4.5.2 Basis for Liability – General.

JurisdictionArizona

4.5.2 Basis for Liability – General. An insurance company is not required to breach an express provision of the insurance policy in order to commit the tort of bad faith.45 In order to establish a prima facie case of bad faith, it must be shown that the insurance company acted both (1) unreasonably toward its insured and (2) knowing it was acting unreasonably or with reckless disregard as to the reasonableness of its actions.46 The tort arises when the insurer commits consciously unreasonable conduct.47 The insurer must intend the act or omission and form that intent without a reasonable basis or fairly debatable grounds for its action.48 Conversely, when an insurer acts in an objectively reasonable manner, there is no bad faith.49

Whether an insurance company has acted in bad faith is generally determined by a two-part test. The first part is an objective test of reasonableness.50 The reasonableness of the insurer’s actions is tested by asking whether under the circumstances a reasonable insurer would have denied or delayed payment.51 An insurance company does not always have to be correct in the decision it makes in order to not be liable for bad faith. Even if the insurance company is ultimately found to be wrong on its contractual decision, it is not liable for bad faith if a reasonable basis existed for its decision or action.52 An insurer who acts honestly and on adequate information is not liable for bad faith, even if it is later determined to have made an incorrect contractual interpretation or claim decision.53

The second part is a subjective test of intent.54 To be liable, it must be shown that the insurer committed consciously unreasonable conduct.55 This means the insurance company must have either (a) acted knowing it was acting unreasonably, or (b) acted with such reckless disregard that such knowledge may be imputed to it.56 Thus, an insurance company has the right to challenge claims that are fairly debatable after an appropriate investigation.57 Similarly, an insurance company may reach the wrong decision on a claim and still not commit bad faith. The insurance company must intend to act unreasonably to be liable for bad faith and not merely perform negligently or incorrectly.58

A claim is fairly debatable if there is a question of fact as to whether the insurance company owed benefits under the insurance policy.59 When a claim is fairly debatable, the insurance company is not acting in bad faith by declining to pay the claim.60 In seeking the protection of fair debatability, an insurance company must show factual support for its actions in the investigation, evaluation and processing of the claim.61

In Zilisch v. State Farm Mutual Auto. Ins. Co.,62 the insured demanded the UIM policy limits on December 18, 1991.63 Despite having all available medical and employment records at that time, State Farm did not evaluate and offer to settle the claim until October 27, 1992, nearly ten months after receiving the demand.64 State Farm claimed that it was waiting on a report from another doctor, Dr. Hoyt, regarding permanency of the injury to Zilisch.65 The court noted that there was expert testimony that during State Farm’s claim its decision to wait for a report from Dr. Hoyt was unreasonable because (1) State Farm already had the reports from four other physicians describing the permanency of the injury, (2) on January 20, 1992, State Farm telephoned another doctor who stated that Zilisch’s injuries were permanent, and (3) on that same day State Farm called Dr. Hoyt and confirmed the permanency of the injury.66 The court observed that “[i]f, after all of this, State Farm still had doubts about the permanency of the injury, it could have subjected Zilisch to an independent medical examination. But State Farm did not ask for such an examination until November 9, 1992, after it had already offered to settle the claim for $55,000.”67

The court in Zilisch stated that “[e]ven if reasonable jurors could have concluded that it was prudent for State Farm to wait for Dr. Hoyt’s report, it took State Farm four more months after receiving the report to evaluate the claim and make an offer.”68 The court also observed that during this four-month period, State Farm’s evaluation of the value of the claim went progressively up despite not having received any new information.69 Finally, even after State Farm’s lawyer recommended that it offer $75,000, State Farm refused to offer more than $55,000.70 Based upon all of these facts, the court held that reasonable people could disagree as to whether State Farm’s handling of this claim was unreasonable or intentional.71 Thus, the court concluded that this issue was correctly submitted to the jury.72

In Knoell v. Metropolitan Life Ins. Co.,73 the United States District Court for the District of Arizona reviewed the question of whether the insurance company had violated the first and second prongs of the test for bad faith, as discussed above. The court observed that in determining whether the insurance company acted reasonably in a case premised on a failure to pay benefits, the court will consider whether the insurer’s liability under the policy was “fairly debatable.”74 Under the first prong of the test for bad faith, insurance companies can challenge claims that are fairly debatable without having acted in bad...

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