a single "occurrence" underlying a multi-plaintiff class-action suit based on numerous employee complaints spanning a period of several years. Thus, despite its reference to the Appalachian case, the Gentilini court appears to have counted "occurrences" based, not by the cause of injury (a single dishonest employee), but upon the effect, or number of injuries allegedly sustained by that cause (the sale of twenty-seven automobiles to twenty-seven uncreditworthy people).

The Gentilini court, however, did not expressly reject the long line of cases finding a single "occurrence" in "embezzlement-type cases where an employee steals cash or checks from an employer as part of an ongoing scheme. to defraud.”40 Rather, the Gentilini court simply rejected the analogy between embezzlement-type cases and the facts of the case before it.41 In the view of the Gentilini court, Mr. Carpenter's repeated acts of fraud "did not involve 'a single act or series of related acts'" because each act of fraud involved "distinct sales to separate purchasers, for separate automobiles" and "the terms of each sale are unique.”42 In support of that conclusion, the Gentilini court cited to the case of North River Insurance Co. v. Huff,43 noting that the court in Huffhad found "that several loan transactions involving the same manner of financing were separate occurrences because [the] transactions' occurred at separate times, involved different borrowers, were for different purposes, and had separate collateral.”44

Huff, for its part, concerned a directors and officers liability policy, which defined "occurrence" as "any claim or claims made involving one or more insureds arising out of the same act, interrelated acts, errors, omissions or scheme.”45 The case involved the alleged negligence of certain bank officers in approving four unprofitable loans. Each of. the subject loans was underwritten and approved on its own merits. The only similarity between the loans was that they all involved the same method of financing, a "loan swap." During the time period in question, the same bank officers had considered and rejected proposals for six to twelve other loan swaps. Noting that the four unprofitable loans were made to "different borrowers, were for different purposes, and had separate collateral," the Huff court concluded that the subject loans "cannot be found to be interrelated."46 In reaching this conclusion, the Huff court emphasized that it was not the bank's loan swap program that caused the subject damage, but the insured's alleged negligence in approving the unprofitable loans.47 Thus, Huff concerned separate and independent business decisions, some of which were allegedly negligent, others of which were not. The transactions in Gentilini, in contrast, were all linked by a common element-Mr. Carpenter's continued criminal intent.

Apparently, the Gentilini court read Huff to hold that "separate" loans to separate borrowers could not be "interrelated”48 Based on that analysis, the Gentilini court concluded that separate car sales, to separate buyers, could not constitute a "a series of related acts." As discussed in greater detail below, this disconnect between "separate" transactions and "related" acts may be of significance for claims under the standard Commercial Crime Policy because that policy does not use the term "related" in defining "occurrence.”49

The distinction apparently drawn by the Gentilini court, between "related acts" (embezzlement schemes constituting "an ongoing scheme to defraud") and cases involving "separate" transactions is problematic at best. Few fair-minded lay people would consider Mr. Carpenter's actions unrelated. After all, Mr. Carpenter used the exact same means and method to perpetrate his ongoing scheme. One has to wonder whether the court would have viewed Mr. Carpenter's acts as "unrelated" if, instead of deciding an insurance coverage case, it were deciding whether - Mr. Carpenter's acts were sufficiently "related" to support a criminal RICO conviction against him. Moreover, from the standpoint of the reasonable expectations of the insured, it is absolutely insignificant whether an employee causes injury to his employer through repeated dishonest transactions or through repeated thefts of checks or cash. Gentilini offers literally no guidance as to where courts should draw the line between "a series of related acts" and cases involving so- called "separate" transactions. Kickback schemes, for example, where an employee makes purchases at inflated prices in exchange for secret payments to the employee, are a well-known form of employee fraud.50 Each such kickback, however, could be said to arise from a "separate" transaction and/or involve a separate vendor. Under the rationale of Gentilini, the employer's losses might not be viewed a series of related acts. That would be a very unfortunate result for the insured employer, if coverage for its aggregate loss were reduced or eliminated by multiple applications of a per-occurrence deductible. Thus, to maintain the level of coverage that they thought they were already getting, insureds may now have to obtain more expensive policies with lower deductibles.

In sum, the Gentilini decision is bad for insurers and bad for insureds. The holding is inconsistent with how other courts across the nation have ruled in similar cases, construing similar policy terms. The stated rationale for the decision is undermined, rather than supported, by the cases cited therein. Gentilin turned on its head a policy provision the clear and obvious intent of which was to limit the insurer's liability,51 rendering it either meaningless or as actually expanding the insurer's liability. Finally, the Gentilini court's determination, as a matter of law, that Mr. Carpenter's crime spree did not involve a "series of related acts," deviates sharply from how the average person, or the average insured, would understand that clause.

