Broker can't intentionally misrepresent facts on an insurance application
In 1998, a California general contractor was sued for its work on a single-family residence. The contractor's insurer initially undertook the defense of the claim under a reservation of rights. After the insurer determined that certain information in the contractor's insurance application was false, the insurer withdrew its defense. The contractor sued the insurer, alleging breach of written contract and of the implied covenant of good faith and fair dealing. The contractor also sued his broker for negligence and breach of fiduciary duty.
In its answer to the contractor's complaint, the insurer filed a cross-complaint for declaratory relief, reimbursement of defense costs and rescission of its policy. The broker, meanwhile, filed a motion for summary judgment concerning the contractor's suit against it. That motion, which was unopposed, was granted in 2002 and judgment was entered.
The insurer also filed a cross-complaint against the contractor's insurance broker, alleging that it submitted an application stating that the insured worked only as a drywall contractor. In its complaint, the insurer charged the broker with fraud, negligence and negligent misrepresentation.
In response to the insurer's cross-complaint, the broker filed a demurrer (a plea in response to an allegation that admits its truth but also asserts that it is not sufficient as a cause of action). It stated that the insurer's charges against it for negligence and negligent misrepresentation were barred by the doctrine of res judicata (a matter that a court already has decided) and that the fraud claim was barred by the doctrine of collateral estoppel (a doctrine barring the relitigation of issues.) The trial court upheld the demurrer while permitting the insurer to amend the complaint.
The insurer then filed a second cross-complaint in which it stated that the broker had attached to the contractor's application a letter purporting to be from the agent of the carrier that previously insured the contractor. The letter stated that "there have been no known losses for the two-year period we have had the above referenced policy insured."
The insurer said that it had determined through its investigation that the previous carrier's agent denied having written or prepared the letter. The insurer also alleged that an employee of the defendant broker was an acquaintance of the previous carrier's agent and had had access to that agent's office. The carrier alleged that with no other person present, the broker's employee had obtained, without authorization, copies of the letterhead used by the previous carrier's agent and had used it to forge the letter purporting to be from the agent.
The broker filed a demurrer to the second cross-complaint, arguing that, as a broker, it did not owe the carrier a duty in negligence and that the carrier's exclusive remedy was against the contractor. The trial court sustained this demurrer too, without leave to amend, and judgment of dismissal of the cross-complaint was entered. The insurer appealed.
Addressing the charge of fraud, the appeals court noted that the following elements must be pleaded to state a cause of action: (1) a misrepresentation of a material fact, (2) knowledge of falsity, (3) intent to deceive and induce reliance, (4) the deceived party's justifiable reliance on the misrepresentation and (5) resulting damages to the deceived party.
The court found that the insurer's second cross-complaint alleged a misrepresentation of a material fact and stated that as a result of the misrepresentation, it incurred costs of investigation and defense of the plaintiff's action, as well as the loss of a higher premium that it otherwise would have charged. Thus, the cross-complaint alleged all of the requisite elements of a cause of action for fraud, the appeals court said.
The court rejected the broker's argument, which maintained that an action for fraud based on misstatements made on an application can only be brought against an insured and not a broker. The broker argued that California's insurance code charges the insured, not the broker, with the duty to disclose material information and with the responsibility for misrepresentations made to the insurer. However, none of the cases the broker cited to support its position involved intentional misrepresentation, the court noted.
The court then turned to the negligence charge. It noted that the elements of negligence include (1) a legal duty of care owed to the plaintiff, (2) a breach of that duty, (3) legal causation and (4) damages. The carrier alleged that the broker and its employee owed a duty to the insurer to properly prepare and process the contractor's application honestly and accurately by fully divulging all facts within their knowledge material to the contract.
The insurer's second cross-complaint alleged that the broker "intentionally, carelessly, and/or negligently" failed to divulge the contractor's true loss history on the application, and that the carrier relied on this information to its detriment. "Thus," the appeals court said, "the cross-complaint pleaded all the necessary elements to establish a cause of action for negligence."
"We conclude that (public) policy reasons support imposing a duty on insurance brokers to exercise reasonable care in preparing insurance applications under the facts alleged in the cross-complaint," the appeals court said. "We emphasize that our holding should not be construed as treating an insurance broker as a guarantor of information in an insurance application or as imposing a duty on a broker to independently investigate information provided by the insured. However, when the broker knows of actual misstatements, the broker may be held liable for transmitting those misrepresentations in an insurance application, knowing the insurer will reasonably rely on them. Thus, the trial court abused its discretion in sustaining the demurrer as to the cause of action for negligence."
The court ruled that the insurer had not adequately pleaded the third charge, for material misrepresentation, but it reversed the trial court's dismissal of the fraud and negligence charges.
Century Surety Co. vs. Crosby Insurance, Inc., No. E033550 (Cal.App. Dist.4 11/17/2004) 2004.CA.0010123 (www.versuslaw.com).
Readers can contact Don Renau via e-mail at drenau@thepoint.net.
© Arc, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to TMSalesOperations@arc-network.com. For more information visit Asset & Logo Licensing.