Not Every Employee Theft is Covered by a Fidelity Bond
An Illinois appellate court was asked whether an employer can recover for an employee’s wage theft under the terms of the employer’s business insurance policy. Plaintiffs (collectively 3BC Properties, LLC, or “3BC”) own and operate four Dunkin’ Donuts franchise locations in Du Page County. 3BC purchased a business owners’ insurance policy for each restaurant through State Farm Fire and Casualty Company (State Farm). All of the policies had identical language. In 3BC Properties, LLC; 3BC Properties-Mitchell, LLC; 3BC Properties-Daniel, LLC; and 3BC Properties -Taylor, LLC v. State Farm Fire And Casualty Company, 2020 IL App (2d) 190501, No. 2-19-0501, Appellate Court Of Illinois Second District (July 27, 2020) the appellate court resolved the issue raised by the employer.
In 2016 and 2017, 3BC employed one Brenda Vazquez to manage each of the four restaurants. As part of her duties, Vasquez was responsible for supervising the employees and reviewing their time records for payment. 3BC also employed four of Vasquez’s relatives in various roles at 3BC’s restaurants. In April 2017, 3BC’s owners discovered that Vazquez had falsified time records for herself and her four relatives; doing so resulted in over-payments to Vazquez and her kin of more than $66,000. The owners reported the fraud to the authorities and tendered claims for their losses to State Farm under the business insurance policy.
The State Farm policy contained a rider and an exclusion, which insured 3BC against some losses resulting from employee dishonesty. In insurance parlance, this type of rider is known as a “fidelity bond” or a “salary-and-benefits exclusion.” The provision at issue here reads as follows:
“Employee Dishonesty *** “b. Obtain financial benefit (other than salaries, commissions, fees, bonuses, promotions, awards, profit sharing, pensions or other ’employee’ benefits earned in the normal course of employment) for: (1) Any ’employee’; or (2) Any other person or organization intended by that ’employee’ to receive that benefit.” (Emphasis added.)
State Farm denied coverage citing the italicized language. 3BC sued for a declaratory judgment to determine coverage. In the trial court, 3BC asserted that the salary exclusion was meant to cover “bona fide salary disputes.” As there was no dispute that Vazquez committed fraud by falsifying time records, 3BC asserted that “[t]he money was not earned in the normal course of employment” and therefore that the loss was covered under the endorsement. State Farm’s countered that the endorsement covers certain types of fraud such as embezzlement or theft but not wage fraud. Accordingly, because the unearned salary payments were still paid by 3BC as salary, coverage for the loss was barred by the exclusion.
The trial court issued a six-page memorandum decision finding in State Farm’s favor.
In this case the first clause of the policy states that the insurer will cover any loss intentionally caused by an employee to obtain a financial benefit “other than salaries, commissions, fees, bonuses, promotions, awards, profit sharing, pensions or other ’employee’ benefits earned in the normal course of employment.” (Emphasis added.)
Contrary to 3BC’s interpretation, the phrase “normal course of employment” does not modify the word “salaries.” Rather, it modifies the phrase “other ’employee’ benefits” and describes a characteristic of an additional, general type of payment that is excluded from coverage.
The first eight nouns are ‘salaries,’ ‘commissions,’ ‘fees,’ ‘bonuses,’ ‘promotions,’ ‘awards,’ ‘profit sharing,’ ‘pensions.’ The ninth noun, the phrase, ‘other employee benefits earned in the normal course of employment’ describes, in unspecified form, all the other forms of compensation that are generally earned in the normal course of employment. This general description is necessary because, of course, the list cannot go on forever. In other words, the parenthetical is merely a list where the last item is a catch-all—the equivalent of writing “etc.”
The language in this fidelity bond has been an industry-wide standard since the mid-1970’s and there are numerous cases interpreting the same provision under similar circumstances. As the trial court noted, almost all of these decisions hold that unearned salaries and unearned commissions are nonetheless salaries and commissions. That is, they do not lose their essential character as employer-to-employee financial transactions merely because they were obtained through deceit.
Context within the entire policy led the appellate court to the conclusion that “salary” payments are the type of typical employer-to-employee transactions that are excluded from coverage under the fidelity bond. Ambiguity is not established merely because courts reach inconsistent results. The contrary interpretation must be reasonable the appellate court concluded that it is not.
Had Ms. Vazquez used the contents of the stockroom as collateral for a loan, or helped herself to all the donuts in the restaurant, or sold one of the cappuccino machines on eBay, then 3BC’s loss would be covered. As accurate as was the example, given the fact that there is an exclusion, the policy clearly was not designed to cover all conceivable employee criminal conduct.
Wage theft is simply one form of indirect employee theft that is excluded from coverage.
The Illinois appellate court read the full policy (RTFP) and concluded that the exclusion was clear and unambiguous and excluded the excess salary payments that Ms. Vazquez paid to herself and her relatives. No question what she did was a theft but it was a theft that was clearly and unambiguously excluded. RTFP is necessary in every possible coverage interpretation.
© 2020 – Barry Zalma
Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 52 years in the insurance business. He is available at http://www.zalma.com and firstname.lastname@example.org.
Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.
Over the last 52 years Barry Zalma has dedicated his life to insurance, insurance claims and the need to defeat insurance fraud. He has created the following library of books and other materials to make it possible for insurers and their claims staff to become insurance claims professionals.
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