Fraudulent Concealment and the Failure to Allege a Duty to DisclosePrint Article
- Posted on: Jul 25 2019
On July 18, 2019, Justice Joel M. Cohen of the Supreme Court, New York County, Commercial Division, decided Shyer v. Shyer, 2019 N.Y. Slip Op. 32138(U) (Sup. Ct., N.Y. County July 18, 2019) (here), a third-party action involving allegations of fraudulent concealment relating to the failure to disclose material information about the deteriorating health of a company executive for the purpose of securing about $150,000 in annual benefits.
The company, Zyloware Corp. (“Zyloware”), sued Catherine Shyer (“Catherine”), the wife of Robert Shyer (“Robert”), a company executive and director, for fraudulently inducing Zyloware to continue employing Robert when his claim for long term disability raised questions about his employability. Under an agreement with the company, Robert was to receive a lifetime salary and premium health benefits even if he was no longer employed by the company; however, if Robert were to cease his employment, Catherine would lose some or most of the benefits that she would receive – approximately $150,000 annually. This fact, claimed Zyloware, caused Catherine to conceal Robert’s dementia diagnosis so that he would continue his employment with the company.
Catherine moved to dismiss the complaint, claiming, inter alia, that she had no duty to disclose Robert’s health condition to the company. As discussed below, the Court agreed with Catherine and dismissed the complaint.
Shyer v. Shyer
Zyloware is a family-owned and operated optical frame supplier. It was founded by Joseph Shyer (“Joseph”). For several decades, it was run by Joseph’s sons, Robert and Henry Shyer (“Henry”). Eventually, Robert and Henry’s sons, Christopher Shyer (“Christopher”) and James Shyer (“James”), respectively, joined Zyloware and assumed significant executive responsibilities within the company.
In March 2010, Robert, Henry, Christopher, and James entered into a Shareholders Agreement and a Master Executive Employment Agreement (the “Employment Agreement”) to formalize the succession of leadership in Zyloware.
The Shareholders Agreement outlined the rights, responsibilities, and ownership interests between and among the four Shyers. Under the agreement, each would hold a 25% interest in the company. Christopher and James were designated co-chief executive officers of Zyloware, while Robert and Henry remained employed as executives and directors. The Shareholders Agreement also set forth procedures for Zyloware to buy back Robert and Henry’s company stock upon their deaths.
The Employment Agreement included two features relevant to the action. First, the agreement provided that Robert (and Henry) “receive[d] substantial annual salaries/benefits for life,” but “would lose certain of these benefits if no longer employed.” These benefits included Zyloware’s group health insurance coverage, and perks, such as the use of a corporate credit card and vehicle. Second, the Employment Agreement allowed Zyloware to terminate Robert’s employment if he suffered a “disability” within the meaning of the agreement. A “Disability” was defined as the “inability of an Executive to perform his functions as a shareholder, officer and/or director of the Corporation … , or the duties that he is required to perform … because of a physical, mental or emotional condition which persists for an aggregate of 120 days (which need not be consecutive) during any period of 360 consecutive days, as determined by a medical doctor selected by the Board, to whom each Executive hereby consents to present himself promptly for examination upon the Board’s request.”
On July 9, 2014, Robert signed a New York Short Form Power-of-Attorney in which he gave Catherine powers over his affairs and which became effective upon Catherine’s acceptance. That same day, Robert executed a Last Will and Testament, which, among other things, named Catherine as sole executor of Robert’s estate. Catherine accepted the power-of-attorney several months later, on November 6, 2014.
Zyloware alleged that in 2015 Catherine persuaded Zyloware to continue employing Robert despite his declining health. At the time, Catherine had applied for a year’s worth of long-term disability for Robert. While Robert was assured a certain level of salary and benefits for life regardless of his employment status, his beneficiaries were not. If Robert were terminated under the disability provision of the Employment Agreement, Catherine and other beneficiaries would have lost the premium health benefits and would have lost other benefits, worth about $150,000 annually. Therefore, Zyloware alleged, “[t]o avoid losing her benefits, Catherine concealed from [Robert’s] own son and other Zyloware shareholders the fact that Robert, who was in obvious physical decline, had been diagnosed with dementia or symptoms consistent with dementia.”
Zyloware eventually retired Robert on November 30, 2017. Three weeks later, on December 19, 2017, Robert passed away. Thereafter, Catherine was named the preliminary executrix of his estate (the “Estate”).
In March 2018, Catherine, in her capacity as preliminary executrix of the Estate, sued Zyloware, Christopher, James, and Henry in part, because of the defendants’ purported violation of the Shareholders Agreement. In the complaint, Catherine alleged four causes of action: declaratory judgment, breach of contract, breach of fiduciary duty, and injunctive relief. The defendants moved to dismiss. In a Decision and Order dated July 19, 2018, the Court dismissed the breach of contract claim against the individual defendants, dismissed the injunctive relief claim against all defendants, and otherwise denied the motion.
