Keeping the Cap On the Policy: Unreasonable Conduct Is a Necessary Element of a “Bad Faith Failure to Settle” Claim

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Pinto v. Farmers Ins. Exch., ___ Cal. App. 5th ___ (2021)

Over the past several years, the insurance industry in California has been plagued by waves of “bad faith failure to settle” claims. These claims arise out of a variety of circumstances and can take many forms, but at their core involve the following: an insured injures a third party; that third party then offers to settle his/her claim for the policy limits; but the insurer, for one reason or another, fails to accept that settlement demand. Once that happens, the third party claimant then takes the position that the “cap is off” the policy such that the insurer should be responsible for paying the full amount of any judgment the claimant obtains against the insured, even if it exceeds the policy limits.

The Judicial Council of California Civil Jury Instruction on “bad faith failure to settle” claims – CACI 2334 – has been the subject of controversy over whether it accurately states the elements of such a claim. California courts have consistently held that to establish “bad faith,” a plaintiff must show that the insurer acted unreasonably. Despite that, as currently drafted, CACI 2334 only requires proof that the insurance company “failed to accept a reasonable settlement demand for an amount within the policy limits.” In essence, this imposes strict liability on an insurer for failing to accept a reasonable settlement demand even if the insurer otherwise acted reasonably.

Earlier this week, in Pinto v. Farmers Insurance Exchange, the California Court of Appeal confirmed that CACI 2334 is deficient for this very reason. There, the third-party claimant (Alexander Pinto) suffered catastrophic injuries in an automobile accident while he was a passenger in a pickup truck that was negligently driven by either Dana Orcutt or Alaxandrea Martin. The pickup truck was insured by Farmers under a policy with a $50,000 per person liability limit, which covered Martin and any permissive driver (e.g., Orcutt).

Pinto’s attorney sent Farmers a demand to settle Pinto’s injury claims for the $50,000 policy limit. The demand required the “insured” to provide a declaration confirming that there was no other applicable insurance and that the insured was not acting within the course and scope of employment at the time of the accident.

Because Farmers was unsure of which of its two insureds (Orcutt or Martin) was driving the vehicle, it endeavored to obtain declarations from each of them. However, despite diligent efforts, it was unable to obtain a declaration from Orcutt. Farmers, therefore, made several attempts to obtain an extension of the demand’s deadline, but its efforts were ignored by Pinto’s attorney. Before the deadline expired, Farmers hand-delivered an acceptance letter and a $50,000 check to Pinto’s lawyer. Farmers also provided a declaration from Martin only, because it had been unable to obtain one from Orcutt. Pinto’s attorney responded that Farmers had failed to “unconditionally accept [Pinto’s] generous offer to settle his case” because Farmers failed to provide Orcutt’s declaration. Pinto then sued Orcutt and Martin, and the parties stipulated a $10 million judgment for which the defendants were jointly and severally liable. After obtaining an assignment from Orcutt and Martin, Pinto then sued Farmers for “bad faith failure to settle.”

At the conclusion of the bad faith trial, the jury made three findings as to Farmers’ conduct toward Martin: (1) Pinto made a reasonable settlement demand; (2) Farmers “fail[ed] to accept a reasonable settlement demand”; and (3) a monetary judgment had been entered against Martin in Pinto’s earlier lawsuit. The jury made those same findings as to Farmers’ conduct toward Orcutt, plus three more: (4) Orcutt failed to cooperate with Farmers; (5) Farmers “use[d] reasonable efforts to obtain Orcutt’s cooperation”; and (6) Orcutt’s lack of cooperation prejudiced Farmers. Farmers argued that, regardless of the reasonableness of the settlement demand, because the jury made no findings that Farmers acted unreasonably in any respect, it was entitled to have judgment entered in its favor. The trial judge rejected Farmers’ argument and entered judgment for Pinto for $9,935,000.

The Court of Appeal reversed and ordered that judgment be entered in favor of Farmers. The court held that even if Pinto’s policy limit demand was reasonable, Farmers could not be held liable for rejecting it unless its decision to reject was itself unreasonable: “A claim for bad faith based on a refusal to settle [] requires proof the insurer unreasonably failed to accept an offer. [cites] Simply failing to settle does not meet that standard. A facially reasonable demand might go unaccepted due to no fault of the insurer.” Because the jury did not find that Farmers acted unreasonably, the court reasoned, Farmers was entitled to a judgment in its favor.

In so ruling, the court specifically addressed CACI 2334, which it found to be deficient because the instruction does not include the “crucial element” of bad faith liability – unreasonable conduct by the insurer: “Although CACI No. 2334 describes three elements necessary for bad faith liability, it lacks the crucial element: Bad faith.”

The court also made clear that honest mistakes or mere errors do not constitute unreasonable conduct. Instead, the court stated that “[t]o be liable for bad faith, an insurer must not only cause the insured’s damages, it must act or fail to act without proper cause, for example by placing its own interests above those of its insured.”

It is unclear whether the Judicial Council will amend CACI 2334 in light of Pinto. What is clear is that “bad faith failure to settle” claims – like any bad faith claim – require proof that the insurer acted unreasonably. It is often the case in these alleged cap-off suits that there is little to no evidence that the insurer actually acted unreasonably. Instead, the plaintiff is proceeding on some technicality and relying on a strict liability interpretation of the tort. Pinto should give insurers a significant tool to defend themselves against these types of suits.

Pinto will likely appeal this decision to the California Supreme Court. It is unclear whether the Supreme Court will grant review, but per California Rule of Court 8.1115, unless otherwise ordered by the Supreme Court, Pinto will remain citable as persuasive authority.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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