Most property insurance claims proceed relatively smoothly. The loss occurs; it is timely reported to the insurer; the insurer timely investigates and evaluates the loss; the parties negotiate and agree on the amount of loss; and the insurer timely pays the agreed amount.
However, there is a significant number of first-party property damage and business interruption claims where disputes arise between the policyholder and insurer over the scope and availability of coverage, or the amount of loss. This can result from either a legitimate disagreement or bad faith conduct on the part of the insurer.
Most states have adopted statutory or common law remedies for bad faith. For example, Pennsylvania and Massachusetts have statutory remedies. See e.g., 42 Pa. CS § 8371 (Pennsylvania) and G.L. c. 93A (Massachusetts). Other states have adopted common law bad faith remedies. For example, New Jersey adopted a common law bad faith remedy in Pickett v. Lloyd's, 621 A.2d 445 (N.J. 1993). Idaho is another common law state. See e.g. Hall v. Farmers Alliance Mut. Ins. Co., 2008 WL 375838.
The Case in New York
New York has been pretty much a black hole for policyholders because it effectively recognizes no bad faith remedy whatsoever in property insurance cases. Unless a policyholder can prove that the insurer has engaged in both "egregious tortuous conduct" directed at the insured and "a pattern of similar conduct directed at the public generally," the only remedy available was the amount due under the policy, plus interest. See New York Univ. v. Continental Ins. Co., 87 N.Y. 2d 308, 316 (1995); Rocanova v. Equitable Life Assur. Society, 83 N.Y. 2d 603, 613 (1994).
Bad faith and consequential damages claims in New York state and federal court have only very rarely survived the pleadings stage in the 13 years since those cases were decided. However, on February 19, 2008, that began to change.
Bi-Economy Market v. Harleysville Ins. Co.
In Bi-Economy Market v. Harleysville Ins. Co., 2008 WL 423451 (N.Y.), the Court of Appeals of New York, the state's highest court, finally allowed damages in excess of policy proceeds plus interest, although it did not create a bad faith cause of action. In Bi-Economy, the insured owned a wholesale and retail meat market in Rochester, New York. The market suffered a major fire in October of 2002, resulting in the complete loss of food inventory and heavy structural damage to the building and equipment.
The Harleysville policy provided replacement cost coverage on the building and contents, and business interruption insurance for up to 1 year from the date of the fire. Harleysville evaluated the claim at only $163,161.92. More than a year later, after the case was submitted to alternative dispute resolution (ADR), Bi-Economy was awarded $407,181. During this entire time, Harleysville offered to pay only 7 months of lost business income, despite the fact that the policy provided BI coverage for 12 months. Bi-Economy never resumed business.
Bi-Economy eventually sued Harleysville, asserting various causes of action, including breach of contract for which it sought consequential damages for the destruction of its business operation. Bi-Economy claimed that Harleysville improperly delayed payment of the building and contents damage and failed to timely pay the full amount of the business interruption claim. Bi-Economy alleged that, as a result of the breach of contract, Bi-Economy's business collapsed, and that liability for that consequential damage was reasonably foreseeable and contemplated by the parties at the time of contracting.
After the trial court dismissed the claim for consequential damages, and the mid-level appellate court affirmed, the Court of Appeals reversed. In reversing, the Court of Appeals of New York relied on "well-settled" law that the victim of a breach of contract may recover general damages which are the natural and probable consequences of the breach. It is not necessary that the breaching party should have foreseen the particular way the loss occurred in order to be liable for consequential damages, only that loss from a breach was foreseeable and probable.
In analyzing whether consequential damages and the nature of loss caused by the inability to reopen the business was foreseeable by the parties, the court noted that implicit in all contracts of insurance, as in other types of contracts, is a covenant of good faith and fair dealing which includes the understanding that the insurer promises to investigate in good faith and pay covered claims.
The Role of Insurance
As the court noted, insurance is purchased not only to provide funds in case of loss, but to provide the policyholder peace of mind. The policyholder bargains for more than just eventual money payments under a policy, but for intangibles, such as elimination of risk, protection against calamity, and certain and prompt payment of the policy proceeds when a valid claim is submitted.
The Court of Appeals of New York noted that the "purpose served by business interruption coverage cannot be clearer—to ensure that Bi-Economy had the financial support necessary to sustain as a business operation in the event disaster occurred…." (citations omitted). The court therefore held that limiting the policyholder's damage to the policy proceeds plus interest "does not place the insured in the position it would have been in had the contract been performed" (citations omitted). According to the court:
The very purpose of business interruption coverage would have made Harleysville aware that if it breached its obligations under the contract to investigate in good faith and pay covered claims it would have to respond to damages to Bi-Economy for the loss of its business as a result of the breach…. (citations omitted).
The court noted that the purpose of the policy was not just to receive money, but to receive it promptly so that the business could avoid collapse and get back on its feet as quickly as possible. According to the court, "this insurance contract included an additional performance-based component: the insurer agreed to evaluate a claim, and to do so honestly, adequately, and-most importantly-promptly."
The court held that where an insured suffers additional damages as a result of an insurer's "excessive delay or improper denial," the insurer is liable for those damages, not to punish the insurer, but to give the policy holder its bargained-for-benefit.
The court also rejected Harleysville's argument that policy exclusions for consequential losses precluded recovery. It held that those exclusions related to delay caused by third parties or to loss of contracts, etc. The consequential damages being claimed by Bi-Economy, on the other hand, were in addition to the losses caused by the insured peril, and included additional damages caused by the insurer's failure to timely investigate, adjust, and pay the claim.
While the court was careful to rely solely on general law of contracts, and limit its holding to the foreseeable and probable nature of the consequential damages being claimed by Bi-Economy, this is still a very significant holding under New York law. It opens the door to additional claims of damage and finally allows policyholders, if they can prove the actual damages, to force insurers to put them in the same position they would have been in had the insurers fulfilled their promise not only to pay for covered losses, but to do so in a timely fashion.
Of particular importance not only in New York, but in other states, is the fact that the court also held, as part of its analysis, that the purpose of business interruption insurance is clear and that the consequential damages caused by an insurer's breach of the contract to pay business interruption losses in full and in a timely fashion leads to a foreseeable and probable result: demise of the business or additional loss of business. Insurers frequently argue that the failure of a business due to an insurer's breach of its duty to pay losses in full and on time is not a foreseeable and probable consequential loss. This case gives the lie to that position and also can provides support for similar arguments in other states.
Even without Bi-Economy, however, a policyholder should be able to make similar arguments. An insurance company should be hard pressed to argue that it has no duty of good faith and fair dealing to investigate and pay legitimate claims in a timely fashion and in full. This is particularly so in the vast majority of states which have enacted claims handling statutes and regulations which require the timely investigation and payment of claims. However, Bi-Economy now provides specific case support for the argument and the fact that it is from New York, recognized as an insurer-friendly jurisdiction, should give the opinion greater weight. Moreover, this case is not only helpful in those states which do recognize first-party bad faith, but in those states which do not.
Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI.
Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion.
If such advice is needed, consult with your attorney, accountant, or other qualified adviser.