Bad Faith Archives - Page 9 of 14

Alas, A Very Hot Issue in California Insurance Law is Decided (At Least for Now): Insurers Have No Affirmative Duty to Settle as Long as They Do Not Foreclose the Possibility of Settlement and/or Absent a Within-Policy-Limits Settlement Demand

One of the hottest issues in California insurance law has been whether a breach of the good faith duty to settle can be found in the absence of a within-policy-limits settlement demand, thus giving rise to an insurer’s liability for an excess judgment.

The frenzy of interest came with the Ninth Circuit case of Du v. Allstate Insurance Co., 681 F.3d 1118 (9th Cir. 2012) which held that under California law “an insurer has a duty to effectuate settlement where liability is reasonably clear, even in the absence of a settlement demand.” However, on October 5, 2012, the Court issued an amended opinion in the case, Du v. Allstate Ins. Co., 697 F.3d 753 (9th Cir. 2012), in which it expressly declined to resolve the legal issue of whether a breach of the good faith duty to settle can be found in the absence of a settlement demand within-policy-limits. As a result, Du may no longer be cited for this proposition. Nevertheless, there existed some uncertainty as to whether an insurer can be exposed to liability under California law for breach of the implied covenant of good faith and fair dealing if it fails to settle in the absence of a within-policy-limits settlement demand.

An insurer’s duty to settle is not precipitated solely by the likelihood of an excess judgment against the insured. In the absence of a settlement demand or any other manifestation the injured party is interested in settlement, when the insurer has done nothing to foreclose the possibility of settlement, we find there is no liability for bad faith failure to settle.

For bad faith liability to attach to an insurer’s failure to pursue settlement discussions, in a case where the insured is exposed to a judgment beyond policy limits, there must be, at a minimum, some evidence either that the injured party has communicated to the insurer an interest in settlement, or some other circumstance demonstrating the insurer knew that settlement within policy limits could feasibly be negotiated.

For now, the California Court of Appeals has put this issue to rest with its decision in Reid v. Mercury Insurance Company, Reid v. Mercury Insurance Company, __ Cal. App. 4th __, 2013 Cal. App. LEXIS 798, 2013 WL 5517979 (October 7, 2013). In Reid, that court held that absent a settlement demand or some indication the injured party is interested in settlement, an insurer is not liable for a failure to act, so long as the insurer did not foreclose the possibility of settlement. In fact, the court clarifies that even when there is clear liability and a high likelihood that recovery would exceed policy limits, an insurer is not liable for failing to act if it did not foreclose the possibility of settlement.

The case involves a multi-vehicle collision in which the Plaintiff Shirley Reid (“Plaintiff”), through her son, Paul Reid (“Reid”), brought an action against Defendant Mercury Insurance Company that insured Zhi Yu Huang (“Huang”), the other driver’s insurer. Mercury covered Huang under a policy that provided coverage for up to $100,000.00 per person and $300,000.00 per accident. On June 24, 2007, Huang failed to stop at a red light and collided with the Plaintiff, her passenger and another vehicle. The Plaintiff was hospitalized, and her son communicated with Mercury on her behalf. Reid requested Huang’s policy limits, but Mercury declined to provide the information. Upon further inquiry, Mercury told Reid the investigation was still ongoing, and therefore they could not discuss policy limits. Reid was interested in Huang’s policy coverage and his mother’s underinsured motorist coverage. Before Reid could collect under the underinsured motorist policy, he had to first settle the claim with Mercury. Therefore, Reid hired an attorney to settle the claim “as quickly as possible.” Reid’s attorney provided Mercury with proof of injury and requested Huang’s policy information. According to Reid, his attorney informed him in August 2007 that the policy limits were $100,000.00, but Mercury did not want to settle. Reid asserted that he would have accepted a $100,000.00 settlement from Mercury to recover the underinsured motorist insurance from his mother’s insurance company. Reid’s attorney declined to write a demand letter to Mercury, because Mercury previously stated it did not have enough information to resolve the case. In October 2007, the Plaintiff sued Huang. Later that month, Mercury again informed the Plaintiff that the claim was “still pending.”

