Insurance Bad Faith – Frequently Asked Questions
When an insurance company denies a claim, that denial decision might not only be incorrect under the terms of the insurance policy, but also be in “bad faith.” As a matter of law, every insurance contract contains a covenant of good faith and fair dealing. If this covenant is violated, the insurance company is said to have acted in “bad faith.” A tortious breach of this implied covenant involves something beyond breach of the specific contractual duties or mistaken judgment. To establish a bad faith claim in first-party cases (such as those involving life insurance, health insurance, disability insurance, accidental death insurance and long-term care insurance), it must be shown that an insurer’s delay or withholding of benefits under the policy was unreasonable or without proper cause.
In general, policies involving health insurance, life insurance, or disability insurance that are paid for and provided by an employer are governed by the Employee Retirement Income Security Act of 1974 (ERISA), which precludes recovery for insurance bad faith.
When an insurance company acts in bad faith (that is, when an insurance company violates the covenant of good faith and fair dealing), the policyholder or insured can sue the insurance company for both breach of contract and the tort claim of bad faith. In addition to contract damages, damages available under a tort claim for bad faith can include foreseeable financial losses, emotional distress, and attorney’s fees incurred by the insured to force the insurance company to pay the policy benefits (Brandt fees). If the insurance company acted with malice, oppression or fraud, the insured may also recover punitive damages. Punitive damages are meant to punish the insurer and are not available in a breach of contract lawsuit.
When determining whether or not an insurer acted in bad faith, a court will use a “reasonableness” standard. This means the court will evaluate the actions of the insurers and determine if they were reasonable under the circumstances. If the insurer did not act reasonably, then the insurer has acted in bad faith in dealing with the insured.
Some examples of bad faith are:
- interpreting the language of the policy in an unreasonable manner;
- unreasonably failing to reimburse the insured for the entire amount of the loss;
- unreasonably failing to settle the lawsuit;
- unreasonable refusal to defend a lawsuit;
- unreasonable delay in paying benefits; and
- unreasonable delay in investigating the claim or improper valuation of the claim.
If an insurer does not act reasonably in complying with the terms of the insurance policy, then they have breached the covenant of good faith and fair dealing (a.k.a. bad faith) and will be held accountable by the court.
The most common causes of action against insurers in the non-ERISA context are breach of contract and bad faith.
The breach of contract claim allows an insured to recover policy benefits owed under the insurance policy plus applicable interest from the date the benefits were due (or at the rate of 10% on delayed disability payments in California). The benefits due will depend on the type of policy at issue. They may be a specific amount (e.g., death benefits) or may depend upon a proof of loss (e.g., value of property damaged or destroyed).
The bad faith (aka breach of the implied covenant of good faith and fair dealing) claim potentially allows an insured/policyholder to recover future damages owed under the policy (in disability cases), attorneys’ fees, consequential damages (economic damages caused by the bad faith conduct, such as medical bills as a result of emotional distress, interest paid on borrowed funds, loss on investment where there was a forced sale caused by insurer’s denial, lost investment opportunities because personal funds had to be used to pay expenses), emotional distress and punitive damages.
There are three primary categories of damages recoverable in these types of actions:
Contract Damages – In first-party cases, the measure of contract damages is the benefits due under the policy. In third-party cases, the measure is the amount expended or liability incurred by the insured up to the policy limits. Consequential damages are also recoverable where appropriate and are defined as those damages the parties should have foreseen as likely to result from a breach when they entered into the contract. Thus, an insured may recover damages that were within the parties’ reasonable expectation at the time of contracting.
Tortious (Extracontractual) Compensatory Damages – In bad faith actions, an insured may recover extracontractual compensatory damages based on an insurer’s tortious conduct. This includes all damages caused by the insurer’s tortious conduct, including both economic loss and non-economic harm (e.g., emotional distress). This will often include attorney’s fees reasonably incurred to compel payment of benefits due under an insurance policy (called Brandt fees).
Punitive Damages – In an action against an insurer where, in addition to bad faith or other tortious conduct, there is clear and convincing evidence of oppression, fraud or malice on the part of the insurer, the insured may recover punitive damages. Punitive damages will be awarded to punish an insurer for tortious conduct giving rise to an action not based on the terms of the insurance contract (e.g., fraud).
