Opinion ID: 1374504
Heading Depth: 2
Heading Rank: 2

Heading: First-Party Cases

Text: In Noble v. National American Life Insurance Co., supra , we recognized the tort of bad faith in first-party cases. See also Gruenberg v. Aetna Insurance Co., 9 Cal.3d 566, 108 Cal. Rptr. 480, 510 P.2d 1032 (1973), and Fletcher v. Western National Life Insurance Co., 10 Cal. App.3d 376, 89 Cal. Rptr. 78 (1970). In Noble the plaintiff had submitted a valid claim for surgical and hospital expenses to her insurance company, which refused to pay. We held that an insurer that intentionally and unreasonably denies or delays payment breaches the covenant of good faith owed to its insured. Noble, 128 Ariz. at 190, 624 P.2d at 868. A failure to pay a claim is unreasonable unless the claim's validity is fairly debatable after an adequate investigation. Id. In Sparks v. Republic National Life Insurance Co., 132 Ariz. 529, 647 P.2d 1127, cert. denied, 459 U.S. 1070, 103 S.Ct. 490, 74 L.Ed.2d 632 (1982), we reached a similar result in a case where the insurer groundlessly asserted that it had no obligation to continue payments once the policy was terminated. As a result, the claimant had to forego necessary treatment, and suffered serious physical deformities. We held that the fair debatability of the claim cannot be created by the insurer's reliance on ambiguity in the policy, otherwise insurers would be encouraged to write ambiguous insurance contracts.... 132 Ariz. at 539, 647 P.2d at 1137. In Farr v. Transamerica Occidental Life Insurance Co., 145 Ariz. 1, 699 P.2d 376 (App. 1984), the court of appeals held that fair debatability cannot be raised where the insurer failed to make an adequate investigation. Farr, like Sparks, demonstrates that an insurer may be held liable in a first-party case when it seeks to gain unfair financial advantage of its insured through conduct that invades the insured's right to honest and fair treatment. Thus, in first-party cases also, the insurer's eventual performance of the express covenant  by paying the claim  does not release it from liability for bad faith. The prohibition against challenging a claim unless it is fairly debatable merely expresses the obligation to give equal consideration to the insured's interests. Gruenberg v. Aetna Insurance Co., 9 Cal.3d at 573, 108 Cal. Rptr. at 485, 510 P.2d at 1037, cited in Noble v. National American Life Insurance Co., 128 Ariz. at 189, 624 P.2d at 867. See also Tank v. State Farm Fire & Casualty Co., 105 Wash.2d 381, 715 P.2d 1133 (1986) (an insurance company's duty of good faith [means] an insurer must deal fairly with an insured, giving equal consideration in all matters to the insured's interests (emphasis added)). As we have seen, Noble, Sparks and Farr are in line with this result. Failure to perform the express covenant to pay the claim is not the sine qua non for an action for breach of the implied covenant of good faith and fair dealing. To characterize the cases otherwise, would, in effect, construe them to hold that any breach of the express covenant would give rise to the tort action for bad faith. We hold explicitly that such a result is not permitted. Not every breach of an express covenant in an insurance contract is a breach of the covenant of good faith and fair dealing. Insurance companies, like other enterprises and all human beings, are far from perfect. Papers get lost, telephone messages misplaced and claims ignored because paperwork was misfiled or improperly processed. Such isolated mischances may result in a claim being unpaid or delayed. None of these mistakes will ordinarily constitute a breach of the implied covenant of good faith and fair dealing, even though the company may render itself liable for at least nominal damages for breach of contract in failing to pay the claim. The cases do not require the insurer to prevent all harm to the insured. As long as it acts honestly, on adequate information and does not place paramount importance on its own interests, it should not be held liable because of a good faith mistake in performance or judgment. Little, 103 Ariz. at 442, 443 P.2d at 697; City of Glendale v. Farmers Insurance Exchange, 126 Ariz. 118, 121, 613 P.2d 278, 281 (1980) (no bad faith where insurer's refusal to settle was based on an adequate investigation which revealed settlement value less than the settlement offer). 