Keeping the Faith in Insurance Bad Faith
Eric Dinnocenzo, New York Law Journal, June 10, 2015
When an insurance denial seems completely wrong on its face, it is common for both lawyers and laypersons to assert that it was due to "bad faith," entitling the policyholder to some form of extra-contractual damages. But the reality in New York is much more complex.
As tidily summarized in a 2014 decision from the Supreme Court, New York County: "It is not clearly decided whether there is a separate cause of action for bad faith claims handling in New York. While some courts have held yes, many more have held to the contrary." Predictably, that decision concluded there is no bad faith. In contrast, the Southern District of New York in 2011 awarded attorney fees to an insured whose claim was denied in bad faith. Other examples go back and forth in each direction.
This article will explore the shifting nature of bad faith in New York, with an eye to the modern trend expanding policyholder rights, while also considering recent cases that have rejected bad faith.
To be clear, the focus here is on bad faith in first-party actions by a policyholder against his or her insurance company after a claim denial occurs—for example, in life, disability, health, and property insurance claims—which is a different matter than third-party bad faith claims, which involve allegations that an insurance company did not appropriately defend its insured against claims brought by a third party.'Bi-Economy' and 'Panasia'
In 2008 the Court of Appeals issued what some hail as landmark decisions in insurance law in Bi-Economy Market v. Harleysville Insurance Co., 10 N.Y.3d 187 (2008) and Panasia Estates v. Hudson Insurance, 10 N.Y.3d 200 (2008), two companion cases that allowed policyholders to seek consequential damages above the policy limits against insurers, so long as the damages were reasonably foreseeable to the parties.
These decisions have been the subject of varying interpretations, not to mention numerous articles. According to some commentators, they have opened the door to first-party bad-faith claims in New York with the availability of extra-contractual damages beyond just consequential damages. Others contend that the decisions do not represent anything approaching a significant change in the law, because the award of consequential damages is not a novel remedy nor one that is limited to the insurance context, as it traces back as far as the seminal English case of Hadley v. Baxendale, 9 Ex. 341 (Eng. 1854). Still others say that a consequential damages award must be premised on a finding of bad faith.
A close analysis of the decisions, however, seems to indicate that consequential damages may be awarded for a breach of any contractual provision without a requirement of bad faith on the part of the insurance company. The key requirement is that the damages were reasonably foreseeable to the parties at the time the contract was entered into. The goal is not so much to punish the insurance company as it is to put the injured party in the same position it would have been in but for the breach.
Putting aside disputes about the exact meaning of Bi-Economy and Panasia, it is clear that they represent an important victory for policyholders, with the Court of Appeals recognizing that there are occasions when an insured cannot be adequately compensated with merely an award of the policy limits. The question is what additional implications the decisions have, if any, for aggrieved policyholders.Public Purpose of Insurance
Insurance contracts are fundamentally different than ordinary contracts, justifying bad-faith damages when there is an unreasonable claim denial—so the pro-consumer argument goes. Bi-Economy observed that insurance contracts are unique because they are not entered into for profit or commercial advantage, but instead are designed to provide the insured with "peace of mind, or comfort, of knowing that it will be protected in the event of catastrophe." This infuses insurance policies with a "quasi-public" aspect, with insurance spreading the risk in society of unfortunate events and injury. The effect of an insurance denial can be much more significant to the average person and the community at large than the breach of another type of agreement.
In addition, unlike most other industries, insurance companies can integrate litigation into their business models. It's no secret that insurance companies can profit from denying or low-balling claims and having them drag along for years in court, especially in a state such as New York that does not allow for pre-judgment interest in tort actions. Other industries—whether cell phone companies or the local hamburger joint on the corner—could not implement such a strategy, even if they wanted to, because they would find themselves out of business real fast.
Insurance companies, on the other hand, may have long relationships with customers, taking in premiums over a period of years, until a claim is made. To be fair, insurance companies respond that they implement honest business practices and that sharp practices will only cause them to lose customers. In any case, the debate from both sides is a contentious one.
Then there are the Hurricane Sandy cases, which have been a separate source of controversy. There have been much publicized reports of altered engineering reports and a recent investigation by public radio which concluded that the "Federal Emergency Management Agency set up a system that gave insurance companies an incentive to underpay claims and even bring cases to trial rather than settle out of court."
