In a recent controversial decision, the Texas Supreme Court attempted to clarify what it believes has been confusing precedent in first-party claims involving the interplay of breach-of-contract claims and claims for violation of the Insurance Code by announcing five general rules for when damages are recoverable. USAA Texas Lloyds Co. v. Menchaca, Case No.14-0721 (Tex. Apr. 7, 2017).

The insured sued her insurer for failing to conduct a reasonable investigation after her home sustained damage. The insurer determined that the damages did not exceed the deductible. The policyholder asserted claims for breach of the policy and unfair settlement practices in violation of the Insurance Code, seeking the insurance benefits she contended should have been paid along with attorney’s fees, and court costs. The jury found that the insurer complied with the terms of the policy, thus finding no breach of contract, but did find that the insurer denied the claim without conducting a reasonable investigation in violation of the Insurance Code. The damages question was not predicated and the jury awarded $11,350 for the amount that should have been paid over the amount that was actually paid.

Both parties moved to enter judgment in their favor. The insurer contended that pursuant to Provident American Ins. Co. v. Castañeda, the insured could not recover on an extra-contractual claim for what were contract damages. 988 S.W.2d 189 (Tex. 1998). By contrast, the insured contended that pursuant to Vail v. Texas Farm Bureau Mut. Ins. Co., she could recover under either theory. 754 S.W.2d 129 (Tex. 1988).

On appeal, the Texas Supreme Court acknowledged that seemingly conflicting rules on insurance tort and breach-of-contract claims had led to confusion in the lower courts. Without abrogating any prior decision, the Court pointed out how the decisions were actually consistent and distinguished the facts in various precedent. The Court cited its earlier opinion in Republic Ins. Co. v. Stoker where it had held there can be no bad faith for promptly denying a claim that was not covered, but that the Court had not excluded the possibility that in denying a claim, an insurer could commit some act so extreme that it would cause injury independent of the policy claim. 903 S.W.2d 338 (Tex. 1995). The Court felt that this case “presented an opportunity to provide clarity between claims for an insurance policy breach and Insurance Code violations,” which it distilled into five rules for when damages are recoverable.

  1. General Rule: An insured cannot recover policy benefits for an insurer’s statutory violation if the insured does not already have a right to those benefits under the policy.
  2. Entitled-to-Benefits Rule: As a corollary to the first rule, an insured who establishes a right to receive benefits under the policy can recover benefits under the Insurance Code (as an alternative to a breach of contract claim) if the insurer’s statutory violation causes loss of benefits.
  3. The Benefit-Lost Rule: An insured can recover benefits as actual damages under the Insurance Code even if the insured has no right to the benefits under the policy if the insurer’s conduct caused the insured to lose that contractual right. The Court cited as examples misrepresentation claims and waiver and estoppel claims.
  4. The Independent Injury Rule: If an insurer’s statutory violation causes an injury independent of the loss of policy benefits, the insured may recover damages even if the policy does not grant the insured the right to benefits. This is the situation addressed in Stoker. The Court noted that in the 17 years since the Stoker decision, no Texas court has held a recovery available for an insurer’s extreme act.
  5. No-Recovery Rule: The converse is also true. An insured cannot recover any damages based on an insurer’s statutory violation unless the insured establishes a right to receive benefits under the policy or an injury independent of a right to benefits.

While commentators disagree as to whether this opinion creates more confusion than less, and whether this analysis is a departure from prior precedent, most attorneys seem to be in agreement that there will be less predictability in how lower courts will construe these clarifying rules and that policyholders will be more inclined to plead a variety of extra-contractual claims.