Finally in May 2008, Mercury agreed to tender its $100,000.00 policy limit to the Plaintiff to “resolve the matter in its entirety.” The Plaintiff rejected the offer. After a successful trial against Huang and assignment of the bad faith claim and breach of contract claim, the Plaintiff filed suit against Mercury for breach of the implied covenant of good faith and fair dealing and breach of contract based on the asserted bad faith failure to settle.

Mercury moved for summary judgment, arguing it could not be held liable for refusing to settle because Reid never made a formal settlement demand. The trial court granted the motion.

The California Court of Appeals affirmed. The court ruled that for an insurer to be held liable for bad faith in pursuing settlement discussions, the injured party must have communicated their interest in settling the matter to the insurer. Without that, the insurer could not be liable for bad faith failure to settle:

An insurer’s duty to settle is not precipitated solely by the likelihood of an excess judgment against the insured. In the absence of a settlement demand or any other manifestation the injured party is interested in settlement, when the insurer has done nothing to foreclose the possibility of settlement, we find there is no liability for bad faith failure to settle

The court’s decision addressed several arguments advanced by the Plaintiff. First, the court conceded that a formal settlement demand was not necessary for bad faith liability to attach. However, the insurer must know of the claimant’s interest in settlement and have ignored it. In the case at hand, Reid never made a clear settlement demand, and there was no evidence to suggest Mercury knew Reid was willing to settle. Furthermore, the Mercury’s responses did not constitute rejections of opportunities to settle or discourage demands. In light of the facts, the court decided Mercury could not be held liable for bad faith failure to settle. Second, the Plaintiff cited to Rova Farms Resort, Inc. v. Investors Insurance Company of America, 323 A.2d 495 (N.J. 1974) as requiring an insurer to explore settlement possibilities. The court distinguished this case because there were many instances where the claimant made informal requests to settle. Therefore, Rova Farms did not apply to the present facts.

Next, the court rejected the Plaintiff’s argument that Insurance Code section 790.03 (h)(5) “expressly imposes” an “affirmative duty” on insurers to settle when liability is clear. The court clarified that an insurance company may be liable for bad faith if its general business practices include refusing to settle on issues of clear liability. However, the Insurance Code does not create a private cause of action if an insurer commits one of the acts listed in the subsection. Accordingly, the court held that the Plaintiff’s interpretation of the statute is overly broad, and no such affirmative duty exists.

The court rejected Plaintiff’s request for an instruction that an insurer’s failure to effectuate settlement after liability is established constitutes bad faith. The Plaintiff relied on Du which originally held that bad faith liability may be premised on an insurer’s failure to effectuate settlement in the absence of a reasonable demand. However, the Ninth Circuit Court of Appeals noted held there was no evidentiary basis showing the insurer could have made an earlier settlement offer, and therefore no basis for such an instruction. Similarly, the California Court of Appeal found no basis for the instruction in the present case. Therefore, the court argues, there is no precedent to impose this duty to settle on insurers.

Finally, the court rejected the Plaintiff’s contention that Mercury’s requests for medical records and interviews served to discourage the Plaintiff from making a settlement demand, stating no reasonable juror could reach that conclusion.

Ultimately, the California Court of Appeals agreed that the Plaintiff could not support his case for bad faith failure to settle claim based on the evidence. Absent a demonstrated interest in settlement or demand for settlement within policy limits, the court refused to impose an affirmative duty on insurers to settle claims for the insured.

This case is likely to be appealed to the California Supreme Court given the gravity of the issue and its implications to policyholders. It will be interesting to see what transpires next. Nonetheless, this case gives some clear guidance on how to set up a within-policy-limits- demand , or at least the steps an insured must take to attempt to make one, that will give rise to insurer liability for an excess judgment. Therefore, it is good reading.