3. Farmers' Conduct Review of Arizona first-party and third-party cases demonstrates that the implied covenant of good faith and fair dealing can be breached even though the company performs its express covenants under the insurance contract. The implied covenant is breached, whether the carrier pays the claim or not, when its conduct damages the very protection or security which the insured sought to gain by buying insurance. Noble, supra, at 189, 624 P.2d at 868 (insured has an interest in receiving protection against calamity.). While the obligation of good faith does not require the insurer to relieve the insured of all possible harm that may come from his choice of policy limits, it does obligate the insurer not to take advantage of the unequal positions in order to become a second source of injury to the insured. Little, 103 Ariz. at 442, 443 P.2d at 697. In the case at bench the trial court found that Farmers intentionally pursued a course of conduct designed, for its own benefit, to impede the insureds' claim against the tortfeasor. Thus, although Farmers performed its express covenants, the evidence supports the conclusion that for its own profit Farmers breached its duty to play fairly with its insureds and to give their legitimate interests equal consideration. Those legitimate interests of the insureds arose out of the very event against which Farmers sold protection. The insureds would clearly have been better off without any insurance if by paying $10,000 the insurer could prevent the insureds' recovery of the larger portion of the loss. DID THE TRIAL COURT ERR IN CONSIDERING EXPERT TESTIMONY TO ESTABLISH A DUTY OF GOOD FAITH AND FAIR DEALING? During trial plaintiffs' expert witness, James W. Richardson, testified that it is customary in the insurance industry to turn over investigative reports (such as the one denied to Rawlings) to insureds. Mr. Richardson also testified that Farmers had breached industry custom in its attempt to limit its exposure as Apodacas' liability carrier. Defendant argues that such testimony was irrelevant under Sparks v. Republic National Life Insurance Co., supra . Sparks held that the scope of the duty of good faith cannot be delineated by customs of the insurance industry. 132 Ariz. at 539, 647 P.2d at 1137. Because the trial court's findings of fact indicate that the trial court did consider the expert testimony and because defendant claims the judgment against Farmers was based solely on the inadmissible testimony, it argues that the trial court judgment must be reversed. We disagree. Sparks held only that an insurance company could not limit the scope of its duty to the customs of the insurance industry and therefore affirmed the trial court's refusal to instruct the jury that custom was an absolute defense. Id. Although compliance with industry custom is not an absolute defense, failure to comply may be relevant to the question of an insurer's alleged bad faith. Cf. Rossell v. Volkswagen of America, 147 Ariz. 160, 709 P.2d 517 (1985). The trial court therefore did not err in considering such evidence. AVAILABILITY OF TORT RECOVERY Having found that the facts do support the trial court's determination that Farmers breached the implied covenant of good faith and fair dealing, we turn now to inquire whether an action for such breach sounds in tort or in contract. We have previously noted that the remedy for breach of the implied covenant of good faith is ordinarily on the contract itself. Wagenseller v. Scottsdale Memorial Hospital, 147 Ariz. at 383, 710 P.2d at 1038. We remarked, however, that under certain circumstances breach of the covenant may provide the basis for tort claim and noted that tort recovery for breach of the implied covenant is well established in actions brought on insurance contracts but only reluctantly extended to other relationships. Compare Wagenseller with Wallis v. Superior Court, 160 Cal. App.3d 1109, 207 Cal. Rptr. 123, (1984), and Crenshaw v. Bozeman Deaconess Hospital, 693 P.2d 487 (Mont. 1984). See also Seaman's Direct Buying Service, Inc. v. Standard Oil Co. of California, 36 Cal.3d 752, 206 Cal. Rptr. 354, 686 P.2d 1158 (1984) (allowing tort action for breach of the implied covenant in an ordinary commercial contract, predicated upon an unfounded and unjustified denial of the very existence of the contract); Commercial Cotton Co. v. United California Bank, 163 Cal. App.3d 511, 209 Cal. Rptr. 551 (1985) (extending the tort action for breach of the implied covenant to some types of banking relationships); and Quigley v. Pet, Inc., 162 Cal. App.3d 877, 208 Cal. Rptr. 394 (1984) (limiting the Seaman's doctrine). Analysis of the cases does not result in a clear rationale as to when an action for breach of the implied covenant sounds in contract or tort; it would not be possible to reconcile the results of all cases. W. PROSSER & W. KEETON, LAW OF TORTS § 92 at 655 (5th ed. 1984). We agree with the authors' observation: Tort obligations are in general obligations that are imposed by law  apart from and independent of promises made and therefore apart from the manifested intention of the parties  to avoid injury to others. By injury here is meant simply the interference with the individual's interest ... that is deemed worthy of legal protection.... [One category is] a large