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The Limited Protection
for Personal
Assets Provided by Liability Insurance Policies
General Partnership Rules Which
Limit Coverage
As previously established, non-corporate forms
of business organization leave sole proprietors and partners vulnerable
to personal liability to a much higher degree than owners of corporations.
Some may believe that protection of personal assets can be accomplished
through the use of a general liability insurance policy. Such
a belief is entirely misplaced.
Whether one is involved in a joint venture or
a partnership, the acts of one party to the joint venture, or
of one partner, can cause pecuniary difficulty for others involved
in the business. The general rule for non-
corporate forms of business is that the torts
of one, intentional or not, are attributable to at others involved
in the business, if the tort arises out of the ordinary scope
of the business. See, e.g., Affiliated FM Ins. Co,v.
Kushner Cos., 265 N.J. Super. 454, 627 A.2d
710 (1993); Duncan v. Henington, 114 N.M. 100, 835 P.2d
816 (1992); Gatlin v. Bray, 81 N.C. App 639, 344 S.E.2d
814 ( 1986); Black v. Sullivan, 48 Cal. App.3d 557, 122
Cal. Rptr. 119 (1975); Haertel v. The Sonshine Carpet Co.,
102 Nev. 614, 730 P.2d 428 (1986); Blue v.Rose, 786 F.2d
349 (8th Cir. 1986).
Under standard language found in all general liability
insurance policies, intentional acts which produce injury are
not covered by the policy. See 7A Appleman, Insurance Law
and Practice (Berdal ed.), § 4501.09 at 267 (West Publishing Co
1979). Thus, if one partner commits an intentional tort, not only
is the tort attributable to all of the partners, but the partnership's
general liability policy will not cover the damages caused. In
such a situation, each of the partners will be jointly and severally
personally liable for the damages. (As previously established,
partners have personal liability for all partnership debts.)
A related danger to the situation discussed above
is the danger of punitive damages being awarded to a plaintiff
who sues a joint venturer or a partner. In Blue v. Rose,
supra, Don Rose and his sons Phillip and Mike ran a dairy
farm as a partnership. On occasion, the wives of the three men
performed services for the partnership. The Roses held an auction
wherein the plaintiffs purchased 34 head of cattle. At the auction,
the cattle were represented to be of a certain high-grade lineage.
As it turned out, only 1 of the cows was of the represented lineage.
The plaintiffs sold the cows then sued the Roses for fraud. The
jury awarded the plaintiffs $18,000 in actual damages and $150,000
in punitives. The punitive damages were assessed against the Roses
and their wives as a single sum. The Eighth U.S. Circuit Court
of Appeals affirmed. Since the evidence indicated that all 6 Roses
helped out on the farm, all were deemed partners. Further, since
the fraud occurred within the scope of the firm business, all
the partners were jointly liable for the award of punitive damages,
regardless of whether they participated in, or had knowledge of,
the fraud.
This is not an isolated case. Other courts have
reached a similar conclusion. See, e.g., Duggins
v. Guardianship of Washington, 632 So. 2d 420 (Miss. 1993);
Cook v. Brundidge, Fountain, Elliot & Churchill, 533
S.W.2d 751 (Tex. 1976); Smyrna Devels., Inc. v. Bornstein,
177 So. 2d 16 (Fla. App. 1965).
The issue of punitive damages as they relate to
insurance policies was stated by the Wisconsin Supreme Court:
The . . . issue is whether public policy precludes
insurance coverage for punitive damages. The courts throughout
this country are sharply divided on this issue.
Brown v. Maxey, 124
Wis. 2d 426, 369 N.W.2d 677, 686-87 (1985). While some courts
allow such coverage, a majority, including those of California
and Nevada, do not. See, e.g., Certain Underwriters at Lloyd's
of London v. Pacific Southwest Airlines, 786 F. Supp.
867 (C.D. Cal. 1992) (citing U.S. Fidelity & Guaranty v.
American Employers’ Ins. Co., 159 Cal. App.3d 277, 205
Cal. Rptr. 460 (1984) and City Products Corp. v. Globe Indemnity
Co., 88 Cal. App.3d 31, 151 Cal. Rptr. 494 (1979); Lombardi
v. Maryland Casualty Co., 894 F. Supp. 369 (D. Nev. 1995);
Padavan v. Clemente, 43 A.D.2d 729, 350 N.Y.S.2d 694 (1973);
Cavin's Inc. v. Atlantic Mutual Ins. Co., 27 N.C. App.
698, 220 S.E.2d 403 (1975); Caspersen v. Webber, 298 Minn.
93, 213 N.W.2d 327 (1973).
Thus, an innocent partner can be held liable for
punitive damages based upon another's conduct, and then find that
their general liability insurance policy does not provide coverage.
In such a situation, the partner's personal assets are vulnerable.
Another problem with non-corporate forms of business
is the general rule that notice to a partner or a joint venturer
is deemed to be notice to all involved in the business. See,
e.g., Thomas v. N.A. Chase Manhatten Bank, 1 F.3d 320 (5th
Cir. 1993); Prisco v. Westgate Enter., Inc., 799 F. Supp.
