The document discusses two court cases where law firms sought to recover losses from scams under their professional liability insurance policies. In the first case, Attorneys Liability Protection Society, Inc. v. Whittington Law Associates, PLLC, the court found that the policy's exclusion for conversion or misappropriation applied, denying coverage. In the second case, Bradford & Bradford, P.A. v. Attorneys Liability Protection Society, Inc., the court determined there was no attorney-client relationship so the law firm's actions did not constitute covered professional services. The document also briefly describes three cases where the courts found coverage did apply under the policies.

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DON’T TAKE ANY WOODEN NICKELS:
LAWYERS AS TARGETS OF LUCRATIVE SCAMS
By Donald S. Malecki
The author discusses a number of court decisions where lawyers were duped by thieves and sought coverage for
their losses under their commercial insurance policies.
An adage that used to be expressed with some regularity many years ago to warn people about being ripped off was not to take any wooden nickels – at a time when they were available. With wooden nickels having disappeared and the value of the real nickel virtually worthless today, this wooden nickel saying is a thing of the past. The common method for committing fraud today does not involve a tangible, like the wooden nickel; the new modus operandi is the electronically-induced scam generated by dishonest people from predominately foreign countries who have been successful in duping people from all walks of life for “big bucks.”
Interestingly, it may come as somewhat of a surprise to some to learn that one kind of business that appears to be particularly susceptible to electronically-induced scams is the legal profession. Yes, lawyers. In the fairly typical scam, lawyers are contacted by foreigners who are in need of legal assistance in collecting debts. The law firms eventually receive checks for large sums from the debtors, and are instructed to deposit them for further instructions. What these law firms do, so as not to comingle with the firms’ accounts, is to establish special accounts at the firms’ financial institutions. Before these checks are cleared by the banks on which the funds were drawn, the clients request that the money representing the checks sent to the law firms, be wired to foreign accounts, less the law firms’ retainer. After the money is received by the foreigners, the law firms are notified that the checks, drawn on foreign or domestic banks, originally sent to the law firms, are bogus.
It must be shocking for the law firms to learn that they have been duped for large sums of money. In effect, most of the time, the law firms’ accounts are overdrawn even after the legitimate funds of the law firms are used to help pay for what is owed.
What may beg at least two questions here are:
(1) whether there is any insurance available to law firms that could pay or help to defray the losses sustained; and
(2) what can law firms do to avoid or at least reduce the chances of being candidates for one of these major dollar rip-offs.
Not surprisingly, when law firms go hunting for coverage to recoup their losses, they are more likely than not, going to have to get involved in litigation, since many, if not most, insurers do not feel these kinds of scams should covered. With commercial general liability insurance commonly limited to bodily injury, property damage, and personal and advertising injury liability, the coverage that is likely to be the most appropriate for recouping losses will be the lawyers’ professional liability policies. Whether these policies will apply, of course, hinges, in part, on the facts, including allegations, and the nature of the policy coverage. In the end, some cases are won and some are lost. What is surprising, however, is that more cases appear to be won than lost, at least based on what research has produced here. What follows are discussions of some cases for purposes of learning about the interesting facts, and the nature of the policy language that resulted in some losers and some winners.
Cases: The Losers
One recent case, where the law firm was unsuccessful in its arguments for coverage under its professional liability policy and which the court referred to as being an example of a “Nigerian Check Scam,” is Attorneys Liability Protection Society, Inc. v. Whittington Law Associates, PLLC, et al.1
The description of this involved case is very interesting but unnecessary to describe here in every detail. For purposes here, it is only necessary to provide a broad brush of this scam and the argument that followed when the law firm that was “duped” sought to recover its losses under its professional liability policy.
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2. Briefly, the named insured – referred to here as the defendant because this case was brought by the insurer which maintained its policy did not apply – was said to have been induced by a “client” that did not actually exist, to deposit a sizeable check into the attorney’s account at the Ledyard National Bank and promptly wire the bulk of those funds to a bank account in Japan. By the time Ledyard discovered that the check was invalid, the funds had already been withdrawn from the Japanese account.
Finding itself more than $150,000 short, Ledyard commenced a state-court action against the named insured to recover that amount. The named insureds, in turn, sought coverage against that action from its professional liability insurer, Attorneys Liability Protection Society, Inc. (“ALPS”), which responded by filing this action seeking a declaratory judgment that it need not provide coverage. The named insureds counterclaimed seeking judgment to the contrary, and alleging that ALPS breached its contract by declining to provide coverage.