In addition to breach of contract and bad faith, other claims available to insureds are fraudulent and negligent misrepresentation, intentional and negligent infliction of emotional distress, invasion of privacy, and intentional interference with economic advantage. Each of these causes of action may allow for recovery of alternative and additional damages, including punitive damages.
In the context of a third-party claim, it is possible to assign a bad faith claim under certain circumstances. This is most typically done in connection with a failure by an insurer to defend and indemnify an insured for third-party liability. However, because purely personal tort claims are not assignable, the insured’s claims for emotional distress damages and punitive damages are not assignable. Essex Ins. Co. v. Five Star Dye House, Inc., 38 Cal. 4th 1252, 1263 (2006). An assignment allows the third-party claimant to obtain more than the policy limits from the insurer. Without the assignment, a third-party can only sue the insurer for the amount of the judgment as a third-party beneficiary of those liability policies. Ins. Code § 11580(a).
A concept known as “privity of contract” is required. This means that an insured under an insurance policy typically may sue for bad faith if the insured is entitled to benefits under a policy and if those benefits are wrongfully withheld. This includes the contracting parties (persons named as insureds) as well as others entitled to benefits as “additional insureds” or as express beneficiaries under the policy. In insurance parlance, this means that the “named insured” and any “additional insureds” may sue. For example, an auto liability insurance policy covering a vehicle may extend coverage to permissive users as additional insureds.
Furthermore, a designated beneficiary of an insurance contract has standing to sue for both the policy benefits and extra-contractual damages if the benefits are wrongfully withheld. An express beneficiary need not be specifically named. An insured may have standing to sue if a member of a class for whose benefit the contract was made. Someone not a party to the contract has no standing to sue. Thus, in the disability insurance context, even though a spouse may have suffered emotional distress, if she is not insured, she cannot sue the insurer for bad faith. However, if an insurer breaches an independent duty it owes to a spouse, it is possible for that spouse to sue for damages (e.g., intentional infliction of emotional distress).
The same privity of contract requirement applies in determining who may be sued. Generally, only the insurer(s) on the risk as the party to the contract can be sued. This included “primary,” “excess” and “umbrella” insurers. Moreover, it is possible to sue an insurer’s alter ego or joint venturer, typically a parent company. It is also possible under certain circumstances to sue a “managing general agent” who is appointed by the insurer to manage all or part of its insurance business.
To establish a bad faith claim in first-party cases (such as those involving life, health, disability, property and casualty, auto liability, and homeowner’s insurance), an insurer’s delay or withholding of benefits under the policy was unreasonable or without proper cause. The courts have determined that many types of conduct may constitute insurance bad faith:
- Failure to accept an insured’s reasonable settlement offer. Rappaport-Scott v. Interinsurance Exch. of Auto. Club, 146 Cal. App. 4th 831, 837–838 (2007).
- Biased investigation or factual determination.
- Misrepresenting the nature of the investigatory proceedings and the insurer’s employees lied during the depositions or to the insured. See Tomaselli v. Transamerica Ins. Co., 25 Cal. App. 4th 1269, 1281 (1994). Demanding an Examination Under Oath (“EUO”) where not needed or dissuading the insureds from having their insurance litigation attorney present, misleading them as to its purpose and intimidating them during the EUO. Tomaselli v. Transamerica Ins. Co., 25 Cal. App. 4th 1269, 1277, 1281 (1994).
- Focusing on facts justifying denial, ignoring evidence that supported the claim, and failure to utilize objective standards in making its claims decisions. Wilson v. 21st Century Ins. Co., 42 Cal. 4th 713, 724 (2007); Hughes v. Blue Cross of No. Calif., 215 Cal. App. 3d 832, 845–846 (1989) (Denial of health insurance claim on the ground hospitalization was not “medically necessary.” The insurer relied exclusively on a consultant who had not investigated the claim thoroughly and ignored opinions given by other doctors. Insurer’s standard of “medical necessity” held “sufficiently at variance with community medical standards to constitute bad faith.”).
