CHAPTER 1 THE TORT OF BAD FAITH

• Jurisdiction: United States
• Publication year: 2018

Insurance companies have had a bad reputation over the years. People, with no understanding of how insurance works, felt punished for not having losses for many years and never, because they had no loss, receiving any of their premium back. Then, when they had a loss that was not due to a risk of loss insured, collected nothing. They became angry and sued their insurers, seeking damages beyond basic contract damages. Sometimes they were right—the insurer treated them badly. Most often they were wrong and the insurer merely applied the clear and unambiguous terms, conditions, and limitations wording of an insurance policy.

The tort of bad faith was created because of actions by insurers that were neither professional nor equitable. Some insurers mistreated their insureds and caused them damage as a result of the bad actions of the insurer.

Because of the actions of a few bad actors in the insurance industry a new tort was created. It grew out of the failure of some insurers to deal fairly with those they insured. Because contract remedies did not provide, in the reasoning of some courts, a procedure by which adequate damages could be provided to the person wronged by his or her insurer, those courts invented the tort of bad faith. The concept of the tort of bad faith developed as a means of providing a recovery in tort for the breach of what had previously been regarded as a simple contract action.

Contract damages traditionally limited the injured party's recovery to those damages within the contemplation of the parties at the time the contract was made. This rule is codified in California in Civil Code § 3300 that provides:

For the breach of an obligation arising from contract, the measure of damages, except where otherwise expressly provided by this Code, is the amount which will compensate the party aggrieved from all the detriment proximately caused thereby, or which, in the ordinary course of things, would be likely to result therefrom.

In Georgia, contract damages are defined as follows:

Damages recoverable for a breach of contract are such as arise naturally and according to the usual course of things from such breach and such as the parties contemplated, when the contract was made, as the probable result of its breach. ¹

Hawaii, protecting most defendants, enacted a statute that provides a limitation on punitive damages:

Tort liability for breach of contract; punitive damages. No person may recover damages, including punitive damages, in tort for a breach of a contract in the absence of conduct that:

(1) Violated a duty that is independently recognized by principles of tort law; and

(2) Transcended the breach of the contract.²

Before the advent of the tort of bad faith, if an insurer breached the contract and wrongfully refused to pay a claim the most that could be recovered would be the benefits promised by the insurance policy. Contract damages seldom compensate the insured sufficiently if he or she has been abused by the insurer. The measure of damages for a breach of contract is often inadequate where the wrongful conduct results in damages that were not foreseen at the time of contracting.

For example, not recoverable in a breach of contract case are:

• Damages due to emotional distress,

• Lost profits,

• Other business losses and litigation costs, and

• Bodily injuries.

With respect to emotional distress damages, the general rule is that they are not recoverable in a breach of contract action. In some special and limited circumstances where emotional trauma is particularly likely in the event of a breach, damages may be recovered even though no tort claim exists. These types of damages have a devastating impact upon the non-breaching party.

If a tort theory can be used then the possibility exists for a much broader recovery. The measure of damages for a tort can include consequential damages, including all of the damages proximately resulting from the wrongful conduct even if they could not have been anticipated at the time of the contract—emotional distress, bodily injury, and consequential damages. California Civil Code § 3333 provides:

For the breach of an obligation not arising from contract, the measure of damages, except where otherwise expressly provided by this Code, is the amount which will compensate for all the detriment proximately caused thereby, whether it could have been anticipated or not. [Emphasis added.]

The measure of damages for a tort can also include punitive damages. As a result of the availability of tort damages, every suit against an insurer claiming wrongful denial of a claim will include—if state law allows it—a suit for breach of the covenant of good faith and fair dealing, seeking contract and tort damages for the bad faith denial and...