Chapter 16, G. Dishonesty Exclusion

• Jurisdiction: United States

G. Dishonesty Exclusion

Many D&O policies contain an exclusion that states that the insurer will not be liable for the payment of losses in connection with the dishonest or fraudulent conduct of the insured. The burden of proving the applicability of an exclusion is on the insurer.⁴¹¹ The following is an example of an exclusion that may be found in a D&O policy for a publicly held company:

The Insurer shall not be liable to make any payment for Loss in connection with a Claim made against an Insured:

(a) arising out of, based upon or attributable to the gaining in fact of any profit or advantage to which an Insured was not legally entitled;
(b) arising out of, based upon or attributable to: (1) profits in fact made from the purchase or sale by an Insured of securities of the Company within the meaning of §16(b) of the Securities Exchange Act of 1934 and amendments thereto or similar provisions of any state statutory law; or (2) payments to an Insured of any remuneration without the previous approval of the stockholders of the Company, which payment without such previous approval shall be held to have been illegal;

(c) arising out of, based upon or attributable to the committing in fact of any criminal or deliberate fraudulent act;

The Wrongful Act of a Director or Officer shall not be imputed to any other Director or Officer for the purpose of determining the applicability of the foregoing exclusions 4(a) through 4(c).

This exclusion includes any profit or advantage to which the director or officer was not entitled, violation of the Securities Exchange Act of 1934, and payments made without the approval of the stockholders, as well as criminal or fraudulent acts.

Many policies also include in this exclusion any "dishonest" acts on the part of the insured. One court has held that when an officer acts deliberately, knowing the impression being conveyed to be false in material respects, and intends for individuals to rely upon the misrepresentation, it will constitute a dishonest act sufficient to preclude coverage pursuant to the dishonesty exclusion.⁴¹²

While a policy may provide for the exclusion of coverage for a loss arising out of a fraudulent act, the policy itself may not actually define fraud. If the policy does not define the term "fraud," the rules of construction require giving the term its plain and ordinary meaning.⁴¹³ Black's Law Dictionary defines fraud as:

[A]n intentional perversion of truth for the purpose of inducing another in...