body of intangible interests, both economic and relational. Id. Analysis of the cases does lead to the conclusion that a tort action for breach of the implied covenant is more often recognized where the contract creates a relationship in which the law implies special duties not imposed on other contractual relationships. These relationships are characterized by elements of public interest, adhesion, and fiduciary responsibility. Seaman's Direct Buying Service, Inc. v. Standard Oil Co. of California, 36 Cal.3d at 768, 206 Cal. Rptr. at 362, 686 P.2d at 1166. See also Gates v. Life of Montana Insurance Co., 638 P.2d 1063 (Mont. 1982); Egan v. Mutual of Omaha Ins. Co., 24 Cal.3d at 820, 169 Cal. Rptr. at 696-97, 620 P.2d at 146-47; Wallis v. Superior Court, supra . Examples include the implied relational duty of the common carrier to carry his passengers or goods safely. L.B. Laboratories v. Mitchell, 39 Cal.2d 56, 62-63, 244 P.2d 385, 388 (1952). Failure to perform this implied covenant may expose the carrier to liability in tort as well as on the contract of carriage. Id. The law has imposed similar implied covenants on the relationships between innkeeper and guest, physician and patient and attorney and client. See Restatement (Second) of Torts § 314A; Yeager v. Dunnavan, 26 Wash.2d 559, 562-63, 174 P.2d 755, 757 (1941). In the last two relationships the implied covenant demands reasonable competence, and for its breach the patient or client may maintain an action in either tort or contract. See W. PROSSER & W. KEETON, supra, § 92 at 660-62 and numerous cases cited therein. The principle which seems to have emerged from the decisions in the United States is that there will be liability in tort for misperformance of a contract whenever there would be liability for gratuitous performance without the contract  which is to say, whenever such misperformance involves a foreseeable, unreasonable risk of harm to the interests of the plaintiff. Id. at 661, 174 P.2d 755 (citation omitted). This concept is not a recent development in the law. If a defendant may be held liable for the neglect of a duty imposed on him, independently of any contract, by operation of law, a fortiori, ought he to be liable where he has come under an obligation to use care as the result of an undertaking founded on a consideration. Where the duty has its roots in contract, the undertaking to observe due care may be implied from the relationship, and should it be the fact that a breach of the agreement also constitutes such a failure to exercise care as amounts to a tort, the plaintiff may elect, as the common law authorities have it, to sue in case or in assumpsit. Flint & Walling Manufacturing Co. v. Beckett, 167 Ind. 491, 498, 79 N.E. 503, 505 (1906). Tort actions for breach of covenants implied in certain types of contractual relationships are most often recognized where the type of contract involved is one in which the plaintiff seeks something more than commercial advantage or profit from the defendant. When dealing with an innkeeper, a common carrier, a lawyer, a doctor or an insurer, the client/customer seeks service, security, peace of mind, protection or some other intangible. These types of contracts create special, partly noncommercial relationships, and when the provider of the service fails to provide the very item which was the implicit objective of the making of the contract, then contract damages are seldom adequate, and the cases have generally permitted the plaintiff to maintain an action in tort as well as in contract. W. PROSSER & W. KEETON, supra, § 92 at 660-61. The final important factor which we extract from the cases is that of deterrence. In contractual relationships in which one party primarily has sought protection or security rather than profit or advantage, contract damages not only fail to provide adequate compensation but also fail to provide a substantial deterrence against breach by the party who derives a commercial benefit from the relationship. In the first place, they offer no motivation whatsoever for the insurer not to breach. If the only damages an insurer will have to pay upon a judgment of breach are the amounts that it would have owed under the policy plus interest, it has every interest in retaining the money, earning the higher rates of interest on the outside market, and hoping eventually to force the insured into a settlement for less than the policy amount. Wallis v. Superior Court, 160 Cal. App.3d at 1117, 207 Cal. Rptr. at 128 (emphasis in original). [4] Thus, we conclude that one of the prime reasons for the recognition of tort actions for breach of the implied obligations raised by certain contractual relationships is that any other rule provides more of an incentive for breach of the contract than for its performance. Certainly, this is often the situation in