Opinion ID: 765488
Heading Depth: 2
Heading Rank: 2

Heading: Adverse Interest Exception

Text: 50 The Trustee also invokes the adverse interest exception to general agency principles to justify why the debtor corporation should not be barred from enforcing the terms of the LEU policies despite Felzenberg's misrepresentations. The general rule is that a representation made by an authorized agent of the principal is binding upon the principal. Carlson v. Hannah, 78 A.2d 83, 88 (N.J. 1951); Tannenbaum & Milask, Inc. v. Mazzola, 706 A.2d 780, 783 (N.J. Super. Ct. App. Div. 1998); see also 7 Couch on Insurance § 100:9 (Lee R. Russ et al. eds., 3d ed. 1995-96)(explicating the same general rule in the insurance context). There is an exception to this rule when the agent is acting completely adversely to the interests of the principal. National Union Fire Ins. Co. v. Bonnanzio (In re Bonnanzio), 91 F.3d 296, 303 (2d Cir. 1996); see also Restatement (Second) of Agency § 282 (1958). 51 The New Jersey Supreme Court has yet to ascertain the operation and scope of the adverse interest doctrine, but we think it is clear that under New Jersey law, principles of agency operate to hold PEC responsible for the consequences of Felzenberg's misrepresentations. A corporation, possessing an identity only in a legal sense, necessarily speaks through its agents. In an action for contract rescission, an agent's misrepresentations bind the principal if the agent was authorized to represent the principal in obtaining the contract. Equitable Life Assurance Soc'y v. New Horizons, Inc., 146 A.2d 466, 470 (N.J. 1958); see also Parker Precision Prods. Co. v. Metropolitan Life Ins. Co., 407 F.2d 1070, 1073 (3d Cir. 1969)(applying New Jersey law to find the corporate principal responsible for the material misrepresentations of the corporation's president on an application for life insurance). 52 In Equitable Life the general manager of Linden Tool made misrepresentations as to his medical condition on an application for life insurance his employer wanted to take out on him as an essential employee. 146 A.2d at 467-68. The New Jersey Supreme Court held that Linden Tool was responsible for the misrepresentations because the general manager was acting as an agent on behalf of the corporate principal in procuring the policy. Id. at 470. Crucially, in so holding, the Court did not impute the agent's knowledge of his health status to the principal. In fact, the Court explained that the principal's ignorance of the misrepresentations was irrelevant, because [i]nnocent material 3 misrepresentations will, in equity, support rescission of an insurance contract. Id. 53 Thus, the Trustee's argument that the district court improperly disregarded PEC's corporate form to impute Felzenberg's fraud to PEC, mischaracterizes the holding. The district court's conclusion that PEC is responsible for the misrepresentations of its agent did not require disregarding the corporate form. 4 The result does not turn on a determination that Felzenberg's fraud is PEC's fraud, or that Felzenberg's knowledge is PEC's knowledge. Rather PEC, as the corporate principal, is held responsible for the false statements made by an agent it authorized to conduct business on its behalf. This holding is entirely consistent with New Jersey law as explicated in Equitable Life. 54 The Trustee attempts to distinguish Equitable Life, arguing that the agent in that case was acting to benefit the corporation by procuring the life insurance policy, whereas Robert Felzenberg was acting adversely to PEC's interests and in his own behalf. Given the holding in Equitable Life, the Trustee must necessarily be arguing that even material misrepresentations will not serve to rescind an insurance policy when the Insured's agent was acting adversely to the interests of the Insured. Arguably, Felzenberg was acting on behalf of PEC in procuring the LEU policies, not adversely to it. See Gordon v. Continental Cas. Co., 181 A. 574, 576 (Pa. 1935)(imputing to the corporation the failure of its officer to disclose his defalcations on a fidelity bond application because the officer was not acting adversely to the corporation in procuring the bond); see generally In re Maxwell Newspapers, Inc., 151 B.R. 63, 69 (Bankr. S.D.N.Y. 1993)(holding under New York law that the adverse interest exception is not applicable when an agent acts for both himself and his principal, even where the agent's interests are primarily inimical to those of the principal); Restatement (Second) of Agency § 282 cmt. c (1958)([t]he mere fact that the agent's primary interests are not coincident with those of the principal does not prevent the latter from being affected by the knowledge of the agent if the agent is acting for the principal's interests). However, we need not decide this question because there is a more fundamental flaw in the Trustee's attempt to invoke the adverse interest doctrine. 55 A principal may not disavow an act of an agent while simultaneously taking advantage of the benefits of the fraudulently procured bargain. See Restatement (Second) of Agency § 282 cmt. h (1958)(a principal may not disclaim knowledge of the agent's fraud and yet attempt to retain a benefit obtained by the fraud; this is a restitution principle preventing the unjust enrichment of the principal). In other words, the adverse interest exception acts as a shield for a principal, so that the adverse acts of its agent cannot be imputed to the principal to hold it liable for the misdeeds of the agent. A principal may not use the doctrine as a sword to force a third party defrauded by its agent to abide by the terms of the agreement. Cf. Munroe v. Harriman, 85 F.2d 493, 495 (2d Cir. 1936)(when a principal chooses to disclaim the act of an agent as unauthorized it may not seek to retain the benefit gained from the act; a principal who retains a benefit fraudulently obtained bears the burden of the agent's knowledge); Restatement (Second) of Agency § 282 cmt. l (1958)(where a party transfers property to another party due to the fraud of the second party's agent, the first party is entitled to recission). 