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Court Affirms Bad Faith Verdict in Homeowner’s Insurance Case

In a new case from Division Three of the Fourth Appellate District, Chicago Title Insurance Company v. AMZ Insurance Services; Pacific Specialty Insurance Company, __ Cal. App. 4^th __ (September 9, 2010), the California Court of Appeal has given policyholders a good holding on the issues of when a policy binder becomes effective, when an agent acts on behalf of an insurer and what actions constitute bad faith.

Thomas and Cheryl Mustains (“Mustains”) successfully refinanced their home mortgage with an escrow closing date of October 12, 2005. One of the conditions by the lender was a new homeowner’s insurance policy was to be received and the premium paid for in escrow by Chicago Title. The Mustains’ loan officer contacted AMZ Insurance Services Inc. (“AMZ”) and McGraw Insurance Services (“McGraw”) to obtain the homeowner insurance policy. AMZ selected Pacific Specialty Insurance Company (“PSIC”) as the insurer. AMZ prepared an Evidence of Property Insurance (“EOI”), a computer generated form naming PSIC as the Insurer and the Mustains as the insureds for homeowner’s insurance, which was sent to Chicago Title. Unfortunately, an application from the Mustains was never completed, and the premium was not paid by Chicago Title. On November 11, 2005, the Mustains’ home burned down. Chicago Title reimbursed the Mustains for their loss, and in turn obtained an assignment of rights from the Mustains.

Chicago Title sued both PSIC and McGraw, the parent company of PSIC, for breach of insurance contract, bad faith, and declaratory relief . In a special verdict, the jury found:

1)     The EOI was not legally cancelled before the Mustain’s fire loss on 11/11/2005

2)     AMZ had actual or ostensible authority to prepare and issue the EOI on behalf of PSIC and McGraw

3)     PSIC and McGraw breached their obligation of good faith and fair dealing by failing to pay insurance proceeds to the Mustain’s under the EOI

4)     PSIC and McGraw breached their obligation of good faith and fair dealing by failing to properly investigate the Mustain’s fire loss; and

5)     PSIC and McGraw’s wrongful actions caused Chicago Title to bring the lawsuit against AMZ.

On appeal the Appellate Court affirmed, ruling in favor of Chicago Title. The central issue in this case was whether EOI issued by AMZ was an enforceable binder of homeowner’s insurance extending coverage from PSIC for a fire loss incurred by the Mustains. The EOI was an effective binder for which the loss of the house came within coverage. The court explained:

The trial court correctly instructed the jury. The existence and content of the EOI were undisputed. “Whether undisputed facts establish the existence of a binder is a question of law.” (Adams, supra, 107 Cal.App.4th at p. 451.)

The EOI on its face constituted a binder as a matter of law. It included all of the required elements for a binder under Insurance Code section 382.5, subdivision (a): The EOI identified the insurer (PSIC), the insureds (the Mustains), the (purported) agent executing the EOI (AMZ), the effective date of coverage, the binder number, and the address of the insured property. The EOI states, “[t]his is evidence that insurance as identified below has been issued, is in force, and conveys all the rights and privileges afforded under the policy.” Under “Coverage,” the EOI states, “See Supplemental Information Page(s),” which lists the coverages provided with the amounts of insurance and the deductible for each. The EOI recites the total annual premium as $776, and included with the EOI was an invoice to Chicago Title in that amount.

But the Appellate Court also found that despite the lack of notice of appointment with the Department of Insurance, AMZ’s acted as PSIC’s agent based on actual and ostensible agent theories. The issuance of the EOI by AMZ was not out the ordinary course of business between AMZ and PSIC, and PSIC had never complained about AMZ issuing the EOI prior to the receipt of the insurance premiums. The court explained its ruling that the lack of a notice of appointment was not controlling:

While the lack of a notice of appointment might subject AMZ to fines or a disciplinary proceeding, AMZ’s actions in issuing the EOI as a binder could bind PSIC if the facts otherwise support an agency relationship. “[Insurance Code section 1704, subdivision (a)] may simply impose further requirements on the conduct of an insurance agent, rather than establishing additional criteria for the creation of an agency relationship. In other words, it may be unlawful for an entity to act as an agent of the insurer without complying with section 1704[, subdivision ](a), but that entity would still constitute an insurance agent for the present purposes.” (Oakland-Alameda County Coliseum, Inc. v. National Union Fire Ins. Co. (N.D.Cal. 2007) 480 F.Supp.2d 1182, 1196.) We agree with this reasoning.

The Appellate Court also found that PSIC and McGraw acted in bad faith because they did no investigation into the Mustains’ claim, as there was evidence that an employee with PSIC concluded “the EOI issued to the Mustain’s escrow was legally inconsequential and not even worth forwarding to the PSIC claims department.” The court found that PSIC did not investigate whether its policy of authorizing AMZ to cancel a binder by stamping “void” on the EOI was lawful. The court also stated that “[t]he evidence supported the inference too that PSIC’s policies and practices for issuing EOI’s were created in bad faith to allow PSIC to try to evade liability precisely in the circumstances presented by this case.”

