Against a backdrop of increasing client account fraud, we consider the Commercial Court’s recent judgment on the meaning of “condoning” in the context of the fraud and dishonesty exclusion in a Solicitors’ Professional Indemnity Insurance policy. The decision also looked at issues of aggregation and sham partnership but these are not the focus of this article.
The Insured (a company and a solicitors practice), Jirehouse (consisting of Jirehouse Partners LLP and two related legal practices, Jirehouse and Jirehouse Trustees Ltd) had two members/directors at the relevant time, Mr Prentice and Mr Jones. Mr Jones is currently serving a 12 year prison sentence for two multi-million pound thefts from the claimant, who, at the time, was a client in 2018. The claimant sued Jirehouse and obtained judgment. As Jirehouse was insolvent, the claimant looked to Jirehouse’s insurers to satisfy the judgments.
Mr Prentice had not been involved with the two frauds. Jirehouse’s insurers believed, however, that he had condoned the frauds, and declined cover on that basis.
Insurers provided primary layer insurance to Jirehouse. The cover contained a Minimum Terms compliant exclusion clause in respect of fraud and dishonesty which read:
The insurer shall have no liability for: …
2.8 FRAUD OR DISHONESTY
Any claims directly or indirectly out of or in any way involving dishonest or fraudulent acts, errors or omissions committed or condoned by the insured, provided that:
a) the policy shall nonetheless cover the civil liability of any innocent insured; and
b) no dishonest or fraudulent act, error or omission shall be imputed to a body corporate unless it was committed or condoned by, in the case of a company, all directors of the company or in the case of a Limited Liability Partnership, all members of that Limited Liability Partnership."
Insurers argued that Mr Prentice had condoned the fraudulent acts of Mr Jones. Insurers’ position was that the wording of the exclusion clause did not contain anything to suggest that it is only if a person knows of a particular fraudulent act that he is taken to have condoned it. They said that it was enough to know and condone a pattern of dishonest behaviour, of which the fraudulent act forms part - Mr Prentice had been aware of Mr Jones’ behaviour but had turned a blind eye to it.
The court’s considerations
It was accepted that the word “condone” should be given its ordinary meaning. Mr Justice Knowles said that he considered:
In this case however, he said that what was more important was to consider what is required to be condoned, to come within the exclusion, and this would require close attention to the facts.
The Court carefully considered various facts including Mr Prentice’s actions around the time of the fraud in the context of Jirehouse’s finances. There were complex links between Mr Jones, Jirehouse and other entities, all of which were corporate vehicles used for commerce or finance, and had involved the improper use of client monies. Mr Prentice had been a director of one of these related entities at one point in time but denied that he had any real knowledge of what these vehicles were doing and their involvement, if any, with client monies.
The Court also considered the fact that numerous reports had been made to the SRA by former employees of Jirehouse, in the years leading up to the frauds, but gave significant weight to the fact that the SRA’s subsequent investigations concluded that there were no concerns.
The Court held that while Mr Prentice did know about the cashflow difficulties, this did not necessarily indicate that Mr Jones was misappropriating funds or acting fraudulently, particularly when faced with reassurances from Mr Jones. Mr Prentice gave evidence that “matters” had been “resolved” in the past, which insurers say indicated that Mr Prentice knew Mr Jones was misusing client monies, but on past evidence, he expected Mr Jones to find a way out. Insurers contended that Mr Prentice had turned a blind eye as to exactly what that way out was.
It was accepted that Mr Prentice did not specifically approve the dishonest acts in question. However, insurers believed that he condoned Mr Jones’ actions because:
- He knew of Jirehouse’s financial problems and hence the temptation or need for Mr Jones to help himself to client funds.
- Mr Prentice told a number of lies in an attempt to cover up this awareness.
- Those lies went to the heart of what he knew and chose to turn a blind eye to (in line with “blind eye knowledge” in the case of Group Seven v Nasir ).
Mr Justice Knowles held that Mr Prentice:
- Lied in evidence in a deliberate attempt to downplay his involvement.
- Did know that there were material financial problems with the Jirehouse entities at times over his long involvement with them, but he did not know of the severity of the difficulties when he became a partner and had he done so, he would have refused the role.
- Did not have sufficient awareness such that he appreciated or should have appreciated that the financial problems were such that Mr Jones might steal client funds.
- Did not make enquiries and follow up when financial issues came to light because he lacked the necessary sense of professional responsibility, and an appreciation of the importance of the regulatory requirements of his profession.
He added that it was legitimate for insurers to consider the 10 year course of dealings but in that context, the exonerating SRA investigations were an important factor.
In conclusion, the Court held that Mr Prentice’s standards fell well below those required in his profession, but these episodes were not such as to justify a conclusion that he in any way appreciated that Mr Jones was engaging in the fraudulent misappropriation of client funds. Mr Prentice did not condone this, “either generally or specifically”. Insurers could not therefore rely on the exclusion to avoid cover.
The decision provides important guidance on the meaning of “condone” in the context of the dishonesty clause in the Minimum Terms. On the face of it, the judgment prevents insurers from successfully arguing that a non-fraudulent partner condoned the fraudulent act of another unless there is clear evidence of actual knowledge of the fraudulent transaction itself, and sheer recklessness will not be sufficient, even when there is a longstanding history of financial irregularity.