Insurance Coverage for Internet Scams Against Lawyers

A clip from the PLUS Journal article “Insurance Coverage for Internet Scams Against Lawyers” (September 2011) by David A. Grossbaum.

The “Professional Services” Defense

This defense has been discussed in all of the coverage cases.  In the most recent case, Nardella Chong, P.A. v. Medmarc Casualty Insurance Company, 642 F.3d  941 (11 thCir. 2011)(Florida law), the lawyer received a cashier’s check in the amount of $197,350, which he deposited into his firm’s clients’ trust  account.  The lawyer then had the bank wire $180,000 to an overseas company and he never saw the “client” or the money again.  Because the bank account contained money belonging to other clients, the bank took those funds to cover the wire.

The malpractice insurer denied coverage because the loss did not arise from the rendering of, or failure to render, professional services.  The trial court  distinguished the present situation from one where the lawyer improperly uses a client’s money without the client’s authorization, which is a loss covered by insurance.  In the check cashing scheme, however, the lawyer explicitly followed the client’s instructions.  The lawyer simply did not wait until the cashier’s check was honored by the issuing bank.  While both situations result in funds belonging to clients being disbursed to unauthorized third parties, the trial court held that the check cashing fraud did not occur because of a “negligent act or negligent omission on the part of [the lawyer] but instead involved misfortune and bad luck.”

On appeal to the 11 thCircuit Court of Appeals, the Court reversed the trial court decision and entered judgment for the insured.  This Court held that, when a client deposits funds with a lawyer, the lawyer has a fiduciary duty, akin to a trustee, to safeguard these.  The duty, and the rules governing it, are addressed in the Florida rules of professional conduct.  The definition of “professional services” in the policy specifically included services rendered as a “trustee or in any similar fiduciary capacity” so the mishandling of client  funds is a covered service.  Additionally, the Court noted that  a representative of the carrier testified that handling of a trust account constituted covered “professional services” and it had taken this position in unrelated litigation in another court.

In a case from Georgia, Fidelity Bank v. Stapleton, Superior Court of Cobb County, Civil Action No. 07A-11482-2 (January 14, 2009), the lawyer deposited the cashier’s check for $197,000 in a separate account set up just for this transaction.  Before he arranged for the wire of $187,000, he asked the bank whether the money was “available,” and he was told that the funds had been “verified.”  After the wired funds were sent overseas, the cashier’s check was dishonored, leaving the lawyer with an overdraft of $187,000.  The bank demanded that the lawyer replace the funds pursuant to the depository agreement.

The insurance company argued that the lawyer was not engaged in the rendering of, or failure to render, professional services for others.  The court agreed, finding that “[n]o application of legal knowledge unique to the practice of law is implicated by [the lawyer’s] actions in this case.  While he may have initially been contacted on the pretense of providing some legal services to the entity…, it is ‘the nature of the act the insured performed, rather than on the title or status of the insured’ that determines” what is professional services.

A Massachusetts trial court ruled in favor of an insurer in the case of Fleet National Bank v. Wolsky, Middlesex Superior Court, Civil Action No. 04-cv-5075 (December 6, 2006).  In this case, the amount in dispute was about $56,000, and involved someone impersonating a member of the Nigerian royalty and promising legal work if the lawyer would receive a check and disperse the money in accordance with the “client’s” instructions.  The lawyer received a check in the amount of about $71,000 and deposited it in his client’s funds account.  He then disbursed about $55,000 of it by purchasing money orders and sending wire transfers.  Unfortunately, a few weeks later, the lawyer was notified that the check he had deposited was an altered check and the bank sued him for $55,000.

The professional liability insurer denied coverage on the basis that the lawyer was not rendering legal services at the time of the loss.  The court found that the receipt of a check, endorsing it, and depositing it, did not involve a lawyer’s specialized knowledge or skill and was, therefore, not a covered “professional service.”  The court was not persuaded by the lawyer’s argument that he gave professional advice to the Nigerian national as to withholding money for tax purposes.  That advice, even if it was a professional service, was unrelated to the cause of the loss, according to the court.