On November 14, 2018, Zyloware filed a third-party complaint against Catherine, individually (rather than in her capacity as the preliminary executrix of the Estate), alleging two causes of action: (1) wrongful interference with contract, on the basis that Catherine induced the Estate to breach the Shareholders Agreement; and (2) fraud, based on Catherine’s alleged failure to disclose to Zyloware the truth about Robert’s illness.
Catherine moved to dismiss the third-party complaint under CPLR § 3211(a)(7) for failure to state a cause of action. The Court granted the motion.
The Court’s Decision
Zyloware alleged that Catherine defrauded it by concealing the truth about Robert’s health, i.e., by failing to inform Zyloware that Robert had been diagnosed with dementia in order to preserve Robert’s employment status and Catherine’s access to certain benefits. The Court held that the claim failed because “Zyloware [did] not allege facts establishing that Catherine had or breached a legal duty to disclose her husband’s medical information to the company.” Slip Op. at *15.
To plead fraud concealment, a plaintiff must allege that the defendant made a material misrepresentation of fact, that the misrepresentation was made intentionally in order to defraud or mislead the plaintiff, that the plaintiff reasonably relied on the misrepresentation, and that the plaintiff suffered damage as a result of its reliance on the defendant’s misrepresentation. Mandarin Trading Ltd. v. Wildenstein, 16 N.Y.3d 173, 178 (2011). In addition to the foregoing elements, a plaintiff must allege that the defendant had a duty to disclose material information and that it failed to do so. P. T. Bank Cent. Asia v. ABN AMRO Bank N.V., 301 A.D.2d 373, 376 (1st Dept. 2003); Mobil Oil Corp. v. Joshi, 202 A.D.2d 318 (1st Dept. 1994). And, with all complaints alleging fraud, the plaintiff must plead the claim with particularity. CPLR § 3016(b).
No Affirmative Misrepresentation
The Court found that Zyloware did not allege an affirmative misrepresentation. Slip Op. at *15 (“The closest Zyloware comes to alleging an affirmative misrepresentation is the allegation that, when Catherine learned that Henry had visited Robert in a rehabilitation facility and ‘observed that [Robert] was in the dementia unit, [she] told Henry that [Robert] had been placed in the wrong unit’”). The Court rejected Zyloware’s assertion that “Catherine’s statement was ‘yet another lie.’” Id. More details were needed, said the Court. Id.
The Court also noted that Zyloware failed to explain how this alleged misrepresentation could have “‘fraudulently induced Zyloware not to terminate [Robert]’s employment.’” Id. This was so given the fact that Zyloware had the right to order Robert to undergo a medical examination and to terminate Robert’s employment if the examination revealed that Robert was suffering a disability within the meaning of the Employment Agreement. “By the time Catherine made her alleged misstatement,” explained the Court, “Zyloware had already ‘sought to arrange for [Robert] to be examined by a physician,’ knew that Robert ‘had suffered a stroke,’ knew that Robert ‘was admitted to a rehabilitation facility,’ and knew that Robert had ‘not reported to the office for about one year.’” Therefore, the Court concluded that Zyloware could not have been defrauded because it was on notice of the foregoing facts – facts that contradicted the alleged misrepresentation. Id.
No Duty to Disclose
Next, the Court turned its attention to whether Catherine had a duty to disclose information about the extent of Robert’s deteriorating health. This issue, said the Court, was “[t]he crux of Zyloware’s fraud claim” as its success “hinge[d]” on actionable “acts of omission.” Slip Op. at *16, citing Elghanian v. Harvey, 249 A.D.2d 206 (1st Dept. 1998).
A duty to disclose arises when (1) the defendant speaks on the subject, in which case he/she must speak truthfully and completely about the matter (see Bank of Am., N.A. v. Bear Stearns Asset Mgmt., 969 F. Supp. 2d 339, 351 (S.D.N.Y. 2013)); (2) there is a fiduciary relationship between the plaintiff and defendant (see Balanced Return Fund Ltd. v. Royal Bank of Canada, 138 A.D.3d 542, 542 (1st Dept. 2016)); or (3) the defendant possesses “special facts” about the matter not known by the plaintiff (Pramer S.C.A. v. Abaplus Int’l Corp., 76 A.D.3d 89, 99 (1st Dept. 2010). The Court found that none of the foregoing circumstances were present in the case.
First, the Court found that Zyloware failed to identify “any relevant, specific instance of Catherine making a ‘misleading partial disclosure’ about her husband’s health.” Slip Op. at *17 n.5.
Second, the Court found there was no existing fiduciary relationship between Catherine and the company. Such a relationship, observed the Court, “must exist prior to the transaction complained of and not as a result of it.” Balanced Return, 138 A.D.3d at 542; see also Elghanian, 249 A.D.2d at 206-207. The Court held that no such relationship existed.