insurance contracts and, we believe, makes tort remedies appropriate for some types of breach of the duties implied by law in the contractual relationship. In short, just as some breaches of contractual duties do not implicate the covenant of good faith ( ante at 157, 726 P.2d 573), some breaches of the implied covenant may not provide the basis for tort recovery, although they may give rise to an action on the express covenant in which contract rules of damages would be applicable. But in special contractual relationships, when one party intentionally breaches the implied covenant of good faith and fair dealing, and when contract remedies serve only to encourage such conduct, it is appropriate to permit the damaged party to maintain an action in tort and to recover tort damages. In insurance cases we believe the culpable conduct is an intentional act [5] by which the insurer fails to provide the insured with the security and protection from calamity which is the object of the relationship. Noble v. National American Life Insurance Co., 128 Ariz. at 190, 624 P.2d at 868; see also Farr v. Transamerica Occidental Life Insurance Co., 145 Ariz. at 5, 699 P.2d at 380. The intent required here is an evil hand  the intent to do the act. Mere negligence or inadvertence is not sufficient  the insurer must intend the act or omission and must form that intent without reasonable or fairly debatable grounds. But an evil mind is not required; the insurer need not intend to harm the insured (an issue that arises with respect to the punitive damage question, see post at 161, 726 P.2d at 577). To be liable for tort damages, it need only to have intended its act or omission, lacking a founded belief that such conduct was permitted by the policy. The founded belief is absent when the insurer either knows that its position is groundless or when it fails to undertake an investigation adequate to determine whether its position is tenable. In either event, its position is without reasonable basis and subjects it to payment of damages in addition to those traditionally recoverable in a breach of contract action. [6] With this in mind, we turn to examine Farmers' conduct in the case at bench. The evidence supports the trial judge's ultimate factual finding that Farmers attempted to prevent Rawlings' suit against the tortfeasor and that it did so to protect its own financial interests, indifferent to the loss Rawlings would sustain. The evidentiary facts indicate that Farmers pursued this objective by deceit, nondisclosure, reneging on promises, violation of industry custom and deliberate attempts to obfuscate. As noted above, the fact that Farmers paid the claim, while a factor to be considered, is not determinative. What avail was it to Rawlings to recover $10,000 on a $40,000 loss if the company simultaneously destroyed his ability to recover the portion of the loss which was uninsured? The trial court did not err in finding that Farmers committed a tort. DID THE TRIAL COURT ERR IN AWARDING PLAINTIFFS COMPENSATORY DAMAGES AGAINST FARMERS? Defendant claims that the $1,000 compensatory tort award was wholly unsupported by any evidence. Defendant argues further that punitive damages may not be awarded absent findings of actual damages. When, as here, tort damages are recoverable, plaintiff is not limited to the economic damages within the contemplation of the parties at the time the contract was made. Farr v. Transamerica Occidental Life Insurance Co., 145 Ariz. at 6, 699 P.2d at 381. Plaintiff may recover all the losses caused by defendant's conduct, including damages for pain, humiliation and inconvenience, as well as for pecuniary losses. Id.; 22 Am.Jur.2d Damages § 11; Restatement (Second) of Torts § 903. It is undisputed that Rawlings expended his own time and effort trying to obtain the reports. Once that proved unavailing, he then had to retain an attorney to pursue the matter, first with the company, then with the Department of Insurance and finally by filing this lawsuit. The trial judge found that Rawlings sustained damage because (1) they had to hire attorneys to obtain the promised report, (2) they had to spend their own time trying to obtain the report, and (3) they did not receive the report until it was too late to commission their own on-site investigation of the fire. There may be uncertainty as to the amount of damages, but there is none as to the fact that some damage resulted from the wrong. Under some circumstances the finder of fact is given great latitude in fixing the amount. Madisons Chevrolet, Inc. v. Donald, 109 Ariz. 100, 102, 505 P.2d 1039, 1041 (1973). There was no error in the award of compensatory damage. We now turn to the question of whether punitive damages were appropriate. PUNITIVE DAMAGES There is some controversy over whether the rule for awards of punitive damages in