Acknowledging its own precedents had “led to substantial confusion among other courts,” the Texas Supreme Court in Menchaca attempts to clarify “the relationship between contract claims under an insurance policy and tort claims under the Insurance Code.”

Hurricane Ike hit Galveston Island in September 2008, and Gail Menchaca filed a claim under her USAA homeowner’s policy. Based on its adjusters’ findings that the damages were less than the deductible, USAA refused to pay anything under the policy. Menchaca sued, and the case went to a jury, which found (1) USAA did not fail to comply with the terms of its policy; (2) USAA did refuse to pay the claim without conducting a reasonable investigation; and (3) the amount USAA should have paid for Menchaca’s damages was $11,350. The trial court disregarded the jury’s answer to the first question, and awarded Menchaca $11,350 plus $130,000 in attorney’s fees.

USAA appealed, and the Corpus Christi Court of Appeals affirmed. The Supreme Court granted USAA’s petition for review, reversed the judgment, and remanded for a new trial. The primary purpose of the opinion, however, was to answer a question that had long been brewing in Texas insurance jurisprudence: Under what circumstances, if any, may policy benefits be recovered as actual damages for an Insurance Code violation?

On recovering policy benefits for statutory torts, the Court confronted a conflict reflected in two lines of authority. Menchaca, like other policyholders, relied on the Court’s 1988 holding in Vail that an insurer’s “unfair refusal to pay the insured’s claim causes damages as a matter of law in at least the amount of the policy benefits wrongfully withheld.” Vail v. Texas Farm Bureau Mut. Ins. Co., 754 S.W.3d 129, 136 (Tex. 1988). USAA, on the other hand—like other insurers—relied on the Court’s 1998 holding that an insurer’s “failure to properly investigate a claim is not a basis for obtaining policy benefits.” Provident Am. Ins. Co. v. Castañeda, 988 S.W.2d 189, 198 (Tex. 1998). The Court surveyed the competing lines of authority arising from these cases, and rejected the assertion that Castañeda or other cases had overruled Vail. Rather, the Court sought to reconcile the underlying principles, and articulated “five distinct but interrelated rules that govern the relationship between contractual and extra‐contractual claims in the insurance context:”

1. An insured generally cannot recover policy benefits as damages for an insurer’s statutory violation if those benefits are not recoverable under the policy.

2. An insured who proves a right to benefits under the policy can recover those benefits as actual damages under the Insurance Code if the insurer’s statutory violation caused the loss of the benefits.

3. Even if the insured cannot prove a contractual right to policy benefits, the insured can recover benefits as actual damages under the Insurance Code if the insurer’s statutory violation caused the insured to lose that contractual right.

4. If an insurer’s statutory violation causes an injury independent of the loss of policy benefits, the insured may recover damages for that injury, whether or not benefits are recoverable under the policy.

5. An insured cannot recover any damages based on an insurer’s statutory violation if the insured had no right under the policy to receive benefits and sustained no independent injury.

The Court offered legal analysis and some examples of each rule’s application. Establishing a viable claim for “independent injury” under rule 4, however, may be difficult—the Court acknowledged it has “yet to encounter one.”

Applying these rules, and concluding the lower courts had erred by disregarding the jury’s verdict on the contract claim, the Court reversed Menchaca’s judgment. But because the parties and the courts had labored under an “obvious and understandable confusion” over the applicable law, the Court remanded to the trial court for a new trial “in the interest of justice.”