56 It is not possible, as the Trustee's argument suggests, to excise the fraudulent statement from the transaction and retain the benefit of the remainder. Indeed, in the present case, a representative of LEU testified that the company would never have issued the policies had it known of the defalcations of the Felzenbergs and other PEC employees. There would thus have been no contract absent the false answer to Question 36. Although such an all-or-nothing rule may seem unfair to an innocent principal, it would be even less fair to enforce an agreement against an innocent third-party that it would never have entered but for the misrepresentations made by the other party's agent. 57 Some courts have permitted an Insured to assert the adverse interest exception to recover under an insurance policy obtained by a defalcating employee on the Insured's behalf, holding that the agent's knowledge of his misdeeds could not be imputed to the Insured. See, e.g., Puget Sound Nat'l Bank v. St. Paul Fire & Marine Ins. Co., 645 P.2d 1122, 1126-28 (Wash. Ct. App. 1982). However, these cases do not explain why the restitution principle of unjust enrichment does not act as a bar to recovery. New Jersey's courts have not addressed this question; however, our approach is consistent with the rationale given for the holding in Equitable Life. There, the New Jersey Supreme Court acknowledged that both the Insurer and the Insured were innocent parties, but found that they were not in the same position vis-a-vis the Insured's agent. As between the innocent Insured and the innocent Insurer, the former should shoulder the burden created by any falsehoods made by the agent which it chose to represent it in the transaction. Equitable Life, supra, at 469 (an insurance contract is one of the utmost good faith, with the Insurer relying on the truthfulness of the Insured's statements). 58 In contrast, the position argued by the Trustee would cause the Insurer to bear the risk that a corporation's agent will lie on a policy application to hide his own defalcations. The case cited by the Trustee to support this contention is inapposite to the present circumstances. In Phoenix Sav. & Loan, Inc. v. Aetna Cas. & Sur. Co., 427 F.2d 862, 870-71 (4th Cir. 1970), the Court did find that Aetna had implicitly recognized the unreasonableness of expecting a wrongdoer to be completely candid when applying for fidelity insurance on behalf of his employer. However, in that case, unlike here, the insurance policy itself included a clause stating that concealment by the signer of the application was not imputable to the Insured. Id. The Trustee fails to explain why in the absence of such a clause, the risk should be placed on the Insurer, rather than the Insured which chose the agent to represent it in the transaction. 59 Nor do we find persuasive the Trustee's alternative argument that even if a corporate principal may not use the adverse interest exception to benefit from a contract fraudulently obtained by the corporation's agent, the corporation's creditors may. The Trustee contends that in this case the debtor corporation will not benefit from any monies recovered under the insurance policies. Instead, any funds paid out by the Insurer will go only to PEC's creditors, many of whom as customers of PEC were loss payees under the LEU policies. Despite the general rule that a Trustee is subject to the same defenses in a legal action as the debtor would be, Bank of Marin v. England, 385 U.S. 99, 101 (1966), at least one court 5 has held that a Trustee may invoke the adverse interest exception to enforce an insurance policy for employee theft, as the debtor corporation's creditors will receive the benefit, not the corporation itself. See Shields v. National Union Fire Ins. Co. (In re Lloyd Securities, Inc.), Proceeding No. 90-0985S, 1992 WL 236162, at -12 (Bankr. E.D. Pa. Sept. 17, 1992). 60 However sound this result may be for a court applying Pennsylvania law, the Trustee cannot obtain it from a court implementing the law of New Jersey. Under New Jersey law, if the Insured cannot recover under an insurance policy, the Insured's creditors cannot recover. Liberty Mut. Fire Ins. v. Kahlaid, Inc., 489 A.2d 1231, 1232 (N.J. Super. Ct. App. Div. 1985)(secured creditor had no right as a mere loss payee to recover under a casualty policy under which the Insured could not recover because it breached a policy provision). It thus follows from our holding that PEC could not recover under the LEU policies, that PEC's creditors could not recover either. 6 61 Because we agree with the district court's alternate holding that the LEU policies were void ab initio due to Robert Felzenberg's materially false answer to Question 36, we need not reach the Trustee's argument that the district court erred in holding that Felzenberg's misrepresentation as to Question 10 was material as a matter of law. We have considered all of the other arguments advanced by the Trustee on appeal and find them to be without merit.