The Insurance Dispute
The disagreement over insurance involved two provisions: the insuring agreement and an exclusion dealing with conversion, misappropriation, etc. In pertinent part, the insuring agreement dealt with claims arising from, or in connection with, “an act, error or omission in professional services that were or should have been rendered by the insured.” The insurer, ALPS, noted that the policy defined “professional services” to be “services or activities performed for others as an attorney in an attorney-client relationship.” The named insured argued that an “actual client” was not necessary to an “attorney-client relationship,” and that the only requirement was an attorney’s “good faith belief ... that he had entered into a legitimate attorney-client relationship.”
The court stated that, while the interpretation of the insuring agreement was interesting, particularly in light of the divergent results reached by the cases cited by the respective parties to this case, the court stated it did not have to resolve this issue. Assuming without deciding that Ledyard’s claim against the named insured’s arose from, or in connection with any “act, error or omission in professional services that were or should have been rendered by the insured,” the court explained, the claim still was not covered in light of the policy exclusion.
The relevant exclusion in question read as follows:
THIS POLICY DOES NOT APPLY TO ANY CLAIM ARISING FROM OR IN CONNECTION WITH ... [a]ny conversion, misappropriation or improper commingling by any person of client or trust account funds or property, or funds or property of any other person held or controlled by an Insured in any capacity or under any authority, including any loss or reduction in value of such funds or property.
The court’s perspective of the above exclusion was said to be clear and unambiguous as applied to the facts of this case. Thus, Ledyard’s claim against the named insured, was said by the court, to have arisen from the scammer’s misappropriation of the bank’s funds, which the named insured controlled, and, therefore, fell “squarely” within the exclusion.
In its memorandum in support of its motion for summary judgment, the named insured’s focus was solely on whether the misappropriated funds were “client or trust account funds or property” asserting that because Ledyard was not seeking to recover such funds and “the $195,790 represented by the fraudulent check was simply never in the firm’s [client trust] account … the exclusion by its own terms were inapplicable.” As explained by the court, however, by its own terms, the exclusion did not apply solely to the misappropriation of “client or trust account funds or property.” It also applied, the court went on to say, to the misappropriation of, simply “funds” that were “held or controlled by an Insured in any capacity or under any authority.”
The court also explained that it might have been the oversight of the named insured in its opposition to the insurer’s motion because the named insured also asserted that it “never actually held or controlled the money sent to [them] by Citibank,” because “[t]he money represented by the $195,790 check that was purported to come from Citibank ... never existed.” The court responded that Ledyard’s action did not arise from the scammer’s misappropriation of nonexistent funds, so that whether the named insured actually controlled those funds was irrelevant. What was relevant, the court explained, was whether the named insured controlled the funds that were misappropriated and which were the subject of Ledyard’s claim against the named insureds –the funds the named insureds instructed Ledyard to wire to the Japanese account.
In addition to a couple of other arguments raised by the named insured, was a protest by the named insured that “no law firm purchasing professional liability insurance would expect that permitting its client trust account to be pilfered would not be covered,” the district court stated that, “if the plain and unambiguous language excludes coverage for those acts, the law firm should expect just that.” That was the case here, the court concluded.
The Second Case
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3. The second case where the law firm was unsuccessful in recouping its losses from a scam is Bradford & Bradford, P.A. v. Attorneys Liability Protection Society, Inc.2 The issue was whether a professional liability policy, issued by the same insurer of the preceding case, a risk retention group, covered claims asserted against the law firm by a financial institution.
In May 2009, the law firm received an email from a person identified as Patrick Chan (“Chan”) who asked the law firm to represent his company, Carmel Manufacturing Pte Ltd. of Hong Kong (“Carmel”) in the collection of debts owed by Carmel’s overseas customers. The law firm emailed Chan an engagement letter and the firm’s $2,500 retainer. Chan signed and returned the engagement letter by email on June 1.
Also on June 1, Chan informed the law firm that there was now an urgent payment offer by a debtor who had been informed to use the law firm’s services to collect monies owed to Carmel Manufacturing Company. The debtor, therefore, was said to be willing to make partial payment through the law firm. The law firm instructed Chan that the debtor, Bruderer Machinery, Inc. (“Bruderer”), should make its check payable to the firm. Chan then instructed the law firm to deposit the payment when received and to deduct the law firm’s retainer.
On June 3, the law firm received what appeared to be a Citibank, N.A. check from Bruderer for $362,400.25 made payable to the law firm. The law firm deposited the check into the law firm’s trust account at First Citizens Bank. Subsequently, Chan contacted the law firm asking it to wire portions of the foregoing amount to accounts at a bank in Japan. A member of the law firm’s staff was instructed to check with the bank as to the status of the funds. The staff member contacted the bank and was informed that “the funds had posted and were available.” The law firm therefore complied with Chan’s requests and initiated two wire transfers from the firm’s trust account.
