Compensation isn’t taxable! Really?
Or: The risks a claims adjuster runs in giving advice as if he were an accountant.
By Carole Chauvin, Syndic (2014)
This summary does not constitute a legal opinion. The information it contains may not reflect the current state of the law.
The insureds—owners of a small farm—had lost their rental multiplex to fire. Due to their poor health and upon the advice of the claims adjuster representing their insurer, they decided not to rebuild the building and agreed to accept a settlement based on the depreciated value of the property.
Although the claims adjuster had assured them that their compensation would not be subject to tax, when they filed their taxes report the following spring, their accountant informed them that they owed approximately $80,000 in capital gains tax.
We conducted an ethics investigation to examine the professional conduct of the claims adjuster representing the insurer on the grounds that he may have breached section 26 of the Code of ethics of claims adjusters.
Before accepting a mandate, a claims adjuster must take into account the limits of his abilities and knowledge and the means available to him. He must not undertake or continue a mandate for which he is not sufficiently prepared, without obtaining the necessary assistance.
The Facts of the Case
The investigation revealed that the income property was part of the insureds’ retirement plan. The property, which had been bought five years earlier for a modest sum of money (as is often the case in outlying areas), had been insured under the proportional rule (or co-insurance clause) for $540,000. The insurance policy also provided coverage in the event of loss of income.
Initially, the insureds had wanted to rebuild. However, they hesitated to make that decision since the insurer had offered to settle for a depreciated value of $420,000 and the claims adjuster had assured them several times that their damage insurance compensation was not taxable. Calculator in hand, he had also explained to them that they would make a tidy sum in interest if they invested the money.
The insureds rechecked this information with the claims adjuster several times to make absolutely sure that the compensation for depreciated value would not be taxable and, upon his advice, finally decided to not rebuild.
The following spring, during tax season, their accountant from the Union des producteurs agricoles [The Farmers’ Association] informed them that the compensation they received was considered a capital gain and that they had to pay approximately $80,000 in taxes.
Upon learning of this situation, the claims adjuster tried to negotiate with the insurer to reopen the claim file in order to have the insureds paid the difference so that they could rebuild and thus avoid paying taxes on the compensation. Although the claim had not exceeded its limitation period, the insurer refused on the basis of the signed proof of loss in the file.
The Formal Complaint
I took responsibility for presenting the discipline committee of the ChAD with a formal complaint made up of one charge against the claims adjuster:
In October of 2009, the claims adjuster did not take into account the limits of his abilities and knowledge and misled the insureds by stating on several occasions that the compensation they would receive from the insurer for the total loss of their multiplex dwelling would not be taxable. This was in contravention of section 16 of the Act respecting the distribution of financial products and services and the Code of ethics of claims adjusters, in particular sections 20 and 26 of said code.
The respondent, who was duly represented by legal counsel, pled guilty.
The Discipline Committee
In its ruling, the discipline committee took into account the following facts: this was the first breach that the claims adjuster, with 32 years of experience and on the verge of retirement, had ever committed and he did try to reach an out of court settlement with the insureds to compensate them for the trouble and inconvenience they may have suffered.
This said, the committee made the following comment on the adjuster’s obligation to be competent:
“A professional’s incompetence, no matter what the cause, can also give rise to civil liability when such incompetence causes prejudice. In this respect, the claims adjuster is obliged, under section 16 of the Act respecting the distribution of financial products and services (ARDFPS), to act with competence and professionalism. As a professional, he must not only inform his client; it is also his duty to provide the client with the appropriate advice to protect his interests. He does not have the “privilege” of acting incompetently since this runs counter to protecting the public.” [unofficial translation]
The discipline committee’s landmark decision is highly instructive:
- Claims adjusters: you must remain vigilant, since compensation is not always non-taxable.
- It would have been preferable for the claims adjuster to advise the insureds to consult their accountant, who was the professional best able to advise them regarding both the effect the decision could have on their income and whether they should accept compensation for depreciated value or rebuild.