California Court Holds Insurer’s Settlement Decisions Not In Bad Faith

In its recent decision in ACE Capital v. Eplanning, Inc., 2013 U.S. Dist. LEXIS 32613 (E.D. Cal. March 8, 2013), the United States District Court for the Eastern District of California had occasion to consider California rules concerning settlement of competing claims to limited insurance proceeds, particularly in a situation where some of the claims are not covered.

Underwriters insured Eplanning under a $5 million claims made and reported professional liability policy.  A number of claims were made and reported during the policy period, the total of which far exceeded the policy’s limit of liability.  While Underwriters initially undertook the defense of Eplanning and settled some of the underlying claims, it eventually interpleaded the remainder of the policy proceeds - just in excess of $300,000 - into the court to be allocated among the various remaining claimants.  At issue in the interpleader was whether Underwriters’ conduct was in bad faith, pursuant to Schwartz v. State Farm, 88 Cal.App.4th 1329 (2001), for not having commenced its interpleader earlier.  This bad faith claim, however, was asserted by underlying plaintiffs who had brought four individual suits not covered under the policy since their claims were first made after the policy’s expiration.   These plaintiffs, as the assignees of the insured, argued that an insurer can still act in bad faith, even where no policy benefits are ultimately due, “where there are numerous covered claims asserted against the policy” and where there is a potential for coverage.  Thus, plaintiffs argued that Underwriters committed bad faith in its settlement of other claims, and that this bad faith cause of action was assignable notwithstanding the fact that plaintiffs’ underlying suits were not otherwise covered under the policy.

The court disagreed, noting that given the claims made and reported nature of Underwriters’ policy, and given the fact that the four suits brought by underlying plaintiffs were commenced after the policy’s expiration, there never was a potential that these particular claims would be covered under the policy.   The court concluded that the decision in Schwartz only extended to claims for which insurers can have a coverage obligation and where this coverage obligation is breached.  Thus, Underwriters were not required to consider plaintiffs’ four suits in making its decisions concerning settlement and interpleader.  The court agreed that Underwriters could have no bad faith exposure to underlying plaintiffs given the correctness of Underwriters’ disclaimer of coverage.  As the court explained, “an insurer cannot be held liable on a bad faith claim for doing what is expressly permitted in the agreement.”

Nevada Court Addresses Insurer’s Need for Interpleader

One of the more perplexing issues faced by insurers is how to handle multiple claims, or a claim involving multiple insureds, when there are insufficient policy limits available to pay all loss.  In states where insurers are not free to settle claims on a first-come, first-serve basis, interpleading the policy limits into court may be an option.  In its recent decision in Everest Indemnity Ins. Co. v. Aventine-Tramonti Homeowners Association, 2012 U.S. Dist. LEXIS 33860 (D.Nev. Mar. 13, 2012), the United States District Court for the District of Nevada, in a matter of first impression under Nevada law, addressed the protections afforded by interpleader.

The insurer, Everest, issued a primary owner-controlled insurance program (OCIP) in connection with the construction of a housing development.  The policy had a $1 million limit of liability that was eroded by defense costs or, as the court described it, a “burning limits” policy.  Two of Everest’s insured were sued in connection with a construction defects suit, and Everest undertook their defense.  Everest paid nearly $150,000 in defense costs before offering the remaining limit to the claimant.  This offer was rejected, and the claimant indicated that it would continue to pursue a multi-million dollar judgment and that the complaint would be amended to add several other defendants qualifying as insureds under the policy.  Recognizing that there would be numerous insureds competing for the same remaining $850,000 limit, Everest terminated its defense and filed an interpleader action, whereupon it sued approximately sixty (60) of the insureds under its policy for an interpleader and declaratory relief.  The underlying matter eventually settled and the court released the interpled funds to the underlying plaintiff and defendants. 

At issue in Everest was the breach of contract and bad faith claims raised by one of the insureds under the policy, Rising Sun, which while not a defendant at the time Everest terminated its defense of the underlying suit, was later added as a defendant.   At that time, Rising Sun tendered its defense to Everest.  Everest denied a defense to Rising Sun and instead directed it to request from the court periodic disbursements from the interpled funds to pay for its defense.  Rising Sun argued that Everest had a duty to defend each of its insureds until the policy limit was exhausted and that paying the funds into the court as part of an interpleader action did not constitute exhaustion. 

The court held that under the circumstances, Everest’s commencement of an interpleader was the appropriate mechanism for resolving the various parties’ claims to the limited fund and that by doing so, Everest properly discharged its duties under the policy.  Upon commencing the interpleader and paying the funds into the court, a party such as Rising Sun was required to seek reimbursement for defense and indemnity payments from the court rather than from Everest.  Depositing the funds in this manner, observed the court, is a “sure way for an insurer to extinguish its duties.”    While the court acknowledged a lack of Nevada law on the issue, the court reasoned that “interpleader would seem to extinguish the duty to defense, because the potential for indemnification ceases when the policy limits are interpled, after which the insured can no longer reach any assets of the insurer under the policy, but only the interpled funds.”