United States: When A Law Firm Purchases Less Insurance Coverage Than Required By The Rules Of Court

THE CASE OF CADRE V. PROASSURANCE CASUALTY COMPANY

Rule 1:21-1B of the New Jersey Rules of Court governs the practice of law as a limited liability company, and provides in relevant part that “[a]ttorneys may engage in the practice of law as limited liability companies in the same manner as an individual or a partnership may engage in the practice of law . . . .”¹ The Rule also requires that an LLC engaging in the practice of law purchase legal malpractice insurance covering it for claims by its clients arising out of acts or omissions by its attorneys in the performance of professional services as attorneys.²

What happens when the law firm LLC purchases a professional liability policy that does not cover the loss sustained by the client? Can the LLC reform the policy so that the insurance coverage it intended to purchase is provided and the client's loss is covered? These are questions that were addressed in the recent decision of the New Jersey Appellate Division in Cadre v. ProAssurance Casualty Company.³

The Cadre Law Firm and its Insurance Claim

Plaintiff Jill Cadre, a New Jersey attorney, practiced law as the Cadre Law Firm, LLC, a limited liability company.⁴ She and her firm, also a plaintiff, had purchased a lawyers professional liability policy (the “Policy”) from Defendant ProAssurance Casualty Company (“ProAssurance”) with per claim and aggregate limits of $1 million. The Policy generally insured “all sums . . . which [plaintiff became] legally obligated to pay as damages because of any claim . . . involving any act, error or omission in rendering or failing to render professional services by [plaintiff] or by any person for whose acts, errors or omissions [plaintiff] is legally responsible . . . .”⁵

The term “professional services” was defined in the Policy to mean “services rendered by an Insured as a provider of legal services in a lawyer-client relationship. Professional services shall also include activities of an Insured as a . . . trustee, or in any similar fiduciary capacity . . . .”⁶ The Policy defined the term “insured” to include, in addition to Plaintiffs, “any non-lawyer who was or is an employee of the Named Insured . . . solely while acting within the scope of their employment on behalf of the Named Insured . . . .”⁷ Finally, the term “damages” was defined to mean “monetary judgments, awards or settlements” not including “the return or restitution of legal fees, costs and expenses charged by the Insured, or any allegedly misappropriated client funds or interest thereon.”⁸

The Policy also contained an “innocent insured” clause, which provided that “[i]f a claim is made involving the dishonest, criminal, malicious or fraudulent act, error, or omission of an Insured, this policy will apply to any Insured who did not participate in, acquiesce in or fail to take appropriate action after having knowledge of such acts, errors or omissions, provided that such Insured complied with all policy provisions.”⁹

In preparing for an audit by the Office of Attorney Ethics, Ms. Cadre discovered that one of her employees, a paralegal, had misappropriated approximately $800,000 in client funds held in the firm's trust account.¹⁰ Upon discovering the defalcation, Ms. Cadre restored the funds to her trust account and directed her insurance broker to notify ProAssurance of the loss.¹¹ ProAssurance, however, denied coverage on the ground that covered “damages” as defined in the Policy it had issued to Ms. Cadre and her firm did not include “misappropriated client funds:”

[I]t appears the only funds you seek are those funds which have been misappropriated from your law firm's trust account through the conduct of your former employee . . . . The return or restitution of such misappropriated funds is not included within the definition of damages covered by the Policy.

Based on the foregoing, there is no coverage available for the present . . . [c]laim for reimbursement to your trust account of the misappropriated funds.¹²

Plaintiffs sued ProAssurance, and moved for summary judgment seeking to reform the Policy to provide coverage for claims resulting from the misappropriated client funds.¹³ Defendant cross-moved for summary judgment seeking dismissal of the complaint. The trial court denied Plaintiffs' motion, granted summary judgment to Defendant, and dismissed the complaint.¹⁴ Plaintiffs appealed.

The Appellate Division's Decision

On appeal, Plaintiffs argued that ProAssurance “was obligated to issue a professional liability policy that complied with the . . . ‘minimum coverage requirements'” of Rule 1:21-1B.¹⁵ The court noted that ProAssurance did “not squarely assert that the Policy provided the coverage required by the Rule, and to be clear, it does not.”¹⁶  The court held that even though Rule 1:21-1B “does not specifically require an LLC to obtain insurance covering claims arising from the misappropriation of funds the LLC holds as a fiduciary, the insurance policy must do so to comply with the Rule[,]” because “an attorney inherently owes an advanced fiduciary duty to his or her client.”¹⁷ According to the court, “the fiduciary obligation of an LLC to secure clients' funds held in trust is part and parcel of the professional services the LLC renders to its clients. Per force, a professional liability policy that defines ‘damages' to exclude all possibility of coverage against claims seeking restitution of misappropriated funds does not provide coverage to the extent required by the Rule.”¹⁸