Court of Appeals Limits the Application of the Genuine Dispute Doctrine in Third Party Insurance Coverage Cases

The genuine dispute doctrine received another blow as the California Court of Appeals held that the doctrine may not be used to refuse settlement in third party coverage cases. The recently decided case of Howard v. American National Fire Ins. Co., __Cal. App. 4^th __, 2010 WL 3156851 (decided August 11, 2010), involved allegations of priest molestation by an employee of the Roman Catholic Bishop of Stockton (“Bishop”). American National Fire Insurance Co. (“American”) provided liability insurance to Bishop that covered bodily injury caused by an employee’s battery. When Howard filed suit for negligent retention of the molesting priest, Bishop asked American to defend and indemnify against the suit. American refused on the grounds that the alleged molestation occurred after the policy had expired in November of 1979. In support, American relied on deposition testimony by Howard in which he stated that his first memory of being molested was when he was five or six years old, the earliest of which would have been seven months after the policy had expired. The case continued to trial and Bishop was found liable for negligent retention and directed to pay $5.5 million in compensatory and punitive damages. While the case was still on appeal, the parties settled and Howard agreed to join Bishop in a suit against American to recover on the judgment and for bad faith failure to defend, settle, and indemnify against the molestation case.

A number of issues and defenses were raised in the subsequent suit against American. Relevant for this discussion was American’s assertion of the genuine dispute doctrine as a defense against Howard’s allegations of bad faith. Under the genuine dispute doctrine, if the insurer can show that a genuine dispute existed as to coverage, then it is entitled to summary judgment on the insured’s bad-faith cause of action. Here, American argued, there was a genuine dispute as to whether the molestation occurred during the policy period. Although Howard alleged in his complaint that the molestation occurred sometime between 1977 and 1991, American argued that the only evidence presented at trial showed that the molestation occurred after the policy expiration. The weakness of this argument was that the underlying trial did not focus on when the molestation occurred, but rather whether it occurred. Therefore, the subsequent suit against American was not limited to the evidence offered at the previous trial. Further, the court held, the genuine dispute rule does not apply in all bad faith insurance contexts.

In first party cases, where payment is sought for the insured’s direct losses, an insurer may raise a reasonable dispute over coverage without being guilty of bad faith. But it has never been held that an insurer in a third party case may rely on a genuine dispute over coverage to refuse settlement. Instead, it is a long-standing rule that “the only permissible consideration in evaluating the reasonableness of the settlement offer becomes whether, in light of the victim’s injuries and the probable liability of the insured, the ultimate judgment is likely to exceed the amount of the settlement offer.

Id. (internal citations omitted). Essentially, American’s dispute over coverage could not justify its failure to refuse settlement and should not affect its evaluation of whether a settlement offer is a reasonable one. American had a duty to the insured to evaluate and participate in the settlement negations despite the potential coverage issues. In addition, the court noted that a genuine dispute exists only where the insurer’s position is maintained in good faith and on reasonable grounds. Here, the court found that American distorted Howard’s deposition testimony by equating his memory of specific acts of molestation into an admission that no molestation occurred during the policy period. This, the court decided, was unreasonable and evidence of bad faith.

The key takeaway in this case is the narrowing of the genuine dispute doctrine. The court’s opinion essentially limits the doctrine’s use as a defense in bad faith failure-to-settle cases and reinforces the principle that the mere hint of potential coverage invokes the duty to defend.

Insurance Commissioner Poizner Publicly Denounces Lawsuit Over Rescission Regulations

On July 19, 2010, Insurance Commissioner Poizner promulgated regulations designed to limit the practice of rescissions in the health insurance industry. See our blog article, New Regulations Take Aim at Policy Rescissions, on this. Last Monday, an insurance industry trade group filed a lawsuit in San Francisco to block the regulations, which would have been effective August 18, 2010. Poizner commented on the lawsuit stating: “I find it unconscionable that insurers would sue to keep the Department from stopping the horrific practice of illegal rescissions[.] Sometimes I think representatives in this industry have their heads permanently stuck in the sand. Illegal rescissions are a repugnant industry practice. In this current environment, this lawsuit is simply short-sighted and morally wrong.” The Association of California Life and Health Insurance Companies says the new rules would impose new costs and inconveniences on consumers and are unnecessary.

The Waiver Doctrine, Alive And Well in ERISA Cases

The Wednesday August 11, 2010 edition of the Los Angeles Daily Journal featured my article, entitled “The Waiver Doctrine, Alive And Well in ERISA Cases,” in the Perspective column. It explains a very recent case from the Ninth Cirhttp://www.dailyjournal.comcuit Court of Appeals in Mitchell v. CB Richard Ellis Long Term Disability Plan, 2010 DJDAR 11532 (9th Cir. July 26). The article is posted below with permission of Daily Journal Corp. (2010).

