In Arellano v. Primerica Life Insurance Company, 235 Ariz. 371, 332 P.3d 597 (App. 2014), despite finding an insurer’s conduct moderately to highly reprehensible, the Arizona Court of Appeals recently reduced a punitive damages award from $1,117,572 to $328,000—a 4:1 ratio to bad faith compensatory damages of $82,000. In so holding, the Court of Appeals continues Arizona’s trend of reducing punitive damages in insurance bad faith cases to either a 4:1 or 1:1 ratio to compensatory damages.
Facts & Procedural History
The Arellano case arose from allegations that a life insurance agent (“Agent”): (1) submitted an application without the applicant’s signature, (2) represented that coverage was effective immediately upon receipt of the initial premium payment, (3) forged the applicant’s signature on an application, (4) forged the applicant’s initials on an application to lower the death benefit from $150,000 to $100,000, and (5) did not follow up after the life insurance company (“Life Insurer”) alerted the Agent to problems with the application.[1] The applicant died suddenly and the Life Insurer denied the claim because it never issued a policy.
The Beneficiary sued the Life Insurer for breach of contract and bad faith and sued various Agents for professional negligence. The Beneficiary subsequently added claims for consumer fraud, fraud, negligence, promissory estoppel, waiver, reasonable expectations, and forgery. The Life Insurer defended the claims by asserting the applicant made material misrepresentations in the application and failed to satisfy conditions necessary to issue the policy.[2] The jury awarded the Beneficiary $164,586 of compensatory damages on the breach of contract claim, $82,000 of compensatory damages on the bad faith claim, and $1,117,572 of punitive damages.[3] The trial court denied the Life Insurer’s motion to reduce punitive damages.[4]
Holding
Arellano held that, despite the Life Insurer’s “conduct falling on the middle to high range of reprehensibility,” the 13:1 ratio of punitive damages to compensatory bad faith damages was “unconstitutionally improper,” mandated reduction, and a “4:1 ratio was appropriate and warranted.”[5] Accordingly, the Court of Appeals remanded the case to the trial court with instructions to reduce punitive damages to $328,000.[6]
Rationale
The Court of Appeals began its analysis by noting the Due Process Clause in the Fourteenth Amendment of the United States Constitution imposes a substantive limit on punitive damages awards.[7] A grossly excessive punitive damage award violates the Due Process Clause if a defendant “did not have fair notice of its exposure to the extent of punishment that could be imposed.”[8] Accordingly, the Court of Appeals must act as a “‘gatekeeper’ over verdicts including a punitive damages award.”[9]
Arellano next observed, “[w]hen reviewing a punitive damages award, [Arizona] considers the following guideposts: (1) the degree of reprehensibility of defendant’s conduct, (2) the disparity between plaintiff’s actual or potential harm and the punitive damages award, and (3) the difference between the jury’s punitive damages award and the authorized civil penalties in comparable cases.”[10]
First, regarding the degree of reprehensibility, the Court of Appeals noted this guidepost is “the most important indicium of the reasonableness of a punitive damages award” and the considerations include: “whether (1) the harm caused was physical as opposed to economic; (2) the tortious conduct evinced an indifference to or a reckless disregard of the health or safety of others; (3) the target of the conduct had financial vulnerability; (4) the conduct involved repeated actions or was an isolated incident; and (5) the harm was the result of intentional malice, trickery, or deceit, or mere accident.”[11]
The Court of Appeals found the reprehensible acts of the Life Insurer and its Agents weighed in favor of affirming the punitive damages award.[12] Indeed, viewing the evidence in the light most favorable to upholding the jury’s verdict, Arellano found evidence of the following “reprehensible” acts:
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an Agent’s forgery of the applicant’s signature on the application;
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an Agent’s forgery of the applicant’s initials on the application, which attempted to reduce the policy benefits;
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acceptance of the initial premium payment with advice that payment made coverage effective immediately;
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failure to provide the Decedent and the Beneficiary with a copy of the application so they could verify the information; and
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failure to follow up with the Decedent and the Beneficiary after problems with the application arose.[13]
The Court of Appeals also observed the acts of the Life Insurer’s Agents were “far more reprehensible” than the acts in Nardelli.[14] In Nardelli, a jury found that an insurer: (1) unreasonably decided to repair rather than replace an insured’s vehicle, (2) paid the insured less than actual repair costs, and (3) failed to advise the insured of pertinent policy provisions.[15] Nonetheless, the Court of Appeals approved of the trial court reducing punitive damages from $54 million to $620,000, a 4:1 ratio, and further reduced punitive damages to $155,000, a 1:1 ratio.