Property Insurers May Be Liable to Owners for Loss of Rents Resulting from Damaged Property

Commercial property owners may recover lost rental income from their insurer if they are unable to rent out damaged property, absent clear policy exclusions. The California Court of Appeal recently held the owner of commercial property has a reasonable expectation of coverage for loss of rent, even if the property was not leased out at the time the damage occurred. Ventura Kester, LLC v. Folksamerica Reinsurance Company, 2013 DJDAR 12253 (September 11, 2013). The court explained that if insurers want to limit loss of rent coverage to leases in force at the time of the damages occur, such limitations must be plainly stated in the policy. Ventura is significant because it limits insurers’ abilities to take advantage of ambiguous policy language as a means to deny coverage.

The case involved a commercial building owner, Ventura Kester, LLC (“Ventura”), whose property and casualty insurance policy covered up to $2.76 million for structures and $552,000 for loss of rents resulting from damage to the covered structure. The insurance company, Folksamerica Reinsurance Company (“Folksamerica”), agreed to cover “net loss of rental income” and “rents accrued but rendered uncollectible by reason of a covered loss.” At the time the policy was issued, the commercial building was leased to a tenant. The tenant later vacated, and Ventura sought prospective tenants, including OfficeMax, Equinox Fitness Club and Crunch fitness club. However, before Ventura could execute a lease agreement, thieves broke into the building and stole copper wire and pipes. Adjusters discovered additional vandalism and estimated the total cost of repair to be $1 million. In addition, a construction company estimated the repairs would take up to one year.

Based on these assessments, Folksamerica provided Ventura with two checks for $383,989.90 and $128,973.71 to repair the damage. However, Ventura could not begin repairs until the claim was paid in full. Folksamerica paid Ventura $414,460.42 for property damage claims, but denied Ventura’s claim for loss of rents because no lease was in effect at the time of loss.

Following the denial, Ventura filed an action against Folksamerica for breach of contract and breach of the covenant of good faith and fair dealing. Ventura claimed Folksamerica’s failure to pay the entire claim caused a total loss of rent in the amount of $3.8 million. Folksamerica filed a motion for summary judgment, claiming Ventura could not establish it lost rent due to the property damage. Ventura opposed the motion, arguing that the policy did not require an executed lease, and also that whether the lost rent was due to property damages was a triable issue of fact. The trial court granted summary judgment for Folksamerica, stating the policy language did not provide coverage for lost rent when a building was vacant.

Ventura appealed the summary judgment, arguing the policy covers lost rents due to property damage, regardless of whether there was a tenant. Folksamerica again asserted that Ventura was required to have a tenant in place to recover lost rent under the policy. The California Court of Appeal reversed lower court, and awarded Ventura its costs on appeal, stating that:

If the insurer had wanted to limit the recovery or calculate the rents based on existing tenants at the time of the building damage, it clearly could have written the policy to provide that.

In its decision, the Court of Appeal noted that policy was ambiguous, and a reasonable policyholder would expect to recover lost rents due to property damages. The court further explained that if an insurer wanted to limit loss of rents to periods when the property was leased, and exclude periods where the property was vacant, the insurer should have expressly stated that in the policy. The court cited Whitney Estate Co. v. Northern Assurance Co. of London, 155 Cal. 521, 522 (1909), which permitted contracting parties to stipulate a reasonable method for computing loss of rents due to damaged and vacated property. In Whitney, the insurance policy calculated coverage based on covered “actual loss of rent.” Calculations of actual loss was limited to the period when the damage occurred until repairs made the building was “tenable,” and profits from rentals in place at the time of damage. The court also recognized the validity of vacancy provisions, and noted such provisions were absent in the present policy. Therefore, Folksamerica could not rely on MDW Enters. V. CNA Ins. Co., 4 A. D. 3d 388 (N.Y. App. Div. 2004), where an insurer’s policy clearly excluded coverage when the building had been vacant for over sixty days before the occurrence. The Court of Appeal noted that Folksamerica’s policy did not specify such express limitations or methods of calculating loss. Finding that the policy language failed to clearly limit coverage, the court applied a reasonable interpretation of the policy and rejected the limitation.

