Lying, Cheating and Stealing
There are a number of sins to which those providing services for money are susceptible: product ignorance, market ignorance, administrative incompetence, disloyalty and betrayal, slothfulness, untruthfulness, and stealing. Bullying and rudeness are usually not large problems. After all, they are self-eliminating. Rude brokers don’t last long.
The sin of violence, while problematic when it happens, is extremely rare. Consider battery, for example. Battery is the tort of beating somebody up. It is distinguished from assault, which is the perception that somebody is about to beat you up. In any case, few service providers ever flog their clients. In the legal profession, clients more often thrash their lawyers than vice versa. In the world of insurance, insurance intermediaries seldom blacken the eyes or break the teeth of those who buy their services.
Stealing and professionalism
Even if violence did happen once in a while, while the agent should lose his license and the unfortunate client has something to complain about, when viewed in the aggregate—as a social problem—customer-focused battery is not as bad as stealing. After all, there’s a lot of folks that need a good whipping, but there’s not very much money that needs to be stolen.
Besides, although rare, there can be a certain nobility in a good trouncing. Nothing good can be said about embezzlement. This is particularly true for service providers in the area of insurance. Insurance intermediaries want everyone to count them as a profession—like doctors, lawyers and persons of the cloth. Society, at large, is reluctant about this idea, and it’s not catching on. Fairly educated and highly motivated people don’t like to see themselves as “mere” agents, brokers, business souls and tradespersons. There is some myth, or some magic, about the idea of a profession.
My wife recently left the practice of law to sell real estate. She has discovered, somewhat to her discomfort, that both purchasers and sellers treat real estate agents quite differently than they treat lawyers, even though they often profess to hate lawyers. Professional status seems to elicit deference, even if it also provokes resentment.
Stories about stealing don’t help professionalization much. It’s too late to apply this idea to lawyers, even though almost everyone has heard the story about some lawyer being disbarred for stealing from his client’s trust fund. Right now, controversy seems to be swirling around F. Lee Bailey, the internationally famous criminal lawyer who recently helped defend O.J. Simpson, as the result of these types of allegations.
Theft in Alabama
The Supreme Court of Alabama has been struggling with one such problem, and it’s not done yet. In Henry v. Kansas City Life Insurance Company, the issue was a dispute about how to get ready for trial. The trial hasn’t even been held yet. Some of the facts, however, seem pretty clear.
John T. Walley was an agent for American General Life for nearly a quarter of a century. In 1994, he got fired for stealing money belonging to a policyholder. He got ahold of a premium refund check and forged the policyholder’s name to it. It is unclear how frequently Walley (allegedly) did this.
Shortly after leaving American General, Walley became an agent for Kansas City Life. Apparently, Walley lied to KC Life about why he left American General. At the same time, KC Life vouched for Walley’s good character to the Alabama Department of Insurance and stated that it was satisfied that Walley was trustworthy and qualified to act as its agent.
Not long after Walley joined KC Life, he sold a policy of whole life insurance with a face amount of $25,000 to Altonie Henry. The premiums were to be paid monthly; and Walley picked them up from the policyholder. This happened twelve months in a row. However, only five of the twelve payments were credited to the policy.
Henry doesn’t just want her premiums back. She wants big, big punitive damages. Obviously, Walley (guilty or innocent) doesn’t have that kind of money. Consequently, Henry must show that Kansas City Life is somehow responsible for Walley’s iniquitous conduct. If she succeeds, then an insurer will be responsible for an agent’s dishonesty. The sins of the agent can be visited upon some others.
Other issues
In Guardian Life v. Chemical Bank, the issue was whether a bank can be held liable for an agent’s dishonesty. The theft in Guardian Life was much larger, though not much more sophisticated, than the theft in Henry.
Over ten years, an agent procured checks from Guardian Life. They represented policy loans or dividend withdrawals. The checks were payable to Guardian policyholders, and the thieving agent pocketed the proceeds after forging the necessary endorsements.
The issue here was whether the insurance company bears the burden of the loss or whether the bank bears it. The general rule is that if A has an account at Bank B, A makes out a check to C, and someone forges C’s endorsement on the check, then the bank bears the risk of loss. There are exceptions to this rule, however. One significant exception is the so-called “fictitious payee exception.” Both the rule and the exception are to be found in the Uniform Commercial Code—a statute that has been mostly adopted in nearly all the states.
The fictitious payee exception provides that the maker of a check bears the risk of loss when an agent or employee of the maker supplies the maker with the name of payee, as part of his responsibilities, while intending that the payee shall have no interest in the proceeds of the check. In other words, if I work for you and have you make out checks to someone named “Bham Boozle,” knowing that I will somehow end up with the check and cash it, then the bank does not bear the risk of loss, you do.