The Court rejected Zyloware’s argument that as a spouse, Catherine had a duty “on pain of a claim for fraud” “to affirmatively disclose otherwise confidential information about the specific nature of her husband’s medical condition.” Slip Op. at *17. The Court observed that the strength of the argument was undermined by the fact that Zyloware was “aware that a serious health issue [was] present and [had] the contractual right to conduct its own medical examination.” Id.
The Court also rejected Zyloware’s argument that Catherine became a fiduciary of the company when she accepted the power of attorney. “[A] power of attorney … is … given with the intent that the attorney-in-fact will utilize that power for the benefit of the principal.” In re Estate of Ferrara, 7 N.Y.3d 244, 254 (2006). In other words, any fiduciary duty existed between Catherine and Robert, not between Catherine and the company. Slip Op. at *18. As the Court explained: “Zyloware cites no authority for the proposition that the attorney-in-fact undertakes an independent fiduciary duty to third parties, including her principal’s principals, exposing herself to individual liability to such parties.” Id.
Third, the Court held that the “special facts doctrine” did not apply. Id. Under the doctrine, there is a duty to disclose information in the absence of a fiduciary relationship “when one party’s superior knowledge of essential facts renders a transaction without disclosure inherently unfair.” Pramer S.C.A. v. Abaplus Int’l Corp., 76 A.D.3d 89, 99 (1st Dept. 2010). The doctrine does not apply, however, if the information could have been discovered through due diligence, i.e., the “exercise of ordinary intelligence.” Jana L. v. W. 129th St. Realty Corp., 22 A.D.3d 274, 278 (1st Dept. 2005) (quoting Schumaker v. Mather, 133 N.Y. 590, 596 (1892)). And “[i]f nothing else, the ‘exercise of ordinary intelligence’ imposes, “at the very least, a duty to inquire.” Jana L., 22 A.D.3d at 278.
In rejecting the application of the doctrine, the Court found that Zyloware “had both the means and the opportunity to discover the nature of Robert’s obvious health problems notwithstanding Catherine’s alleged silence on the matter.” Slip Op. at *19. The Court explained that under the Employment Agreement, Zyloware could have requested, at any time, Robert to present himself for a medical examination before a doctor selected by Zyloware who could determine “whether Robert suffered a ‘disability’ within the meaning of the Employment Agreement.” Id. Significantly, noted the Court, “Zyloware did not exercise this contractual right to inquire until June 2017, which “[b]y that point, Robert ‘had not reported to the office for about one year,’ was experiencing an ‘obvious physical decline,’ and ‘Zyloware had become concerned that … it should retire him as an employee.’” Id. “Because Zyloware ‘could have, but chose not to, inquire about’ Robert’s health,” the Court concluded that, “‘[t]he special facts doctrine [was] not applicable.’” Id., quoting Johnson v. Levin, 165 A.D.3d 497 (1st Dept. 2018).
Finally, in rejecting the application of the doctrine, the Court addressed Zyloware’s “protests” concerning the company’s lack of diligence in ascertaining the true nature of Robert’s health:
Zyloware protests that it “was in the optical eyewear frame business, not in the business of making neurological medical diagnoses.” That is true, and presumably that is why Zyloware contracted for the right to order a medical examination. The company did not need to “mak[e] neurological medical diagnoses,”’ or any kind of diagnoses. Rather, Zyloware could have ordered Robert to undergo a medical examination at any time, and certainly once it suspected that he suffered a “physical, mental or emotional condition” that would interfere with his enumerated duties. For the same reason, Zyloware’s argument that “discerning a condition such as dementia surely involves more than the exercise of “ordinary intelligence” also misses the mark. The question here is not whether “ordinary intelligence” required Zyloware to discover the condition, but whether “ordinary intelligence” required Zyloware to at least inquire about it. Under the circumstances, Zyloware did have a duty to inquire. In those circumstances, Catherine had no duty to volunteer the truth about Robert’s health.
Slip Op. at **19-20 (citations and footnote omitted).
Under New York law, to recover damages for fraud, a “plaintiff must prove a misrepresentation or a material omission of fact which was false and known to be false by defendant, made for the purpose of inducing the other party to rely upon it, justifiable reliance of the other party on the misrepresentation or material omission, and injury.” Lama Holding Co. v. Smith Barney, 88 N.Y.2d 413, 421 (1996). When the fraud involves an omission of material fact, it is actionable “only if the non-disclosing party has a duty to disclose.” Remington Rand Corp. v. Amsterdam-Rotterdam Bank, N.V., 68 F.3d 1478, 1483 (2d Cir. 1995).
As noted above, a duty to disclose arises if: (1) “one party makes a partial or ambiguous statement that requires additional disclosure to avoid misleading the other party,” id. (internal quotation marks omitted); (2) a special relationship exists between the plaintiff and defendant, such as a fiduciary relationship (Mandarin Trading, 16 N.Y.3d at 178); or (3) the “special facts” doctrine applies (P.T. Bank, 301 A.D.2d at 373). In Shyer, the Court found that none of the foregoing circumstances were present.