Chapter 12 CONSTRUCTIVE FRAUD

• Jurisdiction: North Carolina

12 CONSTRUCTIVE FRAUD¹

A. Definition

Fraud can be broken down into two categories: actual and constructive.²

In an early case, the North Carolina Supreme Court said that "f]raud, actual and constructive, is so multiform as to admit no rules or definitions," and added that equity will not permit "'annihilation by definition,' but it leaves the way open to punish frauds and to redress wrongs perpetrated by means of them in whatever form they may appear."³

More recently, the court observed that constructive fraud is less common than actual fraud and arises where a confidential relationship exists.⁴ A constructive fraud claim is based on a confidential — or fiduciary — relationship rather than a specific misrepresentation, which distinguishes it from actual fraud.⁵ Thus, while the North Carolina Rules of Civil Procedure require that circumstances constituting fraud or mistake be "stated with particularity,"⁶ a constructive fraud claim requires less particularity than one for actual fraud because it is based on a confidential relationship rather than any specific misrepresentation.⁷ Some courts have said there is fraud "as a matter of law" when a breach of a fiduciary duty occurs.⁸

One area of potential confusion is the relationship between an action for breach of fiduciary duty and constructive fraud. Plaintiffs sometimes make claims for both.⁹ Some decisions seem to suggest the actions are merged, redundant or synonymous.¹⁰ However, in White v. Consolidated Planning, Inc.,¹¹ the court, while acknowledging that the causes of action "overlap," asserted that each is a separate claim under North Carolina law and that the difference is that wrongful benefit is an element of constructive fraud, but not of breach of fiduciary duty.¹²

B. Elements

"A claim of constructive fraud does not require the same rigorous adherence to elements as actual fraud."¹³ For example, with constructive fraud, there is no requirement for allegations of dishonesty or intent to deceive,¹⁴ since constructive fraud is presumed from the nature of the relationship.¹⁵ The usually listed elements of an action for constructive fraud are:

(1) A relationship of trust and confidence, and
(2) Use of the relationship to the detriment of the plaintiff and the benefit of the defendant.¹⁶

In other words, a plaintiff has to show the existence of a fiduciary duty and its breach.¹⁷ Some recent decisions break the second element into two, emphasizing the pursuit of a "wrongful benefit" by the defendant.¹⁸ As noted above, wrongful benefit distinguishes breach of fiduciary duty from constructive fraud, taking the latter beyond mere duty and breach. The potential "third element" is discussed below as part of the second, since that is how the Pattern Jury Instructions continue to define the elements. As one court has noted, although the stated elements have varied in opinions, each "requires that the defendant exploits or seeks to exploit the relationship to his or her advantage."¹⁹

C. Elements Defined

1. Relationship of Trust and Confidence

The plaintiff must show there was a fiduciary relationship or one of trust and confidence between the parties.²⁰ The plaintiff does not need to show wrongfully acquired influence or control; an "honestly and properly" acquired relationship may be the basis of an action for constructive fraud.²¹

There are relationships that are presumptively fiduciary or confidential: attorney and client,²² trustee and beneficiary,²³ guardian and ward, agent and principle,²⁴ business partners,²⁵ corporate officers/directors and the corporation or shareholders,²⁶husband and wife,²⁷ and apparently doctor and patient²⁸ or mortgagee and mortgagor.²⁹ Other relationships do not necessarily create a fiduciary duty.³⁰ However, a fiduciary duty "exists in all cases where there has been a special confidence reposed in one who in equity and good conscience is bound to act in good faith and with due regard to the interests of the one reposing confidence."³¹ While no strict definition of fiduciary relation exists,³² the North Carolina Supreme Court, in an early case, quoted a treatise on equity favorably for the proposition that a fiduciary duty:

[E]xtends to every possible case in which a fiduciary relation exists as a fact, in which there is confidence reposed on one side, and the resulting superiority and influence on the other. The relation and the duties involved in it need not be legal; it may be moral, social, domestic or merely personal.³³

Thus, unless a fiduciary duty is presumed, the plaintiff must show confidence reposed,³⁴ as well as the resulting superiority and influence.³⁵ North Carolina law does not, however, impose a requirement that the confidence reposed actually be accepted.³⁶ Whether there is a fiduciary relationship is ascertained by the specific facts and circumstances of each case.³⁷ The question of whether a fiduciary relationship exists is generally one of fact,³⁸ although it may be decided by the court as a matter of law.³⁹ Conclusory allegations of a fiduciary relationship are insufficient.⁴⁰ A plaintiff may not, therefore, merely allege that the defendant won his or her trust and confidence and occupied a position of dominant influence.⁴¹

