Bad Faith Insurance Claims
What is bad faith? "Bad faith" is simply an abbreviated reference to the failure of the insurance company to treat its insured in the investigation, adjustment and payment of an insurance claim consistent with the common law duty of good faith and fair dealing. The courts have imposed the duty of good faith and fair dealing upon insurance carriers because of the inherently unequal bargaining power between an insurer and it's insured in the claims process.
To be precise, the Texas Supreme Court has defined the legal duty of good faith and fair dealing in the insurance context as: "failing to attempt in good faith to effectuate a prompt, fair and equitable settlement of a claim when the insurer's liability has become reasonably clear." From the legal definition, it should be obvious that just about any conduct or practice causing the wrongful delay or denial of an insurance claim can fit within this definition.
Examples of Bad Faith
Common examples of insurance company practices supporting a bad faith claim include: (1) failing to conduct a reasonable investigation of the claim (thoroughly, timely and properly); (2) wrongfully denying a claim; (3) unreasonable delay in paying a claim; (4) wrongfully cancelling an insurance policy; and (5) misrepresenting facts or policy provisions to an insured that cause the insured to lose policy benefits or settle a claim for less than full value. Obviously, many other insurance company practices that cause loss to the insured can be considered bad faith insurance practices as well. But the foregoing examples generally describe the conduct the law seeks to prohibit.
Despite the generality of the basis for a bad faith practices lawsuit, the law provides insurers with a powerful defense to such claims. The defense is reasonableness. Texas law holds that insurers can deny claims without violating the duty of good faith and faith dealing if the basis for their denial is reasonable.
The most common example of this occurs when an insurance carrier hires an expert to investigate the cause of a loss. If the expert returns a fair and unbiased report to the insurance company supporting claim denial based an exclusion in the policy, the carrier is free to deny the claim without liability for bad faith, even if it is later determined that the claim is covered under the policy.
Another example of the reasonableness defense can occur when an insurer erroneously denies a claim, but at the time of denial, a reasonable basis for the denial exists. In this scenario, an insurer reaches the correct result - denial - but for the wrong reason. For example, assume an insurance carrier denies a fire claim due to arson caused by the insured. Further assume that the insured proves that he did not commit arson. Despite this wrongful denial, if at the time of the denial the insurer has a valid basis to deny the claim it overlooked (i.e. the insured failed to pay all of the premiums due) the insurer has not violated the duty of good faith and fair dealing. What is dispositive is whether at the time of the loss a reasonable insurer would have denied the claim based upon the facts that existed at that time and not simply whether this insurer denied the claim properly.
Two Points Necessary For All Bad Faith Claims
Synthesizing the basis for a bad faith insurance practices claim with the insurer's defense of reasonableness yields two general points with regard to all bad faith insurance practices claims. First, an insurance claim must be covered under the policy before a carrier can be liable for bad faith insurance practices. (There are a few narrow - mainly theoretical - exceptions to this point.) Second, the focus of a bad faith insurance claim is not whether the carrier's denial of the claim is valid; but rather on the reasonableness of the insurer's conduct in rejecting the claim.