The Court of Appeal also determined that whether Ventura could establish actual loss of rents was a triable issue of fact. On one hand, Folksamerica presented evidence that Ventura’s potential tenants declined to rent the building due to reasons other than property damage. In contrast, Ventura presented evidence of a long-term lease in place prior to the damage, a list of prospective tenants, and OfficeMax’s decline to rent was due in part to the delay in resolving the insurance claim. A trier of fact could have determined that but for the property damages, Ventura would have secured a tenant. Therefore, the court determined summary judgment was inappropriately granted.

Ventura is an important decision because it prevented insurers from denying coverage absent clearly stated exclusions. Although the court recognized the validity of exclusionary provisions and calculations limiting recovery, the court refused to apply Folkamerica’s broad reading of its policy. The court’s decision adheres to established contact law principles by construing ambiguous language against the drafting party, or insurer.

California Court of Appeal Finds That a 10:1 Ratio Between Punitive Damages and Compensatory Damages Awards Satisfies Due Process

A 10-to-1 ratio of punitive damages to compensatory damages awards in an insurance bad faith case passes Constitutional muster. So says the California Court of Appeal in its decision in Nickerson v. Stonebridge Life Insurance Company, __ Cal. App. 4th ___, 2013 Cal. App. LEXIS 583 (2013). The decision is significant in that it affirms that punitive damages are not limited to a single-digit ratio and that a ratio of punitive to compensatory damages of 10-to-1, and perhaps higher, falls within the maximum permitted under due process. Additionally, the decision clarifies what damages may be included in fixing the ratio of compensatory to punitive damages.

The Nickerson case concerns a disabled veteran, Nickerson, who was covered under a policy providing coverage for hospital confinement, intensive care unit and emergency room visits issued by Stonebridge. After suffering an injury to his leg, Nickerson was hospitalized for over 100 days. However, Stonebridge contended that only a small portion of the time Nickerson stayed in the hospital was considered “Necessary Treatment” under his policy. On this basis, Stonebridge denied benefits for the rest of the time Nickerson was hospitalized.

Following the denial of his benefits under the policy, Nickerson filed a claim against Stonebridge for breach of the insurance contract and for breach of the implied covenant of good faith and fair dealing. The trial court found that Nickerson was entitled to $31, 500 in unpaid benefits for the breach of contract cause of action. The jury returned a special verdict finding Stonebridge’s failure to pay policy benefits was unreasonable and that Nickerson suffered $35,000 in damages for emotional distress. Finally, the jury awarded Nickerson $19 million in punitive damages, which constituted 5% of Stonebridge’s net worth. Stonebridge immediately moved for a motion for new trial seeking to reduce the punitive damages award. The trial court conditionally granted a new trial unless Nickerson agreed to accept a reduction of the punitive damage award to 10 to 1 in accordance with “recent California and federal authority.” In calculating the amount of punitive damages, the trial court only included the $35,000 in compensatory damages for bad faith and did not include damages for the insurer’s breach of contract or the $12, 500 in attorney’ fees awarded to Nickerson pursuant to Brandt v. Superior Court, 37 Cal. 3d 813, 817 (1985) (when the defendant insurer’s tortious conduct forces insured to retain counsel to obtain policy benefits, the insurer is liable for attorney’s fees). Thus, the trial court offered Nickerson a reduction of punitive damages to $350,000.

Nickerson rejected the trial court’s offer and appealed, arguing that the trial court erred (1) in concluding it was constrained by law to limit punitive damages to no more than 10 times the compensatory award; and (2) in excluding certain categories of compensatory damages.

