Chapter 4 - § 4.3 • BAD FAITH CLAIMS WHEN NO BREACH OF CONTRACT OCCURRED

• Jurisdiction: Colorado

§ 4.3 • BAD FAITH CLAIMS WHEN NO BREACH OF CONTRACT OCCURRED

An issue that invariably arises in bad faith litigation is whether an insured may maintain an action for bad faith against an insurer if the insurer has not breached the insurance contract by improperly denying or delaying payment of benefits. For example, if the jury determines that an insurer correctly denied a claim for benefits, can the insurer still be held liable for bad faith? The answer to this question generally is "no," except for in what courts have referred to as "manner-of- dealing" cases.

§ 4.3.1—Breach of Contract Not a Prerequisite

One case that examined this question is Schultz v. Allstate Insurance Co., 764 F. Supp. 1404 (D. Colo. 1991). On August 31, 1988, the plaintiff, Schultz, slipped and fell in a parking lot in Glenwood Springs, Colorado as he was getting out of his car. He had been on his way to a sales call, but had stopped at a drug store to pick up a prescription for his sister-in-law. He made a claim for workers' compensation benefits, but initially the carrier determined he was ineligible because it appeared he had been on a personal errand when the accident occurred. On the other hand, his automobile insurer, Allstate, decided it should provide coverage and began paying PIP benefits for Schultz's injuries. Later, however, Allstate denied coverage on several grounds. Its principal basis for denying coverage was its contention that Schultz's accident had occurred during the course of his employment. Schultz and his wife then brought suit against Allstate for breach of contract, bad faith, breach of fiduciary duty, and intentional infliction of emotional distress. Allstate moved for summary judgment on all claims. Among other things, it argued that before Schultz could make a claim for PIP benefits, he first had to exhaust all remedies he might have under the workers' compensation laws.

In addressing Allstate's contentions, the court first noted that pursuant to then-existing C.R.S. § 10-4-707(5), workers' compensation coverage must be viewed as primary because the statute provides that PIP benefits must be reduced by benefits actually available under workers' compensation. Allstate asserted that Schultz had a duty to present his claim through the workers' compensation system before seeking PIP benefits. As to this issue, the court agreed with Allstate. It held that "where the facts before the court reveal a basis for reasoned argument that workmen's compensation benefits may be available to a plaintiff, the Colorado Auto Accident Reparations Act requires that the plaintiff seek such benefits before suing for PIP benefits." Id. at 1407.

The court held that courts should make a threshold determination concerning the availability of workers' compensation benefits and require pursuit of a workers' compensation claim only where the facts and law demonstrate a reasoned basis for pursuing such a claim. In conducting this threshold examination of Schultz's claim, the court determined that workers' compensation benefits might be available. It held that Schultz could not frustrate the primacy provisions of the No-Fault Act by refusing to file a workers' compensation claim. Therefore, the court granted Allstate's motion for summary judgment as to Schultz's breach of contract claim for failure to pay PIP benefits and dismissed this claim without prejudice so that Schultz could pursue a workers' compensation claim.

The court, however, denied Allstate's motion for summary judgment on the bad faith claim. It held that the claim for bad faith was a distinct tort claim that could and did survive dismissal of the related contract claim. The court stated that it might seem anomalous to dismiss the claim for breach of contract yet allow the bad faith claim to survive. However, the court indicated that in dismissing the contract claim, it was ruling only that one of Allstate's grounds for refusing payment was correct: that Schultz first had to pursue his workers' compensation remedies. The court stated that this ruling did not logically preclude a finding that the other grounds asserted by Allstate for refusing or delaying payment were in bad faith, that its initial investigation was sloppy, or that it otherwise failed to deal with the Schultzes in good faith. Because these factual issues remained in dispute, the court held that Allstate was not entitled to summary judgment on the bad faith claim.