Second, regarding the disparity or ratio between actual and punitive damages, the Court of Appeals prefaced its analysis by stating, there “is no bright-line ratio between compensatory and punitive damages”[16] and an “appropriate award of damages is a fact-sensitive inquiry.”[17] Nonetheless, Arellano observed that “single-digit multipliers are more likely to comport with due process, and a factor more than four comes close to the line of constitutional impropriety.”[18]
The Court of Appeals found the ratio of 13:1 weighed against affirming the punitive damages. Arellano rejected the Beneficiary’s argument that the 13:1 ratio was permissible because bad faith damages may include unpaid policy benefits and attorney fees for several reasons.[19] The jury awarded unpaid policy benefits under the breach of contract claim rather than the bad faith claim.[20] The Beneficiary sought attorney fees under Arizona’s fee shifting-statute [21] rather than as an element of bad faith damages.[22] And, the Beneficiary waived this argument by failing to raise it with the trial court.[23]
Third, regarding the difference between punitive damages and civil penalties for similar conduct, Arellano simply mentioned the Life Insurer’s argument that the civil penalty of $50,000 authorized by Arizona’s Unfair Claims Settlement Practices Act[24] “did not provide fair notice that it could be subject to a punitive damages award of more than $1 million.”[25]
Analysis
There are at least four significant take-aways from Arellano. First, Arellano continues Arizona’s trend of reducing punitive damages in insurance bad faith cases to either a 4:1 or 1:1 ratio to compensatory damages—even if an insurer’s conduct is highly reprehensible. Second, pursuant to Arellano and Nardelli, insurers could conclude (or at least argue) that the constitutional limit of punitive damages on highly reprehensible insurer conduct is a 4:1 ratio to compensatory damages and the constitutional limit of punitive damages on slightly reprehensible insurer conduct is a 1:1 ratio.[26] Third, Arellano suggests that a jury’s allocation of damages for unpaid policy benefits (which may be awarded either as breach of contract or bad faith damages) and attorney fees (which similarly may be awarded as bad faith damages or sought under Arizona’s fee-shifting statute) plays a significant role in the amount of punitive damages a jury may constitutionally award in a bad faith case. Fourth, insurers and insureds alike should note that both Arellano and Nardelli involved financial or economic harm rather than physical harm or a reckless disregard for physical health or safety. Thus, an insured could argue that the 4:1 and 1:1 ratios do not apply to punitive damages in bad faith cases where an insurer’s conduct causes bodily injury.[27]
[1] Arellano v. Primerica Life Ins. Co., 235 Ariz. 371, 374, 375, 332 P.3d 597, 600, 601 (App. 2014).
[2] Id. at 375, 332 P.3d at 601.
[3] Id. at 376, 332 P.3d at 602. The Jury also awarded the Beneficiary $32,000 on the forgery claim, $82,000 on the promissory estoppel claim, and $69,580 on the negligence claims. Id.
[4] Id.
[5] Id. at 380, 332 P.3d at 606.
[6] Id.
[7] Id. at 378, 332 P.3d at 604 (citing Nardelli v. Metro. Grp. Prop. and Cas. Ins. Co., 230 Ariz. 592, 609, 277 P.3d 789, 800 (App.2012) (internal quotation marks omitted); see also Hudgins v. S.W. Airlines, Co., 221 Ariz. 472, 489, 50, 212 P.3d 810, 827 (App.2009).
[8] Arellano, 235 Ariz. at 378, 332 P.3d at 604 (citing Hudgins, 221 Ariz. at 489, 212 P.3d at 827).
