November 15, 2019
WHILE THERE REMAINS NO BAD FAITH CAUSE OF ACTION IN NEW YORK, A RECENT APPELLATE DIVISION CASE OUT OF THE FIRST DEPARTMENT MAKES PLAIN THAT AN INSURED NEED NOT MEET A HEIGHTENED PLEADING STANDARD WITH RESPECT TO CONSEQUENTIAL DAMAGES
It is well settled that, in New York, there can be no separate tort cause of action for an insurer’s purported bad faith failure to perform its obligations under an insurance contract. In the oft-cited Bi-Economy Market, Inc. v. Harleysville Insurance Co., 10 N.Y.3d 187, 191 (2008), New York’s highest court found that a property insurer may be liable for foreseeable damages that flow from an insurer’s breach of a first-party property policy. Despite commentary suggesting that Bi-Economy opened the door to a tort of bad faith claims handling in New York, courts have been clear that the decision was based on the insured’s claim for consequential contract damages, not the tort of bad faith claims handling.
Indeed, New York courts have repeatedly rejected attempts to extend Bi-Economy in order to create a cause of action for bad faith. Our insurance practice group procured one such holding in Orient Overseas Associates v. XL Insurance America, Inc., 18 N.Y.S.3d 381 (2015). There, the Appellate Division, First Department, confirmed that there is no bad faith cause of action in New York.
On January 17, 2019, the Appellate Division, First Department, had occasion to revisit the topic of bad faith claims. In D.K. Property, Inc. v. National Union Fire Insurance Co. of Pittsburgh, Pa., 92 N.Y.S.3d 231 (2019), insured D.K. brought a claim under a commercial insurance policy for alleged “direct physical loss or damage” to its building in downtown Manhattan. When, after three years, National Union had not paid or denied the claim, D.K. sued for breach of contract and breach of the implied covenant of good faith and fair dealing. D.K. sought consequential damages on both counts, as well as attorneys’ fees on the bad faith count.
National Union moved to dismiss D.K.’s demand for consequential damages for failure to state a claim, and the lower court granted the motion (except for attorneys’ fees). 74 N.Y.S.3d 469 (2018). In granting the motion, the trial court referenced Orient Overseas, explaining that the First Department was careful to distinguish cases where the insured had asserted a separate claim for breach of the covenant of good faith and fair dealing, as opposed to a tort claim, but that even then the claim must not be wholly duplicative of the breach of contract claim. Id. at 472. The trial court further explained that D.K. was required to “allege and prove that the type of consequential damages it seeks were reasonably contemplated by the parties prior to contracting,” and found that D.K. had not met this standard. Id. at 473. This was, in part, because D.K. only alleged “in a general conclusory fashion that ‘consequential damages for bad faith breach of the Policy were reasonably contemplated by [the parties],’” and did not allege that the specific types of damages it sought “were a natural and probable result of [the insurer’s] breach of its duty of good faith.” Id.
The Appellate Division, First Department, reversed and reinstated D.K.’s demand for consequential damages. 92 N.Y.S.3d at 231 (2019). The Appellate Division agreed that D.K. could seek consequential damages that were foreseen, or should have been foreseen when the contract began, and that D.K. would ultimately have to establish “what liability the insurer is found to have ‘assumed consciously.’” Id. at 233. The Appellate Division, however, rejected the notion that this determination should be made at the motion-to-dismiss phase, because “the inquiry is not whether plaintiff will be able to establish its claim, but whether plaintiff has stated a claim.” Id. The Appellate Division emphasized that whether D.K. would be able to establish a claim for consequential damages would have to “await a fully developed record.” Id.
In so ruling, the Appellate Division also rejected the notion that there was a heightened pleading standard requiring D.K. to explain or describe why the specific categories of consequential damages alleged were reasonable and foreseeable at the time of contract. Id. at 232-33 (“There is no heightened pleading requirement for consequential damages.”). The Appellate Division thus found that D.K. sufficiently stated a claim for consequential damages as to both the breach of contract and bad faith counts.
Importantly, D.K. did not disrupt or change the overall bad faith landscape in New York. The same facts cannot support both a breach of contract and bad faith claim, and consequential damages sought must be reasonably foreseeable at the time the parties entered into the insurance contract. Nonetheless, the decision may assist insurers in getting their bad faith counts over the motion-to-dismiss hurdle. While an insured need not meet a heightened pleading standard with respect to consequential damages, it must still plead—and ultimately prove—that it suffered consequential damages that were reasonably foreseeable at the time the policy incepted.