- Retention of biased doctor to conduct an independent medical exam and to prepare a report that falsely minimized the insured’s injuries. Brehm v. 21st Century Ins. Co., 166 Cal. App. 4th 1225, 1239–1240 (2008). Barbour v. UNUM Life Ins. Co., 2011 U.S. Dist. LEXIS 91060 (S.D. Cal. 2011) (Reliance on in-house experts’ analysis and failure to view the evidence in the light most favorable to the insured determined to be potentially unreasonable claims handling, and cannot create a “genuine dispute” as to coverage sufficient to absolve insurer of bad faith liability)
- An insurance provider’s act in conducting a “pure paper” review, rather than an independent medical examination, constitutes “an indicator of bias.” Phillips v. Clark County School District, 2012 U.S. Dist. LEXIS 141633, 2012 WL 4604466 (D. Nev. Sept. 30, 2012)
- Failure to conduct a thorough investigation. Guebara v. Allstate Ins. Co., 237 F.3d 987, 996 (9th Cir. 2001).
- Failure to interview necessary witnesses. See Downey Sav. & Loan Ass’n v. Ohio Cas. Ins. Co., 189 Cal. App. 3d 1072, 1084 (1987).
- Failure to investigate beyond facts and coverage theories asserted by the insured. Jordan v. Allstate Ins. Co., 148 Cal. App. 4th 1062, 1072 (2007) (Insurer must “fully inquire into possible bases that might support the insured’s claim.”)
- Failure to consult with medical experts in appropriate cases. See Wilson v. 21st Century Ins. Co., 42 Cal. 4th 713, 724 (2007); Mariscal v. Old Republic Life Ins. Co., 42 Cal. App. 4th 1617, 1624–1625 (1996) (Failure to consult with insurer’s own doctor or treating physician).
- Unduly restrictive interpretation of claim form. Delgado v. Heritage Life Ins. Co., 157 Cal. App. 3d 262, 277 (1984).
- Denial based on improper standards. Moore v. American United Life Ins. Co., 150 Cal. App. 3d 610, 621 (1984) (Insurer’s denial of a claim based on wrong legal standard may subject it to extra-contractual liability); Amadeo v. Principal Mut. Life Ins. Co., 290 F.3d 1152, 1162–1163 (9th Cir. 2001).
- Unreasonable delay in payment of claim. Brehm v. 21st Century Ins. Co., 166 Cal. App. 4th 1225, 1237 (2008) (“A delay in payment of benefits due under an insurance policy gives rise to tort liability only if the insured can establish the delay was unreasonable”).
- Deceptive, abusive or coercive practices to avoid payment of claim:
- Misrepresenting coverage. Delos v. Farmers Group, Inc., 93 Cal. App. 3d 642, 664 (1979). Note: The Insurance Commissioner’s Fair Claims Regulations require, “Every insurer shall disclose to a first-party claimant all benefits, coverages, time limits or other provisions that may apply to the claim.” 10 Cal.Code Regs. § 2695.4(a).
- Intimidating prospective witnesses. Rios v. Allstate Ins. Co., 68 Cal. App. 3d 811, 817 (1977).
- Threats to close file without payment to pressure settlement. Mustachio v. Ohio Farmers Ins. Co., 44 Cal. App. 3d 358, 362(1975).
- Groundless accusations against insured to pressure settlement. See Gruenberg v. Aetna Ins. Co., 9 Cal. 3d 566, 575 (1973).
- Arbitrary termination of benefits. See Sprague v. Equifax, Inc., supra, 166 CA3d 1012, 1020 (1985) (Termination of disability benefits without proper cause supports a finding of bad faith.)
- Inadequate communication with the insured. Delgado v. Heritage Life Ins. Co., 157 Cal. App. 3d 262, 278 (1984).
- Failure to notify the insured of certain policy rights. Davis v. Blue Cross of No. Calif., 25 Cal. 3d 418, 427–428 (1979).
- Unreasonably incorrect accountings. Johnson v. Mutual Benefit Life Ins. Co., 847 F.2d 600, 603 (9th Cir. 1988)
- Unreasonable litigation conduct. See White v. Western Title Ins. Co., 40 Cal. 3d 870, 886 (1985).
California enacted what is known as the Unfair Insurance Practices Act (“UIPA”). See Ins. Code § 790 et seq. In 1972, California enacted the Unfair Claims Settlement Practices Act (“UCPA”) which is part of the UIPA and is based on a Model Act adopted by the National Association of Insurance Commissioners. See Ins. Code § 790.03(h). Section 790.02 prohibits any person from engaging in “an unfair or deceptive act or practice in the business of insurance” as defined in Ins. Code section 790.03. The UCPA prohibits the following enumerated “unfair claims settlement practices” by insurers if knowingly committed or performed with such frequency as to indicate a general business practice:
- Misrepresenting to claimants pertinent facts or insurance policy provisions relating to any coverages at issue.
