Ding Dong! The Wicked Witch Isn’t Quite Dead Yet

In 1979, the California Supreme Court ruled that a third party was entitled to bring an action under the state's Unfair Claims Settlement Practices Act (Cal. Ins. Code §790.03), and sue the insurer for a responsible insured for bad faith in the case of Royal Globe v. Superior Court (23 Cal.3d 880, 153 Cal. Rptr. 842, 592 P.2d 329). While the insurance company won the case overall, the decision opened the door to litigation from every third party who was dissatisfied with what an insured's insurer was doing, leaving insurers overwhelmed with both first- and third-party bad faith litigation under the code.

The California Supreme Court finally turned off the litigation spigot in 1988 when the Moradi-Shalal v. Fireman's Fund Ins. Co. (46 Cal.3d 287, 250 Cal. Rptr. 116, 758 P.2d 58) ruling in effect overturned the Royal Globe v. Superior Court decision. The courts reconfirmed that position in 1990 in the case of Granquist v. Sandberg (219 Cal. App.3d 181, 268 Cal.Rptr. 109, 3rd App. Dist.).

Meanwhile, other states seemed to buy the notion of citizen protection from those big, bad insurance companies by allowing suits to be filed for violations of unfair claim settlement practice or deceptive trade practice laws, such as Massachusetts Chapter 176-D or §93-A. That third-party right remains, as demonstrated in 2010 in Wheatley v. Mass. Ins. Insolvency Fund (456 Mass. 594, 925 N.E.2d 9). In that case, the state's high court allowed a third-party claimant to bring an action against the Massachusetts Insurers Insolvency Fund under the Unfair Competition Act. The case involved a child in a special education program who was injured at a public school in the town of Duxbury, Mass. A claim was presented to the town's liability insurer, Legion Insurance, which was declared insolvent. When neither the town nor the insolvency fund responded to the claim after a period of at least 14 months, a demand letter was issued to the fund pursuant to the unfair competition statute, General Laws Chapter 93A, which allows consumers to bring an action for damage for unfair methods of competition, as well as unfair or deceptive acts in the business of insurance. The fund responded that it was not subject to the statute because it was a state entity, and when suit was brought, the fund was granted dismissal.

On appeal, the Massachusetts Supreme Judicial Court granted direct judicial review, reversing and remanding the case to the lower court. Although it acknowledged that in an earlier case the court had found that the insolvency fund was not subject to Chapter 93A because it did not engage in either trade or commerce, the statute was amended in 1996 by the legislature as to the definition of a "person," including a person "engaged in the business of insurance." As the court found no contrary language that would exempt the fund, and the fund was a legal entity, it could be subject to the statute.

A Flood of Bad Faith Litigation

In West Virginia it was the 1986 case of Hayseeds, Inc. v. State Farm (177 W.Va. 323, 352 S.E.2d 73) that broke open a torrent of third-party bad faith litigation, even though as I assert in Excess Liability – Rights and Duties of Commercial Risk Insured and Insurers, 4th (Thomson Reuters West), I believe that the court badly misinterpreted its own statutes in cases such as Dodrill v. Nationwide Mutl. Ins. Company (201 W.Va. 1, 491 S.E.2d 1 [1996]). Hayseeds, Inc. created a climate of bitter dispute between the state's third parties and the insurance industry until 2005, when the W. Va. legislature eliminated the right of a third party to bring a bad-faith action against an insurer, under amendments made that year to the state's Unfair Trade Practices Act, W. Va. Code §33-11-4a(a). But just five years later, the West Virginia Supreme Court in effect reinstated third-party actions against insurers in Michael v. Appalachian Heating & State Auto Ins. Co. (S.E.2d, (W. Va., 2010) {2010 WL 2346274}), finding that a third party does have the right to bring an action against an insurer under the West Virginia Human Rights Act, W. Va. Code §5-11-9(7) on the grounds that the insurer paid the plaintiff too little because they were African-American or members of another protected class.

Next door, the Kentucky state court found that the unfair claims statute applies to conduct of an insurer both before and after the commencement of underlying tort litigation, first in 1988 in State Farm v. Reeder (763 S.W.2d 116), and reaffirmed in 2006 in Knotts v. Zurich Ins. Co. (197 S.W.3d 512). The court presiding over the Knotts case cited the 1999 Montana case of Federated Mutl. Ins. Co. v. Anderson (1999 Mont. 288, 991 P.2d 915), in which that state found that it was a violation of Montana's laws to continue filing frivolous appeals.

Florida's courts took a milder approach to third-party bad faith claims, and concluded in the 1997 case of State Farm v. Zebrowski (706 So.2d 275) that a third- party action would be permitted only if damages were the direct result of the violation of the state's unfair claims practices act. Permission to file a third-party bad faith claim in Florida arose in 1989 in Cardenas v. Miami-Dade Yellow Cab Co. (538 So.2d 491, Fla. App. 3rd Dist), but that decision had been disproved in 1995 by the state's supreme court ruling in Auto-Owners Ins. Co. v. Conquest (658 So.2d 928).

First-Party Rights to Sue
The Mississippi Supreme Court held in the 2004 case of Gallagher Bassett Services, Inc. v. Jeffcoat (997 So.2d 777) that a plaintiff could not recover from a negligent claims adjuster unless there was evidence of gross negligence, malice, or reckless disregard of the insured's rights. A handful of other states have also allowed first-party lawsuits against insurers under the state unfair claim or trade acts, but generally have not permitted third-party actions, as their codes reference "insureds," or "beneficiaries" of the policy, not third parties who have a separate right of action against the tortfeasor. Such was determined in the 1988 New Mexico decision of Russell v. Protective Ins. Co. (107 N.M. 9, 751 P.2d. 693).

In the 2006 case of Koch v. Bell (627 S.E. 2d 636) in North Carolina, the appellate court held that a private action, even by an insured, could not be brought against an independent adjuster, as there was no contractual relationship.

A majority of courts have held that the statutes themselves contain penalties for violations, and thus those penalties are exclusive, barring separate rights of action against insurers. Adjusters cannot give up fear that violation of a state's unfair claims act will bring doom and gloom upon them; that old witch is still alive. Even the fear of a third-party action may be hanging out there for further court exploration.