266 (D. Conn. 1992); In re Heather Cos., 36 B.R. 863 (D.
Ill. 1984); Great Western Trading Co. v. Mercantile Trust Co.
Nat. Ass'n, 661 S.W.2d 40 (Mo. App. 1983); Mid-City Materials,
Inc. v. Heater Beaters Custom Fireplaces, 36 Wash. App. 480,
674 P.2d 1271 (1984).
This rule proved painful in an insurance context
in Affiliated FM Ins. Co. v. Kushner Cos., 265 N.J. Super.
454, 627 A.2d 710 (1993). Here, a partnership owned a shopping
center in New York. It reached an agreement in principal to obtain
liability insurance on the property in May 1988. One partner was
responsible for negotiating with the insurance company. On June
21, 1988 a fire damaged the shopping center, a fact known neither
by the negotiating partner nor the insurance company. However,
two other partners had knowledge of the fire.
On June 27, 1988 the negotiating partner and the
insurance company reached a final agreement on the policy for
the shopping center. The effective date of the policy was stated
as June 17, 1988 (a date four days prior to the fire). The chosen
date was not out of the ordinary, since the parties had reached
a preliminary agreement a month earlier. After the fire, the partnership
attempted to collect on the policy but the insurer refused payment,
having learned in the interim that two partners had known of the
fire prior to the date of the final agreement. The court agreed
with the insurance company.
Applying the rule of imputed knowledge, the court
found that the negotiating partner "knew" of the fire
of June 21, 1988 when the final agreement was reached on June
27, 1988. Thus, under the "changed circumstances" rule,
the partnership was deemed to have misrepresented the status of
the property it was attempting to insure. Because of this, the
policy was of no effect (despite the good faith effort of the
negotiating partner) and the partners were forced to personally
absorb the loss to their property. Specific Insurance Contract Limitations
Other cases also reveal the potential downside
of relying on insurance policies to protect personal assets. In
different contexts, the slightest deviation from the terms of
an insurance contract can leave partners or joint venturers with
no coverage.
For example, in Shea v. State Farm Fire & Casualty Co., 198 Ga. App. 403 S.E.2d 81 (1991), a partnership
obtained workers' compensation insurance coverage. Soon after,
the partnership converted to a corporation. However, the partners
neglected to inform the insurance company of the change in status.
The insurer sued to collect past due earned premiums on the policy
from the partners themselves. The partners argued that their incorporation
absolved them from personal liability. Both the trial and appellate
courts sided with the insurance company. Because of the failure
of notification, the debt remained one of the partnership, not
the corporation, and the partners remained personally liable.
In In re San Juan Dupont Plaza Hotel Fire Litigation,
45 F.3d 569 (lst Cir. 1995) (applying California law), the
insured party had coverage through two excess liability policies.
One policy contained a sole proprietor endorsement and the other
a joint venture endorsement The insured was the principal investor
in a holding company which invested in a hotel as well as a holding
company corporation. Following a fire at the hotel which caused
numerous fatalities, the insured looked to his two policies to
cover his legal obligations. The court held that no coverage was
available.
The court found that the sole proprietor endorsement
only covered those who operated their business as a sole proprietorship.
Since the insured claimed coverage through his holding company,
there was no coverage. As to the joint venture endorsement, the
court held that this did not extend protection to just any partnership
in which the named insured held an interest. Rather, to obtain
coverage, each joint venture the named insured
was involved in had to itself be a "named
insured." Since this had not been done, there was no coverage.
In Fireman's Fund Ins. Co. v. E.W. Burman,
Inc., 120 R.I. 841, 391 A.2d 99 (1978), Burman, a construction
company, had a $250,000 general liability insurance policy. The
policy had a standard clause found in all general liability policies:
This insurance does not apply to bodily injury
or property damage arising out of the conduct of any partnership
or joint venture of which the insured is a partner or member
and which is not designated in this policy as a named insured.
Burman entered into a joint venture with Abby
Construction on a building project. During construction, an employee
was injured and later brought suit. Although Burman was the named
insured in the policy, the court found that there was no coverage,
since the joint venture with Abby was not made a named
insured. This oversight by one party to a joint venture abrogated
the insurance policy.
This is not a unique result. The exact same thing
occurred in Austin P. Keller Constr. Co. v. Commercial Union
Ins. Co., 379 N.W.2d 533 (Minn 1986). As these cases reveal,
insurance coverage can prove illusory for partners or joint venturers
if any deviation from the policy takes place. Conclusion
In the context of a partnership or a joint venture,
reliance on an insurance policy for the protection of personal
assets is quite dangerous. The general rules applicable to partnerships
and joint ventures often leave owners of such businesses personally
liable for losses, despite the presence of an insurance policy.
Furthermore, the slightest deviation from an insurance contract
can cause a rude shock to the insured party. The best way to protect
personal assets is to incorporate, thus protecting personal assets
from the outset.
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