III. DistinguishingGentilini

It is virtually inevitable that insureds seeking to avoid. per- occurrence limitations in fidelity policies will cite Gentilini as authority for finding multiple occurrences for losses caused by the fraudulent acts of a single employee or by the ongoing scheme of several employees, except, of course, in cases where multiple applications of a per-occurrence deductible would result in less coverage.

Outside of New Jersey, an insurer will be able to respond to such claims by arguing that that the decision in Gentilini is against the clear weight of authority from other jurisdictions, as discussed in the next section of this article,52 and that it ignored the plain language and the purpose of the policy at issue in the case.

In New Jersey, however, or in other jurisdictions not bound by local precedents on the single/multiple occurrence issue in this context, it may also prove advantageous to develop arguments to distinguish Gentilini and/or to narrow its application. First and foremost, as discussed in the preceding section, the Gentilini court drew a distinction between "embezzlement-type" cases and cases involving "separate" transactions.53 Thus, in cases involving "embezzlement-type" losses,Gentilini would arguably not apply, even in New Jersey.

It is also important to note that the policy at issue in Gentilini was not a crime or fidelity policy, but rather was a commercial property insurance policy. The subject employee dishonesty coverage in Gentilini appeared in an optional endorsement, entitled "Master Pak for Property," modifying and providing various upgrades to the terms of a "Business and Personal Property Coverage Form.”54 Thus, the $5,000 per-occurrence limitation in Gentilini was part of a pre-printed form. In contrast, per-occurrence limitations and deductibles in standard crime and fidelity policies are negotiated and customized to the needs, desires, and budget of the particular insured.55 The fact that these per-occurrence limits and deductibles are negotiated and are largely determinative of the premium charged is highly. significant in the context of determining the reasonable expectations of the insured.56 In such cases, it may be advisable to examine the underwriting history of the insured's account. The facts of a particular case may show, for example, that an insured purposely opted for a higher per-occurrence deductible in order to save on the premium, with the understanding that losses caused by a single employee would be aggregated and viewed as a single occurrence. 57 Even in the absence of such specific facts in the underwriting file, the presence of a relatively high deductible would tend to support the conclusion that the parties intended and expected that multiple (related) losses would be aggregated and treated as a single occurrence. As explained by one court: 58

Assume an employee embezzles $100 from a company on 155 separate occasions for a total embezzlement of $15,500. Further assume that, as in this case, the deductible for the insurance policy is $250 and the coverage limit $10,000 for each occurrence. If aU 155 acts constitute one occurrence because they are part of a "series of related acts," the insurance company would pay $10,000. However, if we were to adopt American Commerce's position and determine that 155 occurrences arose, the insurance company would pay nothing because the monetary value of each act of embezzlement would be lower than the deductible.59

The amount of premium paid, as compared with the magnitude of an alleged multi-occurrence claim, could also be a factor for consideration by a court in determining the reasonable expectations of the parties with respect to the application of per-occurrence limits. The issue of premium was not discussed in the Gentilini decision. The court in American Commerce, however, did consider the issue and rejected as "unreasonable" the insured's multiple-occurrence argument, explaining as follows:

Under American Commerce's interpretation, an insured could receive $10,000 for each separate act of embezzlement, without limit. The record reflects that its total premium for business protection, which included coverage for business personal property and data processing equipment, in addition to coverage for employee dishonesty, was $563 per year. We conclude that American Commerce's interpretation would allow a potentially unlimited windfall of recovery and is simply incommensurate with the $563 per year premium under the policy.60

Note that the above analysis from the American Commerce case, comparing the policy premium with the policy limits, would appear to be of less force under the standard Financial Institution Bond which, in addition to single loss limits, also includes an aggregate limit of liability. In contrast, the standard Commercial Crime Policy and the standard Crime Protection Policy61 generally include only per-occurrence limits of insurance. Thus, as noted in American Commerce, an interpretation that renders ineffectual those policies' per-occurrence limits would lead to the absurd result of removing all monetary limits to coverage.62

Gentilini may also be distinguishable based upon variations in language between the single loss provision in that case and the single loss provision appearing in other policies. By way of example, whereas the policy in Gentilini defined "occurrence" with reference to "all loss or damage," the same term is defined in the Crime Protection Policy with reference to "all loss or losses." Arguably, the reference to "losses" in the Crime Protection Policy more clearly conveys that a single "occurrence" may consist of multiple and separate thefts or frauds.63