In Lombardi, Walsh, Wakeman, Harrison, Amodeo & Davenport, P.C. v. American Guarantee, 85 A.D.3d 1291, 924 N.Y.S. 2d 201 (2011), the lawyer was solicited by e-mail to perform collection services for a supposed Taiwanese client, and the lawyer sent a retainer agreement.  A cashier’s check arrived for about $385,000, which the lawyer deposited in a separate account and then wired the funds to the client.  The cashier’s check was fraudulent, and the bank demanded reimbursement.

The trial court held that, although the lawyer was possibly performing covered “professional services” at the time of the transaction, the actual claims brought by the bank for breach of various UCC provisions and the depository contract between the lawyer and the bank did not involve such services.  As such, the circumstances of the relationship between the insured and its supposed client were irrelevant to the bank’s claims.  On appeal, however, the court relied on fact that a lawyer’s handling of clients’ funds is a common and integral part of the legal profession, and is extensively regulated by the rules of professional conduct, and the lawyer was acting in accordance with these in handling the scammer’s funds.  The appellate court rejected the argument that there was no real “client” seeking actual legal services, holding instead that the lawyer thought he was dealing with an actual client, and the policy did not require an actual client.

In another case, involving a bank’s claim against a lawyer to recover funds wired from the lawyer’s trust account, this was not covered by the lawyer’s professional liability policy as the loss did not involve “services performed for others as an attorney in an attorney-client relationship…” as required by the policy.   Bradford & Bradford, P.A. v. Attorneys Liability Protection Society, Inc., 2010 WL 4225907 (D.S.C. 2010).  The lawyer deposited a fraudulent check for $362,000 into his client trust account, which had a balance of $42,000 before the deposit.  The funds were then wired out to the “client,” with whom the lawyer had a signed engagement agreement, after the bank told the lawyer the funds were “available.”  The opinion is unclear as to the disposition of the $42,000 in other clients’ funds.   The bank sued the lawyer for the overdraft and for breach of a warranty that the deposit was genuine.

The policy defined “professional services” as “services or activities performed for others as an attorney in an attorney-client relationship on behalf of one or more clients.”  Notwithstanding the signed retainer agreement, the court held that there was never an attorney-client relationship because the “client” never sought legal advice, and that cashing checks and wiring funds did not involve such advice.  The court did not decide whether the services would have been those performed “as an attorney” if there had been an attorney-client relationship, but did refer to the Fidelity Bank and Fleet Bank cases.  Although the court recognized the harshness of the result, legal malpractice policies are to protect lawyers from claims arising from the performance of legal services, not to protect the lawyer from being victimized by fraud.

The Contract Exclusion

The court in Fidelity Bank also found that the carrier could rely on an exclusion in the policy for any liability “assumed by an insured under any oral or written contract or agreement…” as the bank was claiming under the depository agreement.  The lawyer was however, successful in defeating a summary judgment motion brought by the bank on that contract, as the court found that there was a disputed issue of fact as to whether the bank had breached the contract based on representations of its employee to the lawyer.

The Lombardi Walsh case addressed a contract exclusion for “any liability assumed by [the lawyer] under any oral or written contract or agreement, unless such liability would have attached to [lawyer] by law in the absence of such contract or agreement.”  In refusing to deny coverage on that basis, the court relied upon the heavy burden on a carrier to prove an exclusion, and the fact that the lawyer’s liability to the bank may have been independent of the depository contract (which contract was not in the record), and may rather arise under the UCC.  Therefore, it found that the insurer had a duty to defend.

PLUS members can read this entire article in the PLUS Journal archive.

This entry was posted in Cyber, Lawyers Professional and tagged , , by plushq. Bookmark the permalink.

About plushq

The Professional Liability Underwriting Society (PLUS) was founded in 1986 by industry professionals who recognized the need for a forum for individuals involved in the field of professional liability. The Society is a non-profit organization with membership open to persons interested in the promotion and development of the professional liability industry. Membership consists of over 6,500 individuals, representing over 1,000 companies active in the many fields of professional liability. PLUS currently receives the support of more than 200 companies through corporate membership. PLUS is recognized as the primary source of professional liability educational programs and seminars, assistance to its members to help serve clients, and information regarding professional liability. The Society is continually seeking new means to fulfill its mission statement and better serve its members.

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