Any company faced with a coverage denial inevitably asks the question: Will the insurance company change its position if we sue them for bad faith? The short answer to the question is usually no. In general, insurance companies do not live in fear of a bad faith exposure because most states’ law on bad faith is strong on liability but quite weak on the award of damages.
Rules Vary by State
As a general proposition, each state has decisional law that establishes that an insurance company owes a duty of good faith and fair dealing to its insureds with respect to selling insurance policies and evaluating claims submitted for coverage under those policies. Most states also embrace the general proposition that, in fulfilling its duty of good faith and fair dealing, an insurance company cannot place its own financial interests ahead of its insureds’ financial interests when adjusting claims, and particularly when considering settlement demands within the available limits of an insurance policy.
The level of evidence varies widely among states on what is required to demonstrate that an insurer has acted in bad faith. In some instances, misconduct in handling one claim is sufficient to establish bad faith, while in other instances, bad faith can be shown against an insurer only if the policyholder can demonstrate a “pattern and practice” of bad faith conduct across a large number of claims.
Moreover, states generally disagree about when an improper coverage denial crosses the line from just being wrong and into being driven by bad faith. Courts routinely grapple with the tension of whether bad faith liability should be imposed each and every time an insurer denies a claim and the insurers’ leveraging their success by issuing knee-jerk denials and/or conducting never-ending claims investigations that ultimately lead to avoiding a proper claim and/or paying less than its fair value. Courts employ squishy standards where claims that are “not fairly debatable” lead to a finding of bad faith and the parties spend significant time and resources trying to develop their claims against that imprecise standard.
Courts Tend to Favor Policyholders
In reality, most bad faith decisions result from extreme facts that often involve sympathetic plaintiffs who have been left in the lurch by their insurance company. Courts will punish insurance companies for bad faith if the facts reveal that the insurer made lowball settlement offers, took entrenched and indefensible positions in evaluating the insured’s potential liability in third-party liability claims, failed to conduct any investigation of the claim before denying it, delayed payment of undisputed portions of the claim to obtain leverage for the disputed aspects of the claim, and the like.
Assuming the policyholder has sufficiently juicy facts to establish bad faith liability, the next hurdle it faces is quantifying the damages that resulted from the insurer’s bad faith. By the time bad faith is evaluated, the policyholder already has established entitlement to coverage and that “the claim” will be paid.
Mixed Decisions on Attorney Fee Recovery
Then, policyholders routinely seek recovery of any attorneys’ fees that they incurred to enforce their coverage rights under the policy. Courts nationally are mixed on that issue. Some courts will award attorneys’ fees as an exception to the American Rule in recognition that insurance companies must be punished for their bad faith conduct and to deter against future improper denials and/or improper claims handling practices. Other courts may allow attorney fee awards under liability policies but not first-party property policies. Still other courts are averse to allowing the award of attorney fees at all or will leave the decision to the “sound discretion” of the trial court to be decided on a case-by-case basis.
Policyholders also attempt to recover consequential damages that flow from an insurer’s bad faith. Often, it is difficult for policyholders to quantify damages over and above the amount of the claim and attorney fees incurred in connection with pursuing coverage. Corporate policyholders must think creatively about how to capture lost opportunity costs, lost time value of money and the like.
Some states have addressed this issue by developing statutory relief. Typically, these bad faith statutes establish that the policyholder, functioning as a private attorney general, is entitled to recover any fees and costs incurred in pursuing the insurer’s bad faith. Some statues also call for the policyholder’s damages to be subject to a damages multiplier. These statutes have proved to be a useful tool for policyholders to use against recalcitrant insurers.
Insurers Worry About Decisions Leading to Discovery
Finally, it is important to note that while insurers generally are not concerned about a finding of bad faith liability against them, they are concerned about the assertion of a bad faith claim if it will lead to immediate or broad discovery obligations. In some jurisdictions, courts bifurcate the issue of bad faith from the issue of the coverage denial. In those jurisdictions, insurers effectively argue that policyholders are not entitled to take any discovery related to the bad faith claim unless and until they establish that the coverage denial was improper.
Conversely, other jurisdictions reject insurer attempts to hold off bad faith discovery for years and allow broad and immediate discovery into the insurer’s claims-handling practices not only regarding the policyholder’s claim but also claims submitted by other policyholders. Insurers abhor producing information for any claims other than the one asserted by the policyholder directly. As such, asserting a bad faith claim and having the ability to enforce discovery rights early on in litigation can serve as substantial leverage against the insurer and lead to an earlier and more favorable resolution of a disputed claim.