The Court of Appeal began its analysis by reciting that a punitive damages award violates the due process clause of the Fourteenth Amendment if the award is “grossly excessive.” In determining whether the trial court’s remittance of the jury’s award of punitive damages to a 10-to-1 ratio with compensatory damages was constitutional, the court followed the three guideposts set out in BMW of North America, Incorporated v. Gore, 517 U.S. 559, 575 (1996): (1) the degree of reprehensibility of the defendant’s misconduct; (2) the disparity between the actual or potential harm suffered by the plaintiff and the punitive damages award; and (3) the difference between the punitive damages awarded by the jury and the civil penalties authorized or imposed in comparable cases. As to the first guidepost, the court found that the degree of reprehensibility factor weighs in favor of Nickerson because, although Nickerson did not suffer physical harm, Stonebridge acted with indifference toward Nickerson’s health and safety, Nickerson was a financially vulnerable individual, Stonebridge’s conduct was intentionally deceitful and was not an isolated incident. The court did not consider the third guide post relating to comparable civil penalties because Nickerson conceded that this guide post was of “limited utility.” Turning to the second and most important guidepost, the court noted that the Supreme Court has consistently refused to establish a ratio beyond which a punitive damage award could not exceed, but that awards significantly exceeding a single-digit ratio between punitive and compensatory damages generally will not satisfy due process. The court then stated that the California Supreme Court has found that ratios significantly greater than 9 or 10-to-1 are suspect and may not pass constitutional muster absent “special justification.” Based on both federal and state case law, the court concluded that the message gleaned from these cases is that due process analysis is flexible and the constitutionality of any award must be based upon the particular facts and circumstances of the case.

Based on its analysis of the three guideposts, the circumstances of this case, the high level of reprehensibility of Stonebridge’s conduct, Stonebridge’s net worth and the small economic damage award justifies an outside constitutional limit of a 10-to-1 ratio of punitive to compensatory damages. As such, the Court of Appeal upheld the trial court’s decision to remit the jury’s award to a 10-to-1 ratio.

Additionally, it is important to note that the court also addressed what categories of compensatory damages are included in calculating the ratio of punitive to compensatory damages. Nickerson argued that “uncompensated potential harm” should be included into the calculation. However, the court rejected this argument because Nickerson was fully compensated for his emotional distress injuries. The court also refused to include the $31, 500 in policy benefits awarded to Nickerson because, citing Major v. Western Home Insurance Company, 169 Cal. App. 4th 1197, 1224 (2009), punitive damages are not authorized in contract actions. The court also refused to include attorney’s fees awarded pursuant to Brandt because they were awarded after the jury awarded punitive damages. However, it should be noted that if the jury had awarded attorney’s fees, they would have been considered in determining if the ratio of punitive damages to compensatory damages is excessive because Brandt fees “are considered extra contractual tort damages that compensate a plaintiff for an insurer’s bad faith refusal to pay policy benefits.” Id (emphasis in original).

The Nickerson decision is highly significant in that the Court of Appeal made it clear that punitive damages awards are not limited to a single-digit ratio and that there is no bright line maximum ratio of punitive damages to compensatory damages required by due process. Although the court strongly suggested that a punitive damage award significantly exceeding a 9 or 10-to-1 ratio could violate due process, the court refused set the 10 to 1 ratio as a maximum cap on all punitive damages awards. Indeed, given the highly flexible due process analysis adopted by the court, instances where insurers engage in significantly reprehensible acts of bad faith, as determined under the guidepost analysis, may well justify a punitive to compensatory damages ratio which exceeds the 10-to-1 ratio applied in Nickerson.

Supreme Court Reaches Favorable Decision for Insureds in Zhang v. Superior Court of San Bernardino; Daily Journal Publishes McKennon Law Group PC Article on Zhang

