Reported / Citable
Background
Passport 420, LLC was formed by attorney Michael Avenatti and businessman William Parrish to jointly purchase a jet. Unbeknownst to Parrish, Avenatti funded his share of the roughly $2 million purchase price with money he had embezzled from a legal client. Passport insured the aircraft through Starr Indemnity & Liability Company; neither Starr’s application nor its underwriting process asked about the source of the purchase funds, and Starr’s underwriters testified they did little more than run a basic background check before issuing the policy.
After the policy was renewed for a third year — by which time Parrish had pushed Avenatti out and taken over as manager — the U.S. Treasury Department seized the jet as part of the criminal case against Avenatti, who was later convicted of wire and bank fraud. Starr denied Passport’s claim and purported to rescind the policy, arguing Passport had concealed the material fact that the aircraft was bought with stolen money. Passport sued for breach of contract and bad faith. At trial, Starr moved for judgment on its rescission defense, but the trial court denied the motion, crediting evidence that Starr’s own underwriting was so lax it never would have asked about the funds anyway. A jury then awarded Passport nearly $4 million in contract damages, over $1 million in interest and fees, and $15 million in punitive damages.
Starr appealed, arguing the trial court should have granted judgment in its favor on the rescission defense because Passport concealed Avenatti’s embezzlement and his knowledge of it should be imputed to the company.
The Court’s Holding
The Second District Court of Appeal reversed. Under California’s insurance concealment statutes (Insurance Code sections 330-334), an applicant must disclose all facts within its knowledge that are material to the insurance contract, and a fact is material if a truthful disclosure probably and reasonably would have affected the insurer’s underwriting decision — regardless of whether the insurer’s application specifically asked about it. The court rejected the trial court’s reasoning that Starr’s own lack of curiosity about the funding source doomed its rescission defense: Starr’s underwriter and his supervisor both testified that discovering even a small amount of illicit funding would have led Starr to decline the risk entirely, which is enough to establish materiality independent of how carefully Starr otherwise underwrote the policy.
The court also held that Avenatti’s knowledge of his own crime was properly imputed to Passport, because he was acting as Passport’s manager — within the scope of his authority — both when he applied the embezzled funds to the purchase and when Passport later obtained the Starr policy. Passport argued the “malevolent agent” exception should apply, since no one expects a thief to disclose his own theft, but the court explained that exception is narrow: it applies only where an agent acts entirely against the principal’s interests for the agent’s own benefit, not where — as here — the agent’s conduct actually benefited the principal (by completing the jet purchase). Because Avenatti’s knowledge is charged to Passport, Passport concealed a material fact from Starr, entitling Starr to rescind the policy as a matter of law. The court reversed the judgment and did not need to reach Starr’s remaining arguments about policy exclusions, bad faith, or the size of the punitive damages award; it dismissed Passport’s cross-appeal over prejudgment interest as moot.
Key Takeaways
- Under Insurance Code sections 330-334, an insurer may rescind a policy for concealment of a materially significant fact even if its application never asked about that fact.
- Materiality turns on whether a truthful disclosure probably and reasonably would have influenced the insurer’s underwriting decision — not on how careful (or lax) the insurer’s own underwriting practices were.
- A company can be charged with its manager’s knowledge of the manager’s own wrongdoing when the manager’s conduct, viewed objectively, benefited the company rather than betrayed it.
- The “adverse interest” or “rogue agent” exception to imputed knowledge is narrow: it applies only when the agent acted entirely for personal gain against the principal’s interests, not merely because the agent had an undisclosed personal interest.
- Because rescission was dispositive, the court never reached Starr’s exclusion, bad-faith, or punitive-damages arguments — underscoring rescission as a potentially case-ending defense once concealment is established.
Why It Matters
This decision gives California insurers a clearly defined rescission remedy that doesn’t hinge on asking the perfect application question for every conceivable risk; if the undisclosed fact is one a reasonable insurer would have wanted to know, nondisclosure can void coverage even years after the policy issued. Insurers facing claims tied to a policyholder’s undisclosed misconduct now have stronger published authority for rescinding rather than litigating coverage exclusions.
For business owners and LLC members, the case is a cautionary tale about imputed knowledge: wrongdoing by a manager acting within his apparent authority can be attributed to the company even when other members are entirely innocent and unaware, potentially costing the business its insurance coverage on an asset the wrongdoing helped acquire.