- Failing to acknowledge and act reasonably promptly upon communications with respect to claims arising under insurance policies.
- Failing to adopt and implement reasonable standards for the prompt investigation and processing of claims arising under insurance policies.
- Failing to affirm or deny coverage of claims within a reasonable time after proof of loss requirements have been completed and submitted by the insured.
- Not attempting in good faith to effectuate prompt, fair, and equitable settlements of claims in which liability has become reasonably clear.
- Compelling insureds to institute litigation to recover amounts due under an insurance policy by offering substantially less than the amounts ultimately recovered in actions brought by the insureds, when the insureds have made claims for amounts reasonably similar to the amounts ultimately recovered.
- Attempting to settle a claim by an insured for less than the amount to which a reasonable person would have believed he or she was entitled by reference to written or printed advertising material accompanying or made a part of an application.
- Attempting to settle claims on the basis of an application that was altered without notice to, or knowledge or consent of, the insured, his or her representative, agent, or broker.
- Failing, after payment of a claim, to inform insureds or beneficiaries, upon request by them, of the coverage under which payment has been made.
- Making known to insureds or claimants a practice of the insurer of appealing from arbitration awards in favor of insureds or claimants for the purpose of compelling them to accept settlements or compromises less than the amount awarded in arbitration.
- Delaying the investigation or payment of claims by requiring an insured, claimant, or the physician of either, to submit a preliminary claim report and then requiring the subsequent submission of formal proof of loss forms, both of which submissions contained substantially the same information.
- Failing to settle claims promptly, where liability has become apparent, under one portion of the insurance policy coverage in order to influence settlements under other portions of the insurance policy coverage.
- Failing to provide promptly a reasonable explanation of the basis relied on in the insurance policy, in relation to the facts or applicable law, for the denial of a claim or for the offer of a compromise settlement.
- Directly advising a claimant not to obtain the services of an attorney.
- Misleading a claimant as to the applicable statute of limitations.
- Delaying the payment or provision of hospital, medical, or surgical benefits for services provided with respect to… AIDS-related complex for more than 60 days after the insurer has received a claim for those benefits, where the delay in claim payment is for the purpose of investigating whether the condition preexisted the coverage.” Ins. Code § 790.03(h).
When determining whether an insurer’s decision to deny a claim was unreasonable, the insurer’s actions must be evaluated as of the time the decision was made. Insurers cannot rely upon facts, developments, or lawsuits that arise after the initial coverage decision was made. Public policy mandates that the reasonableness of the insurer’s decision must be evaluated as of the time it was made, and that no subsequent court ruling can be the justification for the decision. Filippo Industries, Inc. v. Sun Ins. Co. of New York, 74 Cal.App.4th 1429, 1441. Moreover, the reasonableness of the insurer’s decisions and actions must be evaluated as of the time that they were made; the evaluation cannot fairly be made in the light of subsequent events that may provide evidence of the insurer’s errors. Id. That is, an insurance carrier cannot rely on hindsight to justify its coverage decision. See Amarto v. Mercury Casualty Co., 53 Cal.App.4th 825, 832 (1997), see also Mullen v. Glens Falls Ins. Co. 73 Cal.App.3d 163 (1977). Therefore, when analyzing whether an insurer acted in bad faith when making a coverage decision, one must essentially travel back to the time the decision was made, and consider only the information that was available to the insurer at that time.
Insurers must consider the interests of their insureds at least as much as they consider their own interests. In other words, they must give equal consideration to the rights of their policyholders. All too often, in making coverage decisions, insurers search through records in order to find pieces of information, often taken out of context, to support a denial of coverage when the bulk of the information supports the payment of the insurance claim. This is a clear indication of an insurer wrongfully and in bad faith considering its own interests over the interests of the insured. Silberg v. California Life ins. Co., 11 Cal.3d 452, 460 (1974). Moreover, focusing on facts justifying denial and ignoring evidence that supports the claim is bad faith. Wilson v. 21st Century Ins. Co., 42 Cal.4th 713, 724 (2007). When an insurer selectively relies on information from the records of an insured and uses that information to deny coverage, all while ignoring evidence that supports providing coverage, the insurer acts in bad faith. In order to avoid a finding of bad faith, an insurer must provide evidence that it gave as much consideration to the insured’s interests in receiving coverage, as it gave to its own interest in denying coverage.