The Wednesday August 7, 2013 edition of the Los Angeles Daily Journal featured Robert McKennon’s article entitled: “Clear win for insureds, though scope uncertain.” In it, Mr. McKennon discusses how a highly anticipated decision by the California Supreme Court in Zhang v. Superior Court of San Bernardino (California Capital Insurance), 2012 DJDAR 10174, expands the availability of claims that can be brought under Bus. & Prof. Code 17200, a.k.a. California’s Unfair Competition Law, or UCL. The article discusses how in Zhang, the Supreme Court addressed the split among courts in California regarding the scope of the court’s prior holding in Moradi-Shalal v. Fireman’s Fund Insurance Companies, 46 Cal. 3d 287 (1988) and adopted a narrow interpretation of Moradi-Shalal. The article explains how the Supreme Court’s holding in Zhang will now allow insureds to bring claims under the UCL against insurers for unfair business practices, such as false advertising, so long as those claims do not rest exclusively on California’s Unfair Insurance Practices Act, or UIPA. This means that insureds will not just have breach of contract and bad faith claims against insurers, but may also have UCL claims too. The article is posted below with the permission of the Daily Journal.

California Court Holds That Third-Party Plaintiffs Can Bring Claims Against Defendant’s Insurer for Breach of Contract and Bad Faith After a Settlement

In a case of first impression, the California Court of Appeal for the Sixth District held that a plaintiff who sued a defendant and settled the case can later sue the defendant’s insurer directly for breach of contract and bad faith concerning a medical expense provision. This unprecedented decision potentially opens a new avenue for injured plaintiffs to pursue redress directly from insurers for injuries caused by their insureds.

Barnes v. Western Heritage Insurance Co., __ Cal.App.4th __, 2013 Cal. App. LEXIS 480 (June 18, 2013) involves a Plaintiff who was injured in 2001 when a table fell on his back during a recreational program co-sponsored by the Defendant. Plaintiff made a claim against the Defendant. But when Plaintiff subsequently requested payment from Defendant’s insurer, Western Heritage Insurance Company, more than one year after the accident for consultation with a medical specialist, the insurer denied the request under the insured’s Comprehensive General Liability Policy. The insurer asserted that to qualify for medical payment coverage under the applicable policy, Plaintiff had to report a claimed medical expense to the insurer within one year of the accident

Plaintiff settled a separate personal injury lawsuit against the Defendant regarding his medical expenses. However, the insurer was not a party to that lawsuit. Five years later, Plaintiff initiated an action against Defendant’s insurer for breach of contract and breach of the implied covenant of good faith and fair dealing based on the denial of his request for medical payment coverage.

The trial court granted summary judgment in favor of the insurer. Among other things, the trial court ruled Plaintiff’s lawsuit against the insurer was barred by collateral estoppel because he settled his claims in the underlying personal injury action, including any claim for medical expenses; allowing Plaintiff to recover under the medical payment provision of the policy would result in impermissible double recovery; the insurer was not equitably estopped to assert the policy’s one-year deadline as a defense because it had no duty to disclose the deadline to Plaintiff and Plaintiff did not rely to his detriment on any failure to disclose; and certain evidentiary objections asserted by the insurer have merit.

Plaintiff asserted on appeal that the trial court erred. He argued (1) collateral estoppel did not bar this action because the issues raised, litigated and necessarily determined in the personal injury action are different from those raised, litigated and to be determined in this action; (2) permitting him to recover under the medical payment provision would not result in double recovery because the insurer owed him a separate and direct duty under the medical payment provision; (3) the insurer was equitably estopped from asserting the one-year deadline in the policy because it did not inform him of the deadline; and (4) certain evidentiary objections asserted by the insurer should have been overruled.

The Court agreed with Plaintiff that the trial court erred in granting the insurer’s summary judgment. Specifically, the Court concluded: (1) collateral estoppel did not bar the present action because the issues asserted were not litigated or determined in the prior personal injury action; (2) a recovery would not amount to an impermissible double recovery because Plaintiff was now claiming that the insurer breached its direct duty to him under the medical payment provision of the insurance policy, a duty distinct from the obligation the insurer owed the insured Defendant under the liability provision of the policy; and (3) there was a triable issue of material fact regarding whether the insurer was equitably estopped to assert the policy’s one-year deadline as a defense. Accordingly, the Court of Appeal determined that the insurer’s summary judgment motion should not have been granted based on the record and reversed the trial court’s judgment.

