Magazine article The CPA Journal

Peace of Mind: The Prompt Reporting of an Insurance Claim

Magazine article The CPA Journal

Peace of Mind: The Prompt Reporting of an Insurance Claim

Article excerpt

The Roslyn School District was considered for many years to be one of the best in the nation. The residents of this Long Island suburb supported the district and its superintendent with a $70 million annual budget. In 2002, it was discovered that an administrator employed by the district had embezzled $250,000. Rather than disclosing the theft to the authorities and the loss to its insurers, the school board handled the problem internally. This unfortunate decision was based on several factors: The rogue administrator promised to replace the embezzled funds and quietly retire; the district's long-time auditor, an accounting firm that provided auditing services to several New York State school districts, confirmed that the loss was limited to $250,000; and a special counsel retained by the superintendent concluded that the school board had no legal duty to report the loss to the authorities. It seemed that the overriding concern was with the embarrassment and the damage to the school district's reputation that could have resulted from the disclosure.

In 2004, the Nassau County District Attorney learned of the embezzlement and opened an investigation, supplemented with an investigation by the New York State Controller. When the superintendent learned of these investigations, he convinced the school district's outside accountant to change data in the district's computer system and then provide false documents to the investigators.

Three years often the school board's decision not to report the embezzlement, the administrator, the superintendent, and the accountant have pled guilty to various crimes, and other district employees have been implicated in a widespread larceny and cover-up that has exceeded $11 million. The board's decision not to disclose the loss in 2002 has also compromised the district's ability to collect from its insurance companies; several insurers have denied coverage for the loss because they were not promptly notified of the loss. Meanwhile, a new school board has sued the former board members as well as the district's former attorneys and auditors. [See "Failure to File Timely Insurance Claim May Cost Plundered School System Millions, by alison Cowan, New York Times, December 5, 2005].

Ironically, late notification also caused the denial of claims under the directors and officers liability insurance coverage for the former board members being sued by their successors. Forced to spend thousands of dollars for their own legal defense, the former board members have stated that they are being unfairly punished for having relied on the professionals who advised them not to report the embezzlement in the first place. Additionally, when the district had to renew its liability insurance program, the submitted applications were silent about the embezzlement, and this opened the district to policy rescission based upon misrepresentation [New York Insurance Law Section 3105 and Process Plants Corp. v. Beneficial National Life Insurance Co., 385 N.Y.S.2d 308 (1st Dept. 1976), affd, N.Y.S.2d 1007 (1977)]. Rescission is an insurer's remedy for policyholder misrepresentation in the application for insurance, and, upon return of premium, acts to void the policy and relieve the insurer of all obligations under the policy. Simply stated, if a court orders rescission, it is as if the policy never existed.

Some view late claim reporting as merely a "technical" or "nonmaterial" breach of the timely notice provision in the insurance contract. Others see it as a potential form of collusion with fraud perpetrators, and recognize the insurer's need at an early time to investigate, set reserves, and control the defense. Either way, the ability of insurers to deny coverage because of untimely notice can be a catastrophe for the insured.

New York Law of Claim Notification

An essential condition precedent to coverage under a professional liability policy is strict adherence to the notification provisions. …

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