On June 8, the bank informed the law firm that the $362,400.25 check was counterfeit and had been rejected by Citibank. By this time, however, the funds from the wire transfers had been removed from the Japanese bank accounts. The funds were never recovered. In order to cover the wire transfers, the Bank debited the funds that were then in the law firm’s trust account, approximately $42,000. This resulted in a negative balance of $320,400.25. The bank the filed suit against the law firm seeking damages in the amount of the counterfeit check, plus costs and attorneys fees. The bank, in this action, relied, in part, on a Wire Transfer Agreement through which the law firm agreed to “hold harmless and indemnify the Bank for any costs and expenses, including attorneys fees incurred to prosecute or defend any claim related to a requested or complete wire transfer.” Pursuant to this same agreement, the law firm also agreed that the bank “was not liable for any losses or damages that resulted from the law firm’s failure to provide complete and accurate information, or any action, inaction or circumstances beyond the [b]ank’s control.”
When the law firm sought protection from its insurer, ALPS, it was denied, stating that its named insured, law firm, failed to show that there was any coverage and that the policy was subject to applicable exclusions. Specifically, ALPS argued that the bank’s claims were not covered, because they did not arise out any “professional services” provided by the law firm. In other words, there was no client- attorney relationship, because Carmel Manufacturing Company’s sole purpose was to defraud, and not to hire, the law firm. This was said to have posed a difficult issue, because when communicating with Carmel Manufacturing Company, the law firm did not know it was being targeted for a scam. The law firm, on the other hand, maintained that the email communications with Chan and the signed engagement letter both established an attorney-client relationship.
The court stated that, as defined in the policy, for the law firm’s actions to qualify as professional services, they must have been:
(1) services or activities;
(2) performed for others as an attorney;
(3) in an attorney-client relationship; and
(4) on behalf of one or more clients.
Without an attorney-client relationship, therefore, any actions taken by the law firm under the direction of Carmel could not be considered as “professional services.”
The court also found that there was no attorney-client relationship formed between the law firm and Carmel Manufacturing Company and, therefore, Carmel was never the law firm’s client. Without an attorney-client relationship, said the court, none of the actions the law firm took at Carmel’s request could be considered “professional services” under the policy, because they were not services or activities performed for others as an attorney in an attorney-client relationship. The court explained further that, if Carmel was never a client, then nothing the law firm did at Carmel’s request was “on behalf of one or more clients,” as required by the “professional services” definition.
The court stated that it was unnecessary to decide whether the actions of the law firm would have qualified as professional services had an attorney-client relationship existed. The insurer, ALPS, provided the court with two cases from other jurisdictions that rejected the
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4. notion, as a matter of law, that facilitating a check-passing scheme on behalf of someone posing as a client constituted professional services by the lawyers involved.3 Those cases, the court stated, differed from the case in question, in that the policies there did not define professional or legal services as those performed in an attorney-client relationship on behalf of a client. Therefore, while the court reached the same result, the case in question (Bradford & Bradford) was decided on different grounds.
Since the law firm could not meet the “controlling substance,” because it was never engaged by Carmel Manufacturing Company for the purposes of obtaining legal services, the court stated that it was unnecessary to determine whether any exclusions might have been applicable. The court awarded summary judgment to ALPS and denied the law firm’s motion.
Cases: The Winners
It appears that winners – from the standpoint of insureds – outnumber the losers. Three of these cases will be discussed briefly. Two involved professional liability policies and the third involved a Businessowners Policy (“BOP”). The cites of the other cases will be given for those interested in reading or pursuing this matter. In light of the broad brush discussions, it is recommended that these and other cases mentioned be consulted.
In the first case where coverage was awarded to the named insured is Lombardi, Walsh, Wakeman, Harrison, Amodeo & Davenport, P.C. v. American Guarantee and Liability Insurance Co.4 The plaintiff, law firm was contacted by email by an individual purporting to have been the chief executive officer of a Taiwanese corporation seeking legal assistance in collecting debts in North America. After the individual sent the law firm a signed retainer agreement, the law firm received a check for $384,700 from a purported debtor of the corporation. The law firm opened an account at Berkshire Bank and deposited the check. At the request of the purported CEO, the law firm instructed the bank to wire the value of the check, minus a legal fee, in two transfers to a third party in South Korea who was allegedly a supplier of the Taiwanese corporation. After the funds were transferred, the bank notified the law firm that the check was counterfeit and the law firm’s account was overdrawn.
