After the loss event and initial claim reporting, both the insured and insurance company may take steps that could impact the course of any extra-contractual actions. An insured’s bankruptcy is a common post claim event and some carriers will belatedly attempt to cure improper denials by subsequently waiving the limits or providing a defense.
The Georgia Court of Appeals and a federal court in Washington state have recently been confronted and addressed these respective issues.
1. Bad Faith and Bankruptcy
Flanders v. Jackson, 2018 WL 796339 (Ga. Ct. App. 2018)
The Flanders decision arose after an insured (Jackson) caused a motor vehicle collision in which Flanders’ son was killed.
At the time of the collision the insured had a $25,000 policy in place with State Farm. Flanders offered to settle her claim for the $25,000 policy limit which was rejected by State Farm.
After the lawsuit was filed the insured filed for and received a discharge in bankruptcy. The insured then moved for partial summary judgment in the underlying liability case arguing that no judgment exceeding the $25,000 policy limit could be entered against him given the bankruptcy discharge.
The trial court agreed and entered a partial summary judgment in the insured’s favor.
On appeal, the Court easily reversed this decision after examining the bankruptcy filings as well as the intent of the bankruptcy statutes. The Court noted that the bankruptcy trustee listed the potential bad faith claim against State Farm as an asset of the bankruptcy estate and an order modifying the automatic stay provided that neither the order or any action taken by the movant will affect the bad faith claim against the insured’s carriers. Further, the discharge order provided that the discharge would not stop creditors from collecting from anyone else who might be liable on the debt including an insurance company.
In addition, after reviewing the statutory bankruptcy provisions, the Court noted that a bankruptcy discharge does not extinguish a debt, but only releases the debtor from personal liability for the debt. The debt itself still exists but is only collectible from another entity that might be liable including an insurer.
In the insurance context, to hold otherwise would compel claimants to accept policy limits at a late date and would provide an incentive for insurance carriers to encourage insureds to file bankruptcy in order to limit a claimant’s recovery.
Given recent statutory changes in Missouri, the potential for insureds filing for bankruptcy has likely increased. While there are numerous concerns that must be addressed after an insured has filed for bankruptcy, the reasoning in Flanders helps illustrate that the bankruptcy protections afforded to insureds do not, and rightfully so, automatically extend to the carrier. This reasoning is in line with the judgment rule as well as Missouri case law holding that an .065 agreement in which the insured’s assets are exempt from execution does not alleviate the carrier’s bad faith liability for an excess judgment. Nonetheless, it is important not to limit recovery to the insurance limits when seeking relief from the stay, and equally important to receive an assignment of the extra-contractual claim from the trustee.
2. Duty to Defend and Cures of Prior Breaches
2FL Enterprises, LLC v. Houston Specialty, 2018 WL 706406 (W.D. Wash. 2018)
2FL was a construction company insured by a series of policies issued by Houston Specialty.
In 2013, 2FL was contacted by the owner of a building (MCS) where 2FL had previously performed work concerning ongoing problems with leaks. 2FL attempted to make repairs to the building but could not remedy the problem. After the leaks continued, 2FL put Houston Specialty on notice of the issue and provided certain documents to Houston Specialty’s third party administrator.
MCS eventually filed suit and 2FL tendered the defense to Houston Specialty. Houston Specialty took no coverage position for five months and did not retain an attorney for 2FL. After five months, Houston Specialty denied coverage including a defense and 2FL tendered the claim to its other carrier (Hanover) who accepted coverage and retained counsel.
After several more months and without notifying 2FL, Houston Specialty contacted Hanover’s counsel and offered to join in 2FL’s defense.
Subsequently, Houston Specialty determined that Hanover’s attorney would not adequately represent Houston Specialty’s interests and decided to retain different counsel. Once informed of this development, 2FL rejected Houston Specialty’s defense and filed suit for breach of the duty to defend and bad faith. 2FL then filed motions for summary judgment on Houston Specialty’s breach of the duty to defend and bad faith.
Duty to Defend
Like most states, the duty to defend in Washington is much broader than the ultimate duty to indemnify. Because of this, the Court quickly determined that Houston Specialty had a duty and breached the duty to defend 2FL in the MCS lawsuit as the allegations in the complaint were covered. Moreover, the Court found that Houston Specialty’s attempt to use of inaccurate extrinsic evidence to deny coverage a wholly inappropriate action under Washington law as extrinsic evidence can only be used to trigger the duty to defend and cannot be used to deny a duty to defend.
Further, the Court rejected Houston Specialty’s arguments that its attempts to participate in 2FL’s defense after its initial denial of coverage cured its previous breach. In slapping down this argument, the Court discussed contract and insurance principles providing that after one party breaches the contract, the other party is not obligated to continue its performance. In this case, 2FL’s obligation to cooperate was excused and it had no obligation to accept Houston Specialty’s belated offer of a defense after Houston Specialty’s initial denial of coverage.
In addition to finding that Houston Specialty breached its duty to defend, the Court determined as a matter of law that Houston Specialty acted in bad faith.
In so finding, the Court determined that Houston Specialty’s use of extrinsic evidence (in addition to such information being inaccurate) was both egregious and in contravention of Washington law. Further, the Court looked at Houston Specialty’s specific reasons for denying coverage and determined that these reasons were also contrary to Washington law. Because of this, the Court stated it had no difficulty in finding that Houston Specialty’s conduct was unreasonable, unfounded, and as a matter of law, constituted bad faith.
Further, the Court noted that, in Washington, once an insured has established that a carrier has acted in bad faith, a rebuttable presumption of harm is imposed, and it becomes the carrier’s burden to rebut the presumption. In attempting to do so, Houston Specialty argued that Plaintiff had not set forth any actual harm in part based on the fact that MCS’s lawsuit was still ongoing and no adverse judgment had been entered.
The court rejected this argument and determined this did not rebut the presumption of harm. In doing so, the Court noted potential harms that come with a lengthy delay followed by the carrier wrongfully denying coverage including:
While the 2FL decision turns on the specifics of Washington law, the discussion focusing on prior breaches not being cured by subsequent actions taken by the carrier is highly relevant to Missouri and has been discussed at length in Missouri appellate decisions. While some of these Missouri appellate decisions may be impacted by recent changes to R.S.Mo. §537.065, carriers should not be given a second bite at the coverage apple unless and until they make their insureds completely whole.
- The time and expense to find a carrier to defend the liability action;
- Potential credit damage to an insured; and
- Damage to an insured’s credibility, reputation, and goodwill.