The youth,⁴² health⁴³ or inexperience⁴⁴ of the party reposing confidence may be a factor in deciding whether a fiduciary or confidential relationship exists. For example, in Stilwell v. Walden,⁴⁵ where the court said a clearer example of a confidential relationship would be hard to find, the evidence showed that the plaintiff's decedent, because of his health, was unable to care for himself and needed help from others. He relied on the defendant to handle his funds. The defendant made purchases for the decedent, paid his bills, managed his investments, and made sure his household was properly operated and his needs were supplied. That evidence, concluded the court, bespoke dependence and confidence on the one hand and influence on the other.

The determination of whether a fiduciary or confidential relationship exists is especially fact-driven.⁴⁶ Since the first element is about relationship, one fact of which the courts seem to take particular note is the status of the parties. Pastors, for example, have been found to have a fiduciary duty.⁴⁷ That a lawyer had represented the plaintiffs as their attorney in previous transactions was evidence of a position of trust between the parties.⁴⁸

Even where a fiduciary relationship is shown, the presumption of fraud that arises when the superior party obtains a possible benefit, disappears if the plaintiff acted on independent advice.⁴⁹ Similarly, when a husband and wife separate⁵⁰ and the relationship becomes adversarial, the confidential relationship is generally at an end.⁵¹ The plaintiff must then prove actual fraud to prevail.⁵²

2. Defendant Took Advantage of Position of Trust to Hurt of Plaintiff

To meet the second element, the plaintiff must allege facts and circumstances that led up to and surrounded the consummation of a transaction⁵³ in which the defendant allegedly took advantage of his or her position of trust⁵⁴ to the hurt of plaintiff.⁵⁵ A relationship of trust and confidence produces a duty to act in good faith and with due regard to the interests of the trusting party and to disclose all material facts; failure to do so constitutes fraud.⁵⁶ While intent to deceive is not an element of constructive fraud, in order for the defendant to take advantage of the plaintiff, the plaintiff must have been deceived.⁵⁷ Courts have referred to deception as an "essential element" of the action and found that, where the plaintiff was not deceived by the defendant, his or her claim had to be dismissed.⁵⁸

In Barger v. McCoy Hillard & Parks,⁵⁹ the North Carolina Supreme Court said that implicit in the requirement that the plaintiff show the defendant took advantage of his or her position of trust is "the notion that the defendant must seek his own advantage in the transaction; that is, the defendant must seek to benefit himself."⁶⁰ On the other hand, in Hutchins v. Dowell,⁶¹ the Court of Appeals, in a decision after Barger, said that in an agency relationship — at least where the agent has a power to manage all the principal's property — when the principal transfers property to the agent, it is sufficient to raise a presumption of fraud.⁶² However, following Barger, a number of courts have held that there must be an allegation that the defendant sought to benefit him or herself,⁶³ and describe it as an "essential element.⁶⁴ Indeed, some recent opinions have identified it as a third element.⁶⁵ A footnote to the Pattern Jury Instruction on constructive fraud contends Bargefs influence "appears to have reshaped prior law on the presumption of fraud that normally follows from proof of the existence of a fiduciary relationship."⁶⁶

Neither a continuing relationship with the plaintiff or others,⁶⁷ nor the earning of a fee, meets the requirement of having sought self-benefit.⁶⁸ The benefit must be related to the breach.⁶⁹ Where a claim for constructive fraud lacks any allegation that the defendant sought to gain a benefit through his or her actions, it is properly dismissed.⁷⁰ Thus, harm to the plaintiff is a necessary,⁷¹ but not sufficient, allegation to support the action.⁷² With respect to the harm caused to the plaintiff, courts have said that constructive fraud is among the torts that require, as "an essential element," that the plaintiff incur actual damage,⁷³ and that proof of an injury proximately caused by a breach of duty is required.⁷⁴

After a plaintiff establishes a prima facie case of the existence of a fiduciary duty and its breach, the burden shifts to the defendant to prove he or she acted in an "open, fair and honest" manner, so that no breach of fiduciary duty occurred.⁷⁵ This "open, fair and honest" defense is not an affirmative defense to constructive fraud, but a rebuttal defense to the presumption of fraud.

D. Defenses

While some courts...