Parenthetically, it was stated that the law firm instructed the Berkshire Bank to wait until the check “cleared,” which it did, before wiring funds. It was stated, however, that the law firm apparently did not understand that a bank may be required to make funds deposited by check available for the account holder to use even if the funds have not been finally collected by the bank.5 If the bank later determines that the check does not constitute good funds and cannot be finally collected, the bank may require repayment of those funds that have been made available to the account holder.
The Berkshire Bank commenced an action against the law firm as the result of the overdraft. When the law firm requested defense from the insurer that issued the professional liability policy, defense was denied. The law firm then settled with the bank and filed an action against its insurer.
The insurance policy issued to this law firm provided coverage for any claim “based on an act or omission in rendering or failing to render Legal Services for others.” “Legal Services” was defined by this policy as “those services performed by an Insured as a licensed lawyer in good standing ... or in any other fiduciary capacity but only where the act or omission was in the rendition of services ordinarily performed as a lawyer.”
The court stated that the complaint alleged that the law firm had rendered legal services. An attorney, the court said, in possession of a client’s funds is a fiduciary. The rules, the court explained, require a lawyer to promptly pay or deliver such funds to the client or third party at the client’s request. The law firm was thus acting in a fiduciary capacity and under rules imposed on attorneys acting in their professional capacity when it deposited the check and requested wire transfers in accordance with its purported client’s request.
The insurer contended that the law firm was not truly performing legal services for a client, because the individual who contacted the law firm was an imposter and never intended to receive legal services. It was the court’s opinion, however, that while the imposter may not have intended to receive legitimate legal services, someone requested legal assistance and signed a retainer agreement to engage the law firm to provide legal services.
The insurer also maintained that it was not required to defend or indemnify the law firm (named insured) because of the policy’s exclusion of coverage for claims based on or arising out of “any liability assumed by the ... under any oral or written contract or agreement, unless such liability would have attached to ... by law in the absence of such contract or agreement.” The court stated here that any insurer attempting to avoid coverage based on an exclusion bears a heavy burden of demonstrating that the underlying complaint places the situation wholly within the exclusion, the exclusion is clear, and subject to only one reasonable interpretation defeating coverage, and “there is no possible factual or legal basis upon which the insurer may eventually be held obligated to indemnify the insured.” As it turned out, the insurer had the obligation to provide the law firm, its named insured, with defense.
Another case where the law firm obtained coverage was Nardella Chong, P.A. v. Medmarc Casualty Insurance Company.6 The named insured, law firm, filed a declaratory judgment action against its insurer to determine whether its professional liability policy provided
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5. coverage for erroneous disbursement of client funds from its trust account. The policy’s definition of “professional services” included “services as a ... trustee ... but only for those services typically and customarily performed by an attorney.” The act for which the lawyer claimed coverage involved distribution of its trust account funds in response to a fraud perpetuated by a putative client. The client, Northlink Industrial, Ltd., purported to hire the lawyer to establish a subsidiary in the U.S. and gave the lawyer a cashier’s check in payment, which the lawyer deposited in the firm’s trust account. The client then directed the lawyer to wire-transfer most of the proceeds to alleged overseas business partners. Unfortunately, the cashier’s check turned out to be forged and the funds transferred out of the trust fund belonged to other legitimate clients.
The district court found no coverage under the policy because “there have been no negligent acts or negligent omissions resulting from the performance of, or failure to perform, professional services.” The court of appeals disagreed. It also was stated that the insurer’s own corporate representative testified in her deposition that the lawyer’s management of its trust account constituted the performance of legal services to those clients with funds in the account. In holding for coverage, the court concluded that the lawyer’s erroneous transfer of clients’ trust funds to a third party was an act or omission in the conduct of its professional fiduciary duties to its clients.
The third case where the law firm was a victim of a scam is Morris James LLP v. Continental Casualty Company.7 This case, resulting in a loss of $176,750 to a law firm, also involved a debt collection, a cashier’s check which turned out to be counterfeit, and a wire transfer. This time, however, the law firm made a claim under its Businessowners Special Property Coverage form, which is a package of coverages usually consisting of property, liability, crime and equipment breakdown, among other coverages. This policy included coverage for forgery and alteration, with a limit of $250,000, but subject to a false pretense exclusion.
The insurer did not dispute that the loss was the direct result of the scam, nor that the purported check was for a sum certain and drawn by a scammer purporting to be an agent of Citibank. What the insurer argued, instead, was that the forgery and alteration endorsement did not apply for two reasons:
(1) the law firm did not know and, thus, could not represent whether the signature on the counterfeit check was forged; and
(2) the purported check was not a covered instrument, because it was a counterfeit check, not a forgery or alteration of a valid check.