Between 1979 and 1989, the thieving agent who produced this mess caused Guardian to issue hundreds of checks to its policyholders. He would telephone Guardian and state the policyholder had requested either a policy loan or a dividend withdrawal. Of course, no relevant policyholder had made such a request, and none knew anything about what the agent was up to. Guardian would send the checks to the agent to send on to policyholders; he would forge endorsements; he would make off with the money.
The question before the New York Court of Appeals—the highest court in New York state—was whether the insurance intermediary was the legal agent of the insurer for the purpose of triggering the fictitious payee exception to the general rule. Usually, the legal agents involved in these kinds of cases are employees of the maker of the check, and often fictitious payees are fictitious because they do not exist at all, as opposed to being fictitious because their status as payees is fabricated.
The New York courts rejected this restrictive paradigm, and all three courts—the trial court, the intermediate-level appellate court, and the high court—held that the fictitious payee exception applied. The insurance company, and not the bank, should bear the loss, because the defalcation by its agents is the kind of business risk it is in a better position to prevent than risks banks are in the better position to prevent.
The insurance company argued that the intermediary was not acting as its legal agent when he caused the checks to be issued. He was not, at that time, under the control of the insurance company. After all, he was there and then stealing from the company. The Court of Appeals made short work of that argument. The insurance company had the right to control him, even though it did not actually do so.
Guardian Life also suggested that the intermediary was not a general agent, and that it certainly did not have authority to cause checks to be issued addressed to fictional payees. The court had no patience with this argument either. A long course of dealing, involving hundreds of thousands of dollars, indicated that the intermediary had the authority to arrange for the issuance of checks, although he did not have the authority to steal.
Finally, Guardian Life suggested that the intermediary was the agent of the policyholder and hence not its agent. Again, the court disagreed. To be sure, insurance intermediaries are frequently the legal agents of policyholders. This does not mean, however, that they are not also the legal agents of the insurers. Dual agency is a problem only when there is a debilitating conflict of interest.
What it all means
So, Guardian Life ate the loss. It only sued for $253,000, the aggregate value of the last 131 checks the agent negotiated. The statute of limitations prevented its recovery on all the rest.
The result in Texas now might not have been the same as it was in New York. The relevant provision of the UCC has changed a bit. By statute, namely the Insurance Code, insurance agents are the legal agents of policyholders. At the same time, they can be the legal agents of insurers, when there is no conflict of interest.
Insurance intermediaries ordering policy dividend or policy loan checks for a policyholder, receiving them, and transmitting them to the policyholder would almost certainly be a dual agent, and therefore an agent for the insurance company. After all, the insurance company wouldn’t have to deal with him. It could check the bona fides of what he requested. It could mail the check to the policyholder directly. It could direct the agent to deliver the check. It could show the agent how to deliver the check, and so forth.
The Texas UCC is now a little newer than the applicable New York version. Our version now makes a bank liable to some extent if it is negligent in dealing with checks that are made out to fictitious payees. It is unclear from the opinion in Guardian Life whether the bank behaved reasonably or fouled up right and left. Inquiring minds wish to know.
The meaning of broker
This column has focused on various sins (and therefore vices) of which service providers can be guilty. Perhaps a word should be used about important virtues in service providers. Surely, they are simply the opposite of the vices: product knowledge, administrative knowledge, market knowledge, energy, truthfulness and trustworthiness. Probably, it doesn’t hurt to throw in a dash of entrepreneurial spirit—after all, that goes with energy. And a little patience never hurt anybody, either.
Perhaps one can envision the virtues of an insurance intermediary best by contemplating the true meaning of brokerage. My wife taught me this not long ago. There is a youngster who goes to school with one of my sons. He comes from a broken and impoverished family that is under various other stresses. He has been placed for a while with a foster family. He is quite popular at school, and for good reason. He is an all around good fellow.
The time came for everyone in the neighborhood group to go to camp somewhere. My wife conceived the idea of sending the lad to camp with my boys. Basically, she approached the camp, raised a chunk of money through a church foundation, raised some more monies in the neighborhood, and made it all happen. The key to her success was that she invited people to do what they wanted to do after they thought about the idea for awhile. Isn’t that the true meaning of brokerage?
Quinn is an Austin shareholder in the law firm of Sheinfeld, Maley & Kay. He litigates and testifies on insurance related problems and is currently the chair of the Insurance Section of the State Bar of Texas. He also is a Visiting Professor of Law at the University of Texas-Austin.