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The Rough Notes Company Inc.



February 25
06:45 2021

Dishing up dishonesty

3BC Properties, LLC, owned and operated four Dunkin’ Donuts franchise locations in DuPage County, Illinois. 3BC purchased a businessowners policy for each restaurant through State Farm Fire and Casualty Company. The policies had identical language and henceforth will be referred to as a single policy.

In 2016 and 2017, 3BC employed Brenda Vazquez to manage each of the four restaurants. As part of her duties she was responsible for supervising the employees and reviewing their time records for payment. 3BC also employed four of Vazquez’s relatives in different roles at the restaurants.

In April 2017, 3BC’s owners discovered that Vazquez had falsified time records for herself and her four relatives; this resulted in overpayments to Vazquez and her kin of more than $66,000. The owners reported the fraud to the authorities and submitted claims for their losses to State Farm under the businessowners policy.

The policy contained a rider and an exclusion that insured 3BC against some losses that resulted from employee dishonesty. This kind of rider is also known as a fidelity bond or a salary and benefits exclusion. The provision read:

“Employee Dishonesty

We will pay for direct physical loss to Business Personal Property and ‘money’ and ‘securities’ resulting from dishonest acts committed by any of your ‘employees’ acting alone or in collusion with other persons (except you or your partner) with the manifest intent to:

  1. Cause you to sustain loss; and
  2. 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:

Any ‘employee’; or

Any other person or organization intended by that ‘employee’ to receive that benefit.” (Emphasis added.)

When 3BC submitted the claim and sought reimbursement for Vazquez’s wrongdoing, State Farm denied coverage, citing the nonitalicized language. 3BC sued for a declaratory judgment to determine coverage.

At trial, 3BC asserted that the salary exclusion was meant to cover bona fide salary disputes. State Farm said that the endorsement covered certain kinds 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 parties filed cross-motions for summary judgment, and the court found in State Farm’s favor. The court noted that the only relevant Illinois state court decision held that coverage was barred under a similar exclusion where the employees—two salesmen who sold unregistered securities and pocketed the commissions—“did not gain anything except a commission from the unauthorized trading.” Their commissions were the kind of employer-employee transactions that were excluded from coverage, even though they were fraudulently obtained.

The court also referred to a federal case that interpreted a similar rider under Illinois law, which held that “[a]ny sort of commission benefit is exempt from fidelity coverage, even unearned commissions.” In addition, the court noted that, although there were some outliers, most out-of-state decisions that analyzed the exclusion had reached the same conclusion. Accordingly, the court granted judgment for State Farm. 3BC appealed.

On appeal, the court noted that the exclusion was a single sentence with two independent clauses. The first clause stated that the insurer would 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.) 3BC contended that unearned salary payments are not “‘employee’ benefits obtained in the normal course of employment”—but the court said that reading was at odds with the policy’s plain language. The parenthetical that contained the exclusion merely listed the kinds of employer-to-employee payments and benefits that were excluded from coverage. Contrary to 3BC’s interpretation, the phrase “normal course of employment” did not modify the word “salaries.” Rather, it modified the phrase “other ‘employee’ benefits” and described a characteristic of an additional, general kind of payment that was excluded from coverage. In other words, the court said, the parenthetical was merely a list where the last item was a catchall—the equivalent of writing “etc.”

The court concluded that the policy “clearly was not designed to cover all conceivable employee criminal conduct, and wage theft is simply one form of indirect employee theft that is excluded from coverage.”

The judgment of the circuit court was affirmed.

3BC Properties, LLC v. State Farm Fire and Casualty Company—Appellate Court of Illinois—July 27, 2020—No. 2-19-0501.

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