It is also noteworthy that the Commercial Crime Policy and the Crime Protection Policy both use the phrase "series of acts," rather than "series of related acts" as was used in the policy in the Gentilini. While that distinction may seem minor, a close analysis of the Gentilini decision and the Huff decision cited therein reveals that both courts shared the perception that "separate" transactions could not accurately be described as "related" or "interrelated." Also, the decision in Reedy Industries, Inc. v. Hartford Insurance Co. of Illinois64 briefly notes, in dicta, that the two subject clauses, with and without the term "related," are "similar, but not identical.”65 In the same brief discussion, the Reedy court observed that the Minnesota Court of Appeals' decision in the American Commerce case (which by then had been reversed by the Minnesota Supreme Court) had "held that the phrase 'series of related acts' in a fidelity policy was ambiguous because the term 'related' is susceptible of more than one reasonable interpretation.”66 In so noting, the court in Reedy clearly rejected the insured's argument that the phrase "single act or series of acts" is ambiguous. Thus, insurers defending claims under the Commercial Crime Policy or the Crime Protection Policy may fairly argue that the clause "single act or series of acts" is both broader than the parallel provision in Gentilini and is less likely to give rise to ambiguities as it applies to the facts of a given claim.

The "Single Loss" provision in the Financial Institution Bond is even more different from that in Gentilini as it does not use the term "occurrence" at all and hence should be less apt to be viewed by courts as implicating a "single event.”67 Also, with respect to multiple dishonest acts by the same employee, the Financial Institution Bond treats as a single loss all covered loss resulting from all acts or omissions "caused by any person (whether an Employee or not) or in which such person is implicated " This language very clearly and unambiguously applies to multiple acts involving the same person. The provision is not susceptible to the strained interpretation applied in Gentilini, in which the policy provision rendering one occurrence "all loss or damage" . . . "caused by one or more persons" was construed to limit recovery only where a single loss of property was caused by multiple employees.68

Finally, in the case of a claim brought by a sophisticated insured, it may be possible that the court should be less zealous interpreting perceived ambiguities in insurance policies than was done in favor of the insured (a local auto dealer) by the court in Gentilini. The Supreme Court of New Jersey has itself noted that a "sophisticated insured…cannot seek refuge in the doctrine of strict construction pretending it is the corporate equivalent of the unschooled, average consumer.”69

IV. Other Decisional Law

The plurality of courts considering the issue herein have enforced single loss provisions as intended and have allowed one recovery, and one application of the deductible, for loss caused by the same employee(s) or the same scheme.70 As set forth below, however, the Gentilini decision was not the first time that a court awarded multiple recoveries in such cases. Like the court in Gentilini, some other courts have construed against insurers in this context such terms as "occurrence" and "related," and/or have disregarded defined policy terms in favor of "general" rules or understandings of such terms in other contexts. Such decisions, however, remain in the minority and/or are aberrations.

A. LOSS CAUSED BY A SINGLE EMPLOYEE OR GROUP OF EMPLOYEES

As stated, one goal of the subject single loss provision is to apply a single loss limitation to situations where one employee or common group of employees caused loss through multiple and even varied acts of dishonesty. Decisional law construing one-loss-per- employee provisions is scarce and inconsistent. An examination of available case law reveals that courts are more apt to base their rulings in this context on whether a crime claim arises from a "series of (related) acts. "

A leading and often-cited case is the decision of the United States Court of Appeals for the Tenth Circuit in Business Interiors, Inc. v. The Aetna Casualty and Surety Co.71 The subject policy included a provision stating: "As respects anyone employee, dishonest or fraudulent acts of such employee during the policy period shall be deemed one occurrence for the purpose of applying the deductible."72 It is unclear from the decision whether the policy included a similar definition of "occurrence" with respect to the policy's limit of insurance, although the decision references the insured's contention that the policy limit applied separately for "each separate loss.”73 The insured further contended that "each of' its "employee's forty acts of forgery or material alteration constitutes a separate loss and should be deemed a separate occurrence.”74 The court rejected that contention and held that "the employee's fraudulent acts constituted a single loss[.]”75 In so holding, the Business Interiors court applied the "general" rule that an "occurrence is determined by the cause or causes of the resulting injury.”76 Under that rule, the court observed that the "cause" of the insured's loss was "the continued dishonesty of one employee."77 The court further noted its agreement with the district court's observation that "the probable intent of the employee with respect to the last th