[9] Arellano, 235 Ariz. at 378, 332 P.3d at 604 (citing Nardelli, 230 Ariz. at 609, 277 P.3d at 806).
[10] Arellano, 235 Ariz. at 378, 332 P.3d at 604 (citing State Farm Mut. Auto. Ins. Co. v. Campbell, 538 U.S. 408, 409, 123 S.Ct. 1513 (2003)).
[11] Arellano, 235 Ariz. at 379, 332 P.3d at 605 (citing BMW of N. Am., Inc., v. Gore, 517 U.S. 559, 575, 116 S.Ct. 1589, 1599 (U.S. 1996); Nardelli, 230 Ariz. at 610, 277 P.3d at 807)).
[12] Arellano, 235 Ariz. at 379, 332 P.3d at 605.
[13] Id.
[14] Nardelli, 230 Ariz. 592, 277 P.2d 789.
[15] See Arellano, 235 Ariz. at 380, 332 P.3d at 606 (citing Nardelli, 230 Ariz. at 612, 277 P.3d at 809).
[16] Arellano, 235 Ariz. at 379, 332 P.3d at 605 (citing Nardelli, 230 Ariz. at 611, 277 P.3d at 808
[17] Arellano, 235 Ariz. at 379, 332 P.3d at 605.
[18] Id. (citing Hudgins, 221 Ariz. at 491, 212 P.3d at 829).
[19] See RAJI (Civil) 5th at Bad Faith 7 (First-Party) Measure of Damages (2013) (“The unpaid benefits of the policy…”).
[20] The jury awarded the Beneficiary $164,586 on the breach of contract claim. See Arellano, 25 Ariz. at 376, 332 P.3d at 602.
[21] A.R.S. § 12-341.01(A) (“In any contested action arising out of a contract, express or implied, the court may award the successful party reasonable attorney fees.”).
[22] Arellano, 235 Ariz. at 379, 332 P.3d at 605; see also RAJI (Civil) 5th at Bad Faith 7 (First-Party) Measure of Damages (2013) (monetary loss).
[23] Arellano, 235 Ariz. at 379-380, 332 P.3d at 605-606. Arellano reasoned that, pursuant to ARCP 49(c), if the Beneficiary believed the verdict was inconsistent, defective or nonresponsive because the jury did not include unpaid policy benefits in bad faith compensatory damages, then she should have moved for resubmission of the case to the jury before the trial court excused the jurors. Id. (citing Trustmark Ins. Co. v. Bank One, Ariz., NA, 202 Ariz. 535, 543, 48 P.3d 485, 493 (App.2002) (when a verdict is manifestly irregular or defective, the trial court has the power to correct a verdict in a manner that conforms to the jury’s intent, if the jury’s intent can be ascertained with certainty) (S. Pac. R.R. Co. v. Mitchell, 80 Ariz. 50, 66, 292 P.2d, 827, 837 (1956)). In Arellano, however, the Beneficiary failed to invoke ARCP 49(c) to allow the trial court to clarify the jury’s intent and resubmit the issue to the jury, if necessary. See Arellano 235 Ariz. at 380, 332 P.3d at 606. Thus, the Court of Appeals did not know why the jury omitted unpaid policy benefits from bad faith damages. Id.
[24] A.R.S. § 20-456(B) (“the director [of the Arizona Department of Insurance] may also impose a civil penalty of not more than one thousand dollars for each act or violation but not to exceed an aggregate penalty of ten thousand dollars unless the person intentionally violates any section enumerated in this subsection, in which case the director may impose a civil penalty of up to five thousand dollars for each act or violation but not to exceed an aggregate penalty of fifty thousand dollars in any six month period.”).
[25] Arellano, 235 Ariz. at 380, 332 P.3d at 606.
[26] In Nardelli, the Court of Appeals concluded the insurer’s “misconduct fell within the low to, at most, middle range of the reprehensibility scale.” Nardelli, 230 Ariz. at 611, 277 P.3d at 808.
[27] For example, an insured might allege an insurer’s conduct caused physical harm by alleging that an insurer’s lowball offers and delayed payment of underinsured motorist benefits caused her to endure unnecessary pain and suffering or caused permanent physical injury.