Similarly, in Flickinger v. Ninth District Production Credit Association of Wichita, Kansas, 824 P.2d 19 (Colo. App. 1991), the court held that a claim for bad faith could be maintained against an insurer even though the underlying claim for breach of contract had correctly been dismissed. The procedural background of this case is long and convoluted. In 1986, the defendant credit association filed a replevin action in Montrose County District Court to foreclose upon real and personal property that the plaintiff's father had pledged as security for repayment of loans. Some of the pledged property was a herd of cattle. When the association took possession of the father's cattle, it discovered that some of the plaintiff's animals were mixed with the father's herd. The association notified the court, which permitted it to take possession of the plaintiff's cattle but directed that these cattle be sorted out and returned. The court also ordered that if any party suffered damage, a claim must be made by June 1, 1986. The association returned some of the plaintiff's cattle, but he asserted that some cattle were never returned and others were returned in a weakened state.

However, instead of making a claim for damages in the Montrose court, the plaintiff began an action in the Saguache County District Court. This action was dismissed for lack of jurisdiction, and the plaintiff did not appeal. More than a year later, the plaintiff brought an action in U.S. district court. That case was likewise dismissed, and the dismissal was affirmed on appeal. While the federal action was still pending, the plaintiff filed a second complaint in the Saguache County District Court, which was also dismissed. Again, the plaintiff did not appeal. On March 9, 1989, the plaintiff finally brought suit in the replevin court against the credit association and other private individuals involved in the original replevin proceeding. He also asserted a claim against his insurer, Fireman's Fund, for breaching a contract of insurance that provided protection against theft. In addition, he asserted that Fireman's Fund was guilty of bad faith for failure to consider his claim under the policy. The district court dismissed all of the plaintiff's claims against all defendants, and the plaintiff appealed.

The court of appeals upheld the dismissal of the claims against the defendants involved in the replevin action on the grounds that these claims were barred by the doctrines of res judicata and collateral estoppel. The court also upheld the dismissal of the breach of contract claim against Fireman's Fund. The policy contained a provision that any suit for theft of property had to be brought within one year. Because the plaintiff had not commenced his suit against Fireman's Fund until almost three years after the alleged theft, the court of appeals held that the claim for breach of contract was properly dismissed.

The court held, however, that the trial court had erred in dismissing the claim for bad faith. The court noted that in Colorado, a claim for bad faith is not viewed as a claim arising under the insurance policy, but as an independent tort claim. As the court stated, "The carrier's tort liability, therefore, does not depend upon its liability under the insurance contract. And, this being so, it follows that the tort claim does not arise 'under' that contract." Id. at 24. Therefore, the court held that the time limitation in the policy for filing suit against the company did not apply to bar the plaintiff's bad faith claim.

The case that most strongly supports the proposition that no breach of contract is necessary to support a claim for bad faith is Ballow v. PHICO Insurance Co., 875 P.2d 1354 (Colo. 1993). As discussed above, in Ballow the court held that an insurer could be held liable for bad faith in the negotiation or renewal of insurance contracts. In the negotiation of an insurance policy, no contract yet exists. Logically, an insurer cannot breach a contract that has not yet even come into being. Therefore, if liability for bad faith may be imposed even in the absence of a contract, it follows that a breach of contract is not a prerequisite to a claim of bad faith in all cases.

§ 4.3.2—Breach of Contract Is a Prerequisite

On the other hand, several cases suggest that the absence of a breach of contract may be inconsistent with a bad faith claim. In South Park Aggregates, Inc. v. Northwestern National Insurance Co. of Milwaukee, Wisconsin, 847 P.2d 218 (Colo. App. 1992), the court stated that a finding that the defendant-insurer had breached its contract with its insured "was a condition precedent to a finding of bad faith breach of an insurance contract." Id. at 223. This statement, however, was mere dicta. In Abdelsamed v. New York Life Insurance Co., 857 P.2d 421 (Colo. App. 1992), the court of appeals held that if an insurance policy was rescinded by the insurer due to a material misrepresentation by the insured in obtaining coverage, the policy was void ab initio, and there could be no claim of bad faith. The court of appeals' decision was overturned in Hock v. New York Life Insurance Co., 876 P.2d 1242 (Colo. 1994).

However, in Mitchell v. State Farm Fire & Casualty Co., 15 F.3d 959 (10th Cir. 1994), the Tenth Circuit reversed a judgment in favor of the plaintiffs on a claim for insurance bad faith where the jury had concluded that the insurer had not breached the insurance contract by failing to pay the amount demanded by the plaintiffs on a fire loss claim. The case...