New Regulations Aim at Policy Rescissions

Insurance Commissioner Steve Poizner has announced new regulations that go into effect aimed at combating improper rescissions by insurance companies. These will go into effect on August 18, 2010. Poizner said in his press release of August 6, 2010: “Keeping your health insurance can literally be a matter of life and death, and I have zero tolerance for insurers who use pretexts to illegally rescind policies. These tough regulations embody my commitment to enforce the law and protect consumers who buy medically underwritten insurance coverage.”

Under current law, insurance policies can only be rescinded by a health insurer under very specific, limited circumstances.

The new regulations, according to Insurance Commissioner press release, will do the following:

Prohibit insurers from rescinding policies when they are not in compliance with specified underwriting practices regulations.
Restrict health condition and history questions on applications to those that are necessary for medical underwriting.
Require all questions on health insurance applications be clear, specific and understandable.
Require use of new and improved health history questionnaires approved by the Department before an insurer can rescind.
Allow consumers to indicate that they are unsure of or cannot remember the answer to a particular health history question.
Require that agents attest if they help applicants with a health insurance application.
Prohibit confusing phrasing of application questions like double-negatives and certain compound questions.
Require that consumers be given a copy of their application to check for discrepancies.
Require that insurers not rely solely on self-reported health history when possible.
Prohibit insurers from conducting certain rescission-focused investigations long after becoming aware of a possible misrepresentation or omission by the applicant. Also prohibits insurers from seeking information outside the scope of such an investigation.
Require that insurers give consumers the opportunity to respond during rescission investigations, and that insurers must listen to consumer-provided information.
Require that insurers identify and resolve any reasonable questions arising from the application. Insurers must document their effort to resolve these issues and make those documents available to the Commissioner

The new regulations, Article 11 Standards for Health History Questionnaires in Health Insurance Applications, Pre-Issuance Medical Underwriting and Rescission of Health Insurance Section 2274.72(b), requires insurers to apply a “reasonable layperson standard” which “recognizes and takes into account the level of understanding and appreciation of words and terms in a health history questionnaire by the average individual who lacks professional training and experience.” Health questionnaires will need to take into account the level of understanding of an individual who has no medical background or training. In addition, the questions asked on an application must be material to the underwriting process, and the consumer will be allowed to indicate they cannot remember, or are unsure of an answer to a particular health question.

With these new regulations, consumers should have an easier time obtaining and keeping their health insurance.

New Appeal Regulations For Health Plans Require Final Claims Decision To Be Made By External Reviewer

The Department of Health and Human Services issued new appeal regulations under the recently enacted Patient Protection and Affordable Care Act (“Affordable Care Act”). These regulations give claimants the right to appeal decisions made by their health plan to an outside, independent decision maker, regardless of what state they live in or what type of health coverage they have, i.e., both group and individual coverage. If a particular health plan or insurance is governed by a state law, the state regulations will apply as long as the protections offered to consumers is at least as strong as the National Association of Insurance Commissioners (“NAIC”) Model Act. At a minimum, the state external review process must provide:

External Review of plan decisions to deny coverage for case based on medical necessity, appropriateness, health care setting, level of care, or effectiveness of a covered benefit.
Clear information for consumers about their right to both internet and external appeals – both in the standard plan materials, and at the time the company denies a claim.
Expedited access to external review in some cases – including emergency situation, or cases where their health plan did not follow the rules in the internal appeal.
Health plans must pay the cost of the external appeal under State law, and States may not require consumers to pay more than a nominal fee.
Review by an independent body assigned by the State. The State must also ensure that the reviewers meet certain standards, keep written records, and are not affected by conflict of interest.
Emergency process for urgent claims, and a process for experimental or investigational treatment.
Final decision must be binding so, if the consumer wins, the health plan is expected to pay for the benefit that was previously denied.[1]

For plans governed by ERISA or not otherwise covered by a state law external appeal process, a federal external review program will be required. Since these are still interim rules, a framework for the federal external review process has not been established. However, the federal review process will likely be modeled along the NAIC Model Act.

These regulations are clearly a win for consumers who have long complained that the internal appeals process is biased towards insurance companies. Unfortunately, it will take some time for consumers to reap the benefits of these changes. Health plans that were in effect on March 23, 2010 and have not been significantly modified since then are considered “grandfathered” and not subject to these regulations. However, over time, expect to see an external review process become a standard component of the claim review process.

[1] Source: “Fact Sheet: The Affordable Care Act: Protecting Consumers and Putting Patients Back in Charge of Their Care,” dated July 22, 2010.

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