Certainly, the insurance industry is in a position where it could commit abuses on a larger scale than many other industries. The debate between business and consumers primarily centers on whether enhanced remedies should apply in this setting.The Future of Bad Faith
What makes first-party bad faith confusing is that New York courts have rejected it for different reasons. Some have merged together the bad faith and punitive damages analysis as if they were one, and though the two causes of action may seem overlapping, or at least close cousins, they do differ significantly in that punitive damages are not a distinct cause of action and they only apply to wrongs that affect the general public. Bad faith, in contrast, is a distinct cause of action, and it applies to private disputes.
Other courts have dismissed causes of action for breach of the implied covenant of good faith and fair dealing—the formal legal term for bad faith—on the grounds that they are duplicative of breach of contract when both rely on the same facts. However, a typically successful bad-faith claim will involve conduct that goes beyond a mere claim denial, and perhaps include tortious conduct.
Whether the two claims can, in fact, co-exist in the same pleading, has impliedly been answered in the affirmative in Bi-Economy and a 2009 decision from the Northern District of New York.
New York courts have also dismissed bad faith causes of action on the grounds that there is no tort remedy for the breach of the implied covenant of good faith. In fact, in 2001 the First Department was unwilling to impose a tort remedy for a breach of the implied covenant of good faith on the basis that it "would constitute an extreme change in the law of this State." Yet, that same year, Justice David Saxe of the First Department, in a scholarly dissent in Batas v. Prudential Insurance Co., 281 A.D.2d 260 (1st Dept. 2001), urged that this rule be updated:
Indeed, there is no convincing rationale for failing to provide a tort remedy for the actual damages potentially incurred by aggrieved policyholders when an insurer has unreasonably, and in bad faith, declined to cover necessary medical care, by wrongfully disclaiming coverage.
Moreover, only two years later, the First Department acknowledged that an attorney fee award may be made to a prevailing insured when there is a "showing of such bad faith in denying coverage that no reasonable carrier would, under the given facts, be expected to assert [the reason for the denial]." Similarly, a 2009 decision from Justice Wayne Saitta of the Kings County Supreme Court analyzed a line of preceding cases to conclude that there is a viable cause of action in New York for first-party bad faith.
The California Supreme Court imposed a tort remedy for the breach of the implied duty of good faith in 1973. Five years later, in 1978, the Wisconsin Supreme Court followed suit. In New York, tort liability applies to a landlord for a wrongful eviction, and a doctor for professional malpractice, even though the relationship is contractually based. If, as some courts have held, there is no bad faith due to the absence of a tort remedy, it may be that the time has come to reexamine the status quo. Moreover, there is no logical reason for insurance companies to be sheltered from tort remedies, while others, such as doctors and landlords, are not.Conclusion
Bi-Economy and Panasia are part of the modern trend to expand policyholder rights. As just some examples, California, Florida, and Texas each allow policyholders to seek legal fees from insurers for a bad-faith insurance denial. To the extent real world events have an impact on the development of the law, the controversial practices that have come to light in the Hurricane Sandy litigation indicate that New York should move in this same direction.
Bad faith jurisprudence in New York is certainly not a model of clarity. How the Court of Appeals decides the next bad-faith case that comes down the pike will make all the difference.
. Orient Overseas Assoc. v. XL Ins. Am., 2014 N.Y. Misc. LEXIS 867, 2014 NY Slip Op 30488(U) (Sup. Ct. New York Co. Feb. 26, 2014).
. See Exim, Inc. v. Innogarant, 10-5271, 2011 U.S. Dist. LEXIS 6346, 2011 WL 240130 (S.D.N.Y. Jan. 19, 2011).
. County of Orange v. Travelers Indem., 2014 U.S. Dist. LEXIS 66451 (S.D.N.Y. May 14, 2014).
. Chernish v. Mass. Mut. Life Ins., 08-0957, 2009 U.S. Dist. LEXIS 9617 (N.D.N.Y. Feb. 10, 2009).
. Acquista v. New York Life Ins., 285 A.D.2d 73, 81 (1st Dept. 2001).
. See Wurm v. Commer. Ins., 308 AD.2d 324, 329-330 (1st Dept. 2003) quoting Sukup v. State of N.Y., 19 N.Y.2d 519 (1967).
. Grinshpun v. Travelers, 885 N.Y.S.2d 711 (Sup. Ct. Kings Co. 2009).
. Gruenberg v. Aetna., 510 P.2d 1032, 1037 (Cal. 1973).
. Anderson v. Continental Insurance, 85 Wis.2d 675, 686, 271 N.W.2d 368 (1978).
. See Brandt v. Superior Court, 37 Cal.3d 813 (1985); §624.155, Fla. Stat.; Tex. Ins. Code §541.152.