Finding that the Policy “did not provide coverage to meet the requirements of the Rule[,]”¹⁹ the court addressed Plaintiffs' argument that “every professional liability policy provided to LLCs that practice law in New Jersey must be reformed as necessary to provide the coverage required by the Rule.”²⁰ The court held that “the Rule regulates the conduct of attorneys, not insurers.”²¹ Analyzing precedent concerning the constitutional separation of powers in New Jersey, the court observed that Plaintiffs  cited “no authority for the proposition that the Court, acting within its constitutional spheres of attorney discipline and administration of the courts, has the power to enact a rule that regulates the conduct of insurers doing business in the state, a function the Legislature  delegated to [the New Jersey Department of Banking and Insurance].”²² Accordingly, the court held that Plaintiffs' “contention that the Policy must be reformed because it failed to comply with the requirements of the Rule [was] unavailing.”²³

The court also rejected Plaintiffs' argument that “the Policy's definition of ‘damages' was ambiguous and inconspicuous, and that the Policy failed to meet the ‘reasonable expectations' of its insureds.”²⁴ In this regard, the court held that “there was nothing ambiguous about the insuring agreement of the Policy; it used plain language and the definition of covered damages was conspicuously included within the definition section.”²⁵  Moreover, the court recognized that Ms. Cadre was not an unsophisticated consumer, having stated in her renewal application that “she handled one-hundred thirty real estate closings per year, with the average real estate value of $350,000, and the highest value of $1.3 million.”²⁶

Plaintiffs' contention that ProAssurance improperly failed to research Rule 1:21-1B's requirements also failed to find traction with the court, which found it “unsettling:”

[Plaintiffs contend] that defendant was actively marketing its LawyerCare policy, yet it never researched the Rule's requirements and never represented that the Policy complied with the Rule.  [Plaintiffs assert] defendant was in “the best position to discover the insurance requirements” of the Rule. The argument is unsettling. Who is charged with a greater knowledge of our Rules of Court, particularly those governing the practice of law . . . than a licensed attorney?  Yet, [Plaintiffs] acknowledged that until [the Office of Attorney Ethics] requested a certificate of insurance, she was ignorant of the Rule's requirements.²⁷

Finally, the court found Plaintiffs' argument that ProAssurance's “failure to inform her of the Policy's shortcomings constituted a negligent misrepresentation requiring reformation”²⁸ to be without merit:

The motion judge rejected the argument, noting [Plaintiffs were] unaware of the Rule's requirements and therefore did not rely on any representation that the Policy complied with the Rule.  We basically agree.  Moreover, as already noted, [Plaintiffs] acknowledged that [Defendant] made no representations whatsoever as to whether the Policy complied or did not comply with the Rule.²⁹

For these reasons, the Appellate Division affirmed the judgment of the lower court dismissing the complaint.

Conclusion

It goes without saying that attorneys must be familiar with court rules governing the practice of law. Where the rule in question requires lawyers to obtain and maintain professional liability insurance, it behooves attorneys to take care in ensuring that their malpractice insurance complies with all relevant state regulations.

In this case, familiarity with Rule 1:21-1B(a)(4) might not have saved Plaintiffs from the uninsured situation in which they found themselves, given that “the Rule does not specifically require an LLC to obtain insurance covering claims arising from the misappropriation of funds the LLC holds as a fiduciary . . . .”³⁰ An attorney should therefore protect herself by giving her policy a hard look to ensure that it covers all aspects of her practice. A New Jersey lawyer will not be able to obtain coverage through reformation for her professional liability policy's non-compliance with Rule 1:21-1B(a)(4).

Footnotes

1 N.J.R. Ct. 1:21-1B(a).

2 “The limited liability company shall obtain and maintain in good standing one or more policies of lawyers' professional liability insurance which shall insure the limited liability company against liability imposed upon it by law for damages resulting from any claim made against the limited liability company by its clients arising out of the performance of professional services by attorneys employed by the limited liability company in their capacities as attorneys.”  N.J.R. Ct. 1:21-1B(a)(4).

3 Docket No. A-4969-18, 2021 WL 2344927 (N.J. Super. Ct. App. Div. June 9, 2021).

4 Cadre, 2021 WL 2344927, at *1.

5 Id. at *2 (brackets and ellipses in original).

6 Id. (ellipses in original).

7 Id. (ellipses in original).

8 Id.

9 Id.

10 Id. at *1.

11 Id. at *2.

12 Id. at *2-*3 (brackets and ellipses in original).

13 Id. at *1.

14 Id. at *1.

15 Id. at *5.

16 Id.

17 Id. (citations omitted).

18 Id. at *6. The court noted that Plaintiffs “essentially conceded during oral argument  [that] a compliant policy may include exclusions or other limitations of coverage, e.g., an exclusion for intentional acts of the insured. We only conclude that this Policy, which provided no coverage whatsoever for damage claims arising from the misappropriation of clients' trust funds, did not provide coverage to meet the requirements of the Rule.” Id. at *7.

19 Id. at *7.

20 Id.

21 Id. at *8.

22 Id.

23 Id. at *9.

24 Id.

25 Id. at *10.

26 Id. at *11.

27 Id.

28 Id. at *12 (internal quotation marks omitted).

29 Id.

30 Id. at *5. As noted, however, the Appellate Division held that in order to comply with Rule 1:21-1B, an insurance policy must cover such claims. Id.

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