The court disagreed with the insurer, stating that “[t]he general rule of negotiable instruments is that the validity of a check is dependent on the genuineness of its signature, not the paper it is printed on; therefore, a counterfeit check ... is equivalent to a forged check.”
What is interesting about this case was the fact that because the loss was the result of both a forged instrument and a voluntary parting induced by fraud – two contributing causes – the loss was said to have fallen within the plain meaning of the forgery and alteration endorsement, and the False Pretense exclusion. Whether the loss therefore was covered or excluded hinged on which provision was interpreted to prevail, or “trump” the other when the policy was interpreted as a whole. From the court’s perspective, when both the coverage endorsement and exclusion were read together, it created an ambiguity which, of course, was construed against the drafter.
Two other cases where the law firms were successful in their coverage explorations and involving:
(1) emails;
(2) collection problems; and
(3) wire transfers.8
Commentary
Lawyers are not the only ones who have been duped by these thieves. It is only because the victim law firms have sought coverage under their commercial insurance policies for their losses that these cases have become evident.
In reading these cases from the standpoint of risk management, two principles become evident:
(1) avoidance; and
(2) do not risk a lot for a little.
Taking avoidance first, about the only way to keep from being scammed by these thieves is to ignore their requests or flatly turn them down. Avoidance, as a risk management technique, can eliminate a lot of grief. The only problem is that those in business cannot select
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6. avoidance too often or they will soon find themselves with no business to handle.
The second principle of risk management is to not risk a lot for a little. In reading these cases, however, this is precisely what the victims had done, when one compares the fees the law firms charged versus the amount of funds they lost in these wire transfers.
The question here is whether law firms should take the bait:
(1) email inquiries from foreigners;
(2) dealing with debt collections; and
(3) large sums that need to be wired to foreign jurisdictions rather promptly.
What makes these arrangements “fishy” is the short span between the time when the debtor’s check is received by the law firm, and the request for a wire transfer. The thieves are really jamming it from a time-squeeze standpoint—and for good reason. Unless the law firm is given the time to make sure the check is not phony, the deal should be refused.
Furthermore, if it is true that a financial institution may be required to make funds deposited by check available for the account holder to use even if the funds have not been finally collected by the financial institution, as mentioned in the Lombardi, Walsh, Wakeman, Harrison, Amodeo & Davenport, P.C. v. American Guarantee and Liability, Insurance Company case, the deal should be refused here, too.
What makes these deals especially hazardous is when a law firm agrees to sign a financial institution’s hold harmless agreement, as was the case in Bradford & Bradford, P.A. v. Attorneys Liability Protection Society, Inc.
Overall, these kinds of deals may look enticing to law firms, but based on what can be lost and gained, they do not add up to be advantageous for the lawyers.
(Endnotes)
1. 2013 WL 3289055 (D N.H. 2013).
2. 2010 WL 4225907 (D.S.C. 2010).
3. Fidelity Bank v. Stapleton, No. 07A-11482-2 (Ga. Super. Ct. filed 2009) (holding that opening an account, accepting a check, depositing a check and then wiring funds to Asia did not require application of legal knowledge unique to the practice of law, and did not constitute legal services); Fleet National Bank v. Wolsky, No. 04-CV-5075 at 6 (Mass. Super. Ct. filed 2006) (held that “the receipt, indorsement, and deposit of a check, and the distribution of funds” could not be considered legal services because, relying on state law, legal services must be understood to refer to services that “require a lawyer’s specialized knowledge, labor, or skill”).
4. 924 N.Y.S. 2d 201 (Sup. Ct. App. Div. 3d Dept. 2011).
5. See CFR 229.10(c).
6. 642 F.3d 941 (U.S. Ct. App. 11th Cir. 2011).
7. No. 11-19-SLR (D. Del. 2013).
8. See Stark & Knoll Co. L.P.A., v. Proassurance Casualty Co., No. 12 CV 2669 (U.S. Dist. Ct. N. Dist. OH 2013), and O’Brien & Wolf, L.L.P. v. Liberty Insurance Underwriters, Inc., Civil No. 11-3748 (JNE/SER), (U.S. Dist. Ct. D. MN 2012).
About the Author
Donald S. Malecki, a member of the FC&S Legal Editorial Advisory Board, is a principal of Malecki, Deimling, Nielander & Associates, LLC, an insurance, risk, and management consulting firm in Erlanger, Kentucky. Mr. Malecki can be reached at insuranceauthor@gmail.com.
This article was published in the April 2014 Insurance Coverage Law Report.
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