9.4 Fidelity Coverages: Bond Period and Discovery Period, Employee Dishonesty Forms, ERISA Bonds, Financial Institution Bonds & Public Employee Bonds
Key Takeaways
- A fidelity bond guarantees the honesty of a person, while a surety bond guarantees performance of an obligation; the fidelity insurer is subrogated against the dishonest employee.
- The insuring agreement requires loss resulting directly from an employee’s theft or forgery committed with manifest intent to cause the employer a loss and obtain a financial benefit, so negligence is not a fidelity claim.
- Coverage terminates immediately as to any employee on the day the insured learns of a theft or dishonest act by that employee, whether committed before or during employment.
- A commercial blanket bond applies one limit per loss, while a blanket position bond applies the limit per employee involved; limits do not accumulate from year to year.
- ERISA § 412 requires a bond of at least 10% of funds handled, minimum $1,000 and maximum $500,000, raised to $1,000,000 where the plan holds employer securities, with no deductible as to the plan.
Fidelity Coverages: Bond Period and Discovery Period, Employee Dishonesty Forms, ERISA Bonds, Financial Institution Bonds & Public Employee Bonds
Exam Focus: Fidelity Coverages is its own 3% domain on the Series 17-70 — separate from the 2% Surety Bonds domain. The tested items are the discovery period, the difference between aggregate and single loss limits, the four ways employee dishonesty can be scheduled, the ERISA § 412 bond, and the Financial Institution Bond form numbers 14, 15, 23, 24 and 25 with insuring agreements A through E.
Nature of a Fidelity Bond
A fidelity bond guarantees the honesty of a person. It indemnifies an employer (the obligee) against direct loss of money, securities or other property caused by the dishonest or fraudulent acts of employees (the principals). Compare the two products in Section 9.3:
| Surety bond | Fidelity bond | |
|---|---|---|
| Guarantees | Performance of an obligation | Honesty of a person |
| Who is protected | The obligee — project owner, State, court | The employer |
| Reimbursement | The principal must indemnify the surety in full | The insurer does not look to the employee-principal for indemnity as a matter of course, though it is subrogated to the employer's rights against the dishonest employee |
| Loss expectation | Zero-loss underwriting | Losses are expected and priced |
The Insuring Agreement
The core fidelity insuring agreement pays for loss of money, securities and other property resulting directly from theft or forgery committed by an employee, acting alone or in collusion, with the manifest intent to cause the employer a loss and to obtain a financial benefit for the employee or another. Two words in that sentence do most of the work:
- “Resulting directly.” Consequential losses — lost interest, reputational harm, the cost of a forensic accountant beyond any expense sub-limit — are not covered.
- “Manifest intent.” The employee must have intended both the employer's loss and a benefit. A reckless or negligent employee who loses money is not a fidelity claim.
Bond Period, Discovery Period and Termination
- Bond period. The period during which the dishonest act must be committed under a loss sustained form, or during which the loss must be discovered under a discovery form (Section 7.4).
- Discovery period. The window after the bond ends in which a loss may still be reported. The commercial crime loss sustained form gives one year; many fidelity forms give 60 days, extended to one year for claims under an ERISA plan. A superseded suretyship or prior-insurance provision may allow a claim on the expired bond when coverage has been continuous.
- Termination as to an employee. Coverage ends immediately as to any employee on the date the insured, or any official or employee not in collusion, learns of a theft or other dishonest act committed by that employee, whether before or during employment. This is the condition that turns a prior-knowledge fact pattern into a denial.
- Termination of the bond. Ends on cancellation, on expiry, or on the insured's liquidation or dissolution.
Limits of Liability
- Single loss limit. The most payable for any one occurrence, however many employees, transactions or years are involved. A scheme running six years by three colluding employees is normally one single loss.
- Aggregate limit. Where used, the most payable in total during the bond period, eroding as claims are paid.
- Non-cumulation. Most fidelity forms state that limits do not accumulate from year to year — continuing a bond for ten years does not create ten limits.
Employee Dishonesty Coverage: Four Ways to Schedule It
| Form | How it works | Best for |
|---|---|---|
| Individual bond | Covers one named person | A single high-exposure employee |
| Name schedule | Lists each employee by name with a limit beside each | Small employers with defined handlers of funds; requires updating as people change |
| Position schedule | Lists positions rather than people, with a limit for each position | Employers with turnover in defined roles; whoever holds the post is covered |
| Blanket bond | Covers all employees automatically, with one limit | Nearly all modern commercial buyers |
A blanket bond is written either as commercial blanket (the limit applies per loss, no matter how many employees were involved) or as blanket position (the limit applies per employee, so a three-employee collusion could produce three limits). Blanket forms also eliminate the schedule-maintenance problem: new hires are covered from day one and no endorsement is needed.
Pension Plans and ERISA Compliance
ERISA § 412 requires every fiduciary of an employee benefit plan, and every person who handles funds or other property of the plan, to be bonded. The statutory mechanics are examinable:
- The bond amount must be at least 10% of the amount of funds handled, determined at the beginning of each plan year.
- Subject to a minimum of $1,000 and a maximum of $500,000 — raised to $1,000,000 for plans that hold employer securities.
- The plan must be named as insured so that it can recover directly.
- No deductible may apply as to the plan — which is why commercial crime forms carve the ERISA plan out of the deductible provision (Section 7.4).
- The ERISA bond protects the plan against dishonesty. It is not fiduciary liability insurance, which protects fiduciaries against claims of imprudent judgment (Section 16.1). A plan needs both.
Financial Institution Bonds
Banks, credit unions, insurance companies and securities firms buy a specialised Financial Institution Bond rather than a commercial crime policy. The Surety & Fidelity Association forms are identified by number, and the outline names five:
| Form | Institution |
|---|---|
| Form 14 | Securities dealers |
| Form 15 | Finance companies |
| Form 23 | Credit unions |
| Form 24 | Banks and thrifts (the standard bank bond) |
| Form 25 | Insurance companies |
All of them are built from the same lettered insuring agreements:
- A — Fidelity. Dishonest or fraudulent acts of employees.
- B — On Premises. Loss of property on the insured's premises by robbery, burglary, theft, misplacement, mysterious unexplainable disappearance, damage or destruction.
- C — In Transit. Loss of property in transit in the custody of a messenger or an armoured motor vehicle company.
- D — Forgery or Alteration. Loss through forgery or alteration of negotiable instruments — checks, drafts, acceptances, withdrawal orders.
- E — Securities. Loss through the institution having, in good faith, acted upon counterfeit or forged securities or documents.
Optional riders extend to computer systems fraud, voice-initiated transfer fraud, unauthorised signatures and telefacsimile transfer fraud.
Public Employee Bonds
Municipalities, school districts and other public entities bond their officials and employees. The ISO Government Crime program supplies the equivalents, and the historic designation the outline names is Coverage Form O — Public Employee Dishonesty. It is written on either a per loss basis (one limit per occurrence regardless of the number of employees) or a per employee basis (a limit for each employee involved), and it may be scheduled by name or by position or written blanket, exactly as in the commercial forms above.
Exam Cue. “Limit applies per employee involved” = blanket position or the per employee public form; three colluding employees at a $100,000 limit produce $300,000. “Limit applies per loss” = commercial blanket or the per loss public form; the same three employees produce $100,000.
A plan administrator handles $6,000,000 of employee benefit plan funds. The plan does not hold employer securities. What ERISA § 412 bond amount is required?
Three employees collude over four years to embezzle $300,000 from an employer whose fidelity coverage is written as a commercial blanket bond with a $100,000 limit. What is recoverable?