The Court’s decision in Barnes is significant in that it found for the first time that an injured plaintiff may pursue a claim against a defendant’s insurer for bad faith and breach of contract under a medical payments provision after settling the underlying lawsuit against the insured. This plaintiffs’ friendly and novel decision expands the ability of injured plaintiffs to recover for harm caused by an insured defendant.

The Importance of Zhang v. California Capital Insurance Co

After much anticipation, last week the Supreme Court of California heard oral arguments in the pivotal case of Yanting Zhang v. California Insurance Co., S178542 on May 8, 2013. This case looks to have a substantial impact on insurance litigation in California and could open up another significant avenue for insureds to pursue claims against their insurance companies. The key issue in Zhang is under what circumstances may an insured bring a cause of action against an insurer under the “Unfair Competition Law” (Bus. & Prof. Code, section 17200 or “UCL”). Specifically, the issues on review by the Supreme Court are: (1) Can an insured bring a cause of action against its insurer under the unfair competition law (Bus. & Prof. Code section 17200) based on allegations that the insurer misrepresents and falsely advertises that it will promptly and properly pay covered claims when it has no intention of doing so? (2) Does Moradi-Shalal v. Fireman’s Fund Ins. Companies 46 Cal.3d 287 (1988) bar such an action? Based on the Court’s questions during the oral arguments, as they were reported in the Los Angeles Daily Journal, it appears that the Supreme Court may be on the verge of ruling in favor of the Plaintiff in Zhang and thereby substantially broadening the scope of potential claims available to insured.

A crucial question for the Supreme Court in Zhang, and a focal point of the oral arguments, is the reach of the Supreme Court’s landmark decision in Moradi-Shalal, which barred private actions seeking to enforce California’s Unfair Insurance Practices Act (“UIPA”), namely, Insurance Code Section 790.03, et seq. (“Section 790.03”).

The Supreme Court’s decision in Moradi-Shalal left open the issue of whether claims for violation of the UCL may still allege conduct that violates Section 790.03. Initially, courts in California heavily favored a broad reading of Moradi-Shalal and found that allegations of fraudulent misrepresentation and false advertising in violation of Section 790.03 cannot be brought under the UCL. Specifically, courts reasoned that allowing such claims would circumvent the Supreme Court’s holding in Moradi-Shalal. See, e.g., Textron Financial Corp. v. National Union Fire Insurance Company, 118 Cal.App.4th 1061, 1070 (2004); Safeco Insurance Company v. Superior Court, 216 Cal.App.3d 1491, 1494 (1990) (finding that the UCL “provides no toehold for scaling the barriers of Moradi-Shalal”). In Textron, a case that arose from an insurer’s refusal to honor a claim for insurance benefits concerning property damage, the court found that “merely alleging these purported acts constitute unfair business practices under the unfair competition law is insufficient to overcome Moradi-Shalal.” Textron Financial Corp., supra at 1070-71.

Now, the Zhang case has the potential to significantly limit the broad reading of Moradi–Shalal applied by courts in California in the past and, if the Court of Appeals decision is affirmed, open the door for a slew of new claims against insurers that they have engaged in unfair business practices in violation of Section 790.03. The Zhang case involves an insured, Zhang, who owned an apartment building which was damaged in a fire in 2005. Zhang attempted to collect benefits under the policy issued by her insurer California Capital Insurance Company (“California Capital”). However, Zhang alleged that there was a litany of problems with California Capital’s handling of her claim and that they refused to approve adequate payment for the repair of the premises. Zhang brought a claim against California Capital for breach of contract, breach of the implied covenant of good faith and fair dealing, and also several alleged violations of the UCL. The claims for breach of contract and bad faith were settled and dismissed, leaving her UCL claim. Included under her UCL claim were allegations that California Capital had acted unfairly by engaging in false and deceptive advertising, suggesting it would provide coverage in the event of a loss, when it had no intent to do so. Most importantly, she also alleged that California Capital engaged in unlawful conduct which violates Section 790.03 as part of UCL claim.