bad faith tort cases differs from that which exists in other types of tort cases. [7] The argument is advanced that since bad faith is a species of intentional tort, punitive damages are automatically recoverable in every case in which the plaintiff proves that the tort was committed. We reject that contention. In a series of recent cases, our court of appeals has held that punitive damages may not be awarded in a bad faith tort case unless the evidence reflects something more than the conduct necessary to establish the tort. Farr v. Transamerica Occidental Life Insurance Co., 145 Ariz. at 7, 699 P.2d at 383 (relying on Neal v. Farmers Insurance Exchange, 21 Cal.3d 910, 148 Cal. Rptr. 389, 582 P.2d 980 (1978)). We agree with the views expressed in Farr. Although the tort of bad faith is founded upon the defendant's intentional conduct, the intent need not be an intent to injure, harm or oppress. It is sufficient to establish the tort of bad faith that the defendant has acted intentionally. The jury need not even be instructed on intent. Sparks, 132 Ariz. at 538, 647 P.2d at 1136; see ante at 160, 726 P.2d at 576. However, the species of intentional conduct necessary for recovery of tort damages in a bad faith case may fall short of what is required for a punitive damage award. In this as in other torts, both intentional and unintentional, [8] punitive damages are only recoverable under special circumstances. Something more than the mere commission of a tort is always required for punitive damages. There must be circumstances of aggravation or outrage, such as spite or malice, or a fraudulent or evil motive on the part of the defendant, or such a conscious and deliberate disregard of the interests of others that the conduct may be called wilful or wanton. There is general agreement that, because it lacks this element, mere negligence is not enough, even though it is so extreme and egregious to be characterized as gross, a term of ill-defined content, which occasionally, in a few jurisdictions, has been stretched ... to justify punitive damages. W. PROSSER & W. KEETON, supra, § 2 at 9-10 (emphasis supplied) (citations omitted). We do not believe that the concept of punitive damages should be stretched. We restrict its availability to those cases in which the defendant's wrongful conduct was guided by evil motives. Thus, to obtain punitive damages, plaintiff must prove that defendant's evil hand was guided by an evil mind. The evil mind which will justify the imposition of punitive damages may be manifested in either of two ways. It may be found where defendant intended to injure the plaintiff. It may also be found where, although not intending to cause injury, defendant consciously pursued a course of conduct knowing that it created a substantial risk of significant harm to others. See Grimshaw v. Ford Motor Co., 119 Cal. App.3d 757, 809, 174 Cal. Rptr. 348, 381 (1981). It has been stated that action justifying the award of punitive damages is conduct involving some element of outrage similar to that usually found in crime. Restatement (Second) of Torts § 908 comment b; see also W. PROSSER & W. KEETON, § 2 at 9. Applying this analogy, punitive damages will be awarded on proof from which the jury may find that the defendant was aware of and consciously disregard[ed] a substantial and unjustifiable risk that significant harm would occur. See A.R.S. § 13-105(5)(c), defining criminal recklessness. Thus, we establish no new category of punitive damages for bad faith cases. Such damages are recoverable in bad faith tort actions when, and only when, the facts establish that defendant's conduct was aggravated, outrageous, malicious or fraudulent. See Anderson v. Continental Insurance Co., 85 Wis.2d 675, 271 N.W.2d 368, 379 (1978). Indifference to facts or failure to investigate are sufficient to establish the tort of bad faith but may not rise to the level required by the punitive damage rule. The difference is no doubt harder to articulate in legalistic terms than it is to differentiate on the facts. To obtain tort damages, for instance, plaintiff must prove only that defendant failed to ascertain the true facts and thus acted without or indifferent to the reasonable basis required for denying the claim. To obtain punitive damages, plaintiff must also show that the evil hand that unjustifiably damaged the objectives sought to be reached by the insurance contract was guided by an evil mind which either consciously sought to damage the insured or acted intentionally, knowing that its conduct was likely to cause unjustified, significant damage to the insured. Egan v. Mutual of Omaha Insurance Co., supra ; Anderson v. Continental Insurance Co., supra . When defendant's motives are shown to be so improper, or its conduct so oppressive, outrageous or intolerable that such an evil mind may be inