Insurance Bad Faith Explained
“Policy limits” means the maximum amount payable by the insurer under an insurance policy (absent any bad faith liability).
Automobile liability insurance: Auto policies usually have separate policy limits for:
— “bodily injury” to “each person”;
— “bodily injury” arising out of “each accident”;
— “property damage” arising out of “each accident”; and
— medical expenses.
Third Party Bad Faith Refusal to Settle
An insurance claim may be brought against someone who is insured for a loss that negligently caused a person to be injured, such as in an automobile collision. If that happens, the other party’s insurance company will defend the claim on behalf of their insured, and the insurance company is liable to pay that claim up to the insurance policy limits of their insured. This type of suit is referred to as a “third party” claim.
By way of contrast, if an insured brings a lawsuit against its own insurance company, that is referred to as a “first party” claim. Examples of that include uninsured motorist or underinsured motorist claims against the insured party’s own insurance company. Other first party claim examples are claims against the policy holder’s own homeowner’s policy (for damages to an insured residence due to a covered event, such as from a pipe breaking, fire, or other damage to an insured home).
Third party liability insurance policies typically give the insurer discretion to settle “any claim or ‘suit’” brought against the insured. The insurer’s discretion when exercising this control is subject to the implied covenant of good faith and fair dealing; however, the power to make the decision to settle a third party claim, and for how much, belongs to the insurance company, not the insured. One aspect of the duties imposed on the insurer by the implied covenant of good faith and fair dealing is to accept reasonable settlement demands within policy limits in order to avoid exposing its insured to personal liability in excess of those limits. [Comunale v. Traders & Gen. Ins. Co. (1958) 50 Cal.2d 654, 659.]
A properly executed policy limits demand that is rejected by an insurer/insurance company will “open the policy” and expose the insurer to liability for the amount of any judgment that exceeds the policy limits, irrespective of the amount of the original policy limits. However, the insurer must have been given a reasonable amount of time to accept the demand. While the amount of time deemed “reasonable” is dependent on the particular facts of the case, as little as one week may suffice. [Critz v. Farmers Ins. Group, (1965) 230 Cal.App.2d. 788, 798.] This stems from the fact that each insurance policy contains an implied covenant of good faith and fair dealing that obligates the insurer to accept reasonable settlement demands within policy limits to avoid exposing its insured to personal liability in excess of those limits.
Under CACI jury instruction 2334, if the jury finds that the policy-limits demand was reasonable, then the insurer may be liable for the entire excess judgment if it acted unreasonably in not accepting the policy-limits settlement offer.
How Does the Pinto Case Affect an Analysis of when an Insurance Company’s Policy Limits are “Open”
Prior to the recent decision in Pinto v. Farmers Insurance Exchange (2021) 61Cal.App.5th 676, if an insurance company made a mistake in not accepting an offer to settle within the policy limits, and a judgement for more than the policy limits was rendered, the insurance company was “strictly liable” for the amount of the excess judgment. (See, CACI jury instruction 2334 “Directions for Use” prior to Pinto.) After Pinto, that may no longer be the case and the insured could be liable for the insurance company’s mistake.
The law is well established that “(i)n determining whether an insurer has given consideration to the interests of the insured, the test is whether a prudent insurer without policy limits would have accepted the settlement offer.” [Crisci v. Security Ins. Co. (1967) 66 Cal.2d 425, 429.] “[I]n deciding whether or not to compromise the claim, the insurer must conduct itself as though it alone were liable for the entire amount of the judgment. … [T]he only permissible consideration in evaluating the reasonableness of the settlement offer becomes whether, in light of the victim’s injuries and the probable liability of the insured, the ultimate judgment is likely to exceed the amount of the settlement offer.” (Johansen v. California State Auto Assn. (1975) 15 Cal.3d 9, 16.)
“The size of the judgment recovered in the personal injury action, when it exceeds the policy limits, although not conclusive, furnishes an inference that the value of the claim is the equivalent of the amount of the judgment and that acceptance of an offer within those limits was the most reasonable method of dealing with the claim.” (Crisci, supra, 66 Cal.2d at p. 431.)
“The covenant of good faith and fair dealing, that is implied in every insurance policy, obligates the insurer to accept a reasonable offer to settle a lawsuit by a third party against the insured within policy limits whenever there is a likelihood of a recovery in excess of those limits.
Before Pinto, an insurer that failed to accept a reasonable settlement offer within policy limits would be held liable in tort for the entire judgment against the insured, even if that amount exceeded the policy limits. An insurer’s duty to accept a reasonable settlement offer in those circumstances was implied in law to protect the insured from exposure to liability in excess of coverage as a result of the insurer’s gamble—on which only the insured might lose.” [Rappaport-Scott v. Interinsurance Exch. of the Auto. Club (2007) 146 Cal.App.4th 831, 836]
Before Pinto, an insurer that breached its duty of reasonable settlement was liable for all the insured’s damages proximately caused by the breach, regardless of policy limits. Where the underlying action had proceeded to trial and a judgment in excess of the policy limits has been entered against the insured, the insurer was previously liable to its insured for the entire amount of that judgment, excluding any punitive damages awarded.” (Hamilton v. Maryland Cas. Co. (2002) 27 Cal.4th 718, 725.)
Prior to Pinto plaintiff had to prove each of the following to establish an insurer’s liability for bad faith failure to settle a third party claim against the insured:
Reasonable settlement demand: That the third party claimant made a reasonable settlement offer within the policy’s limits (i.e., the highest amount available under the policy for the claim in question);
Opportunity to settle within limits: That the insurer had an opportunity to settle within policy limits but failed to accept the offer;
Rejection by insurer: That the insurer rejected the offer to settle within the policy limits;
Excess judgment: That a monetary judgment was entered against the insured for an amount in excess of those policy limits.
How the Law has Changed
The law regarding whether or not the policy limits are open was recently changed in the case of Pinto v. Farmers Insurance Exchange (2021) 61 Cal.App.5th 676. In Pinto the Second District Court of Appeal held that “failing to accept a reasonable settlement offer does not necessarily constitute bad faith. “[T]he crucial issue is … the basis for the insurer’s decision to reject an offer of settlement.” (Walbrook Ins. Co. v. Liberty Mutual Ins. Co. (1992) 5 Cal.App.4th 1445, 1460.) “[M]ere errors by an insurer in discharging its obligations to its insured ‘ “does not necessarily make the insurer liable in tort for violating the covenant of good faith and fair dealing; to be liable in tort, the insurer’s conduct must also have been unreasonable.” ’ ” (Graciano v. Mercury General Corp. (2014) 231 Cal.App.4th 414, 425.) “[S]o long as insurers are not subject to a strict liability standard, there is still room for an honest, innocent mistake.” (Walbrook, at p. 1460, 7 Cal.Rptr.2d 513; accord Tomaselli v. Transamerica Ins. Co. (1994) 25 Cal.App.4th 1269, 1280, 31 Cal.Rptr.2d 433 [“erroneous denial of a claim does not alone support tort liability; instead, tort liability requires that the insurer be found to have withheld benefits unreasonably”].)
The Pinto case clarified the law in a way that judicial commentators did not expect. California Jury Instructions 2334 had previously provided that if the four factors enumerated above (reasonable settlement demand, opportunity to settle within limits, rejection by insurer, and an excess verdict) had been proven by Plaintiff, the insurer was “strictly liable” for any excess verdict.
The danger under the Pinto analysis for insured’s/policy holders is that Pinto allows the insurance company to make a reasonable mistake in a situation where only the insurance company has the power to decide whether or not to settle a case. Consequently, under Pinto, the insurance company could make a “reasonable mistake” by refusing to accept a settlement offer within the policy limits, and then when an excess verdict is rendered, their insured could be liable for their mistake.
That obviously would be unfair to the insured(s), who had no power to decide whether or not to accept the settlement offer. Under Pinto an insurance company’s “reasonable mistake” could subject their insured to liability and the insured could lose all of their assets, and/or necessitate the insured to file for bankruptcy, based upon the insurance company’s mistaken gamble. That is patently unjust. Thus, all insureds should hope that this recent case will be overturned and the previous law in the California CACI jury instructions should become the law in California.
Contact Our Firm Today
“Opening policy limits” is something JT Legal Group does in all appropriate cases so we can recover full justice for our clients. When policy limits have been opened properly, the insurance company is responsible for any verdict we obtain on behalf of our clients, despite the limited policy limits originally available. Contact our firm today for further legal assistance at (888) 529-3111.