California Capital filed a demurrer to Zhang’s cause of action under the UCL arguing, unsurprisingly, that Zhang could not state a cause of action under Section 790.03 based on the decision in Moradi-Shalal. The trial court sustained California Capital’s demurrer relying largely on the Textron case. Then, in a stunning break from prior decisions, the Court of Appeal reversed the trial court’s holding and found that because Zhang is alleging unlawful and misleading conduct prohibited by the UCL in violation of Section 790.03, the suit may proceed on that claim. The court in Zhang specifically addressed the clearly contradictory holding in the Textron decision. Specifically, the court in Zhang held that, contrary to the finding in Textron, Moradi-Shalal does not bar a claim under the UCL where the plaintiff specifically alleged conduct expressly prohibited by Section 790.03. The court pointed to the Supreme Court’s decision in Manufacturers Life Insurance Co. v. Superior Court, 10 Cal.4th 257 (1995), in which the high court rejected the idea that Section 790.03 was intended to “displace existing rights and remedies for unlawful business practices” in the insurance industry, among them the UCL. As such, the court believed that there is no reason to treat insurers differently from other businesses when it comes to actions under the UCL. The court held that although the UIPA did not provide a private cause of action, in the UCL the legislature had provided such a remedy for conduct that fell within its purview and, as such, Zhang’s allegations that the insurer solicited her business through false advertising and false promises clearly justified a claim under the UCL and is not barred by Moradi-Shalal.

Following the Court of Appeals’ decision in Zhang, both plaintiff’s attorneys and insurance companies anticipated a possibly ground-breaking decision by the Supreme Court after it held oral argument in the case three years after it took up the case. As was reported in the Daily Journal on Thursday May 9, 2013, the Supreme Court heard oral arguments the previous day on May 8. According to the Daily Journal, only three justices asked multiple questions and the arguments were both relatively short. However, “the questions posed by the justices suggested the court is inclined to rule in favor of Zhang.” Specifically, Justice Joyce L. Kennard repeatedly asked Zhang’s attorney “hypothetical questions based on the assumption the court were to side with his client.” Although the attorney for California Capital argued that under Moradi-Shalal, Zhang’s claim must be handled by the insurance commissioner, Justice Carol Corrigan questioned why Zhang cannot sue for false advertising where her contract was fraudulently induced. Justice Carol Corrigan also added that who wins the false advertising argument is currently irrelevant, and the only question is whether Zhang has a right to bring her claim. When asked by the Court whether it would have to overturn Moradi-Shalal if it ruled for Zhang, Zhang’s attorney definitively answered “no” and explained that none of Zhang’s actions are related to Moradi-Shalal and pleading false advertising is enough.

Based on the oral arguments, it seems that the Justices of the California Supreme Court are inclined to limit the scope of Moradi-Shalal and allow Zhang to proceed with her case. Such an outcome would have very important consequences for insurance litigation in California. Allowing insured plaintiffs to maintain claims under the UCL based on an insurer’s advertising or representation regarding timely payment for covered losses could open the floodgates for a huge number of new claims for such false advertising and fraud in connection with their advertising. Moreover, given the broad scope of the UCL, such claims will also likely to become common in complaints against insurance companies. Although damages per se are not recoverable under the UCL, restitution may be available under the theory that the insured purchased the policy in reliance on misrepresentations by the insurer. Recovery of insurance premiums paid may be a remedy, along with policy benefits that are owed under an insurance policy. In any case, the threat of injunction for violation of the UCL requiring changes to the insurer’s practice would still be a powerful weapon for plaintiffs. On the other hand, if the Supreme Court decides in favor of California Capital, it would reaffirm Textron Court’s broad reading of Moradi-Shalal and continue to limit insured plaintiffs to breach of contract and breach of the implied covenant of good faith and fair dealing claims. The decision by the Supreme Court in the Zhang case is expected within 90 days of the oral argument on May 8. Both insureds and their attorneys should keep careful watch for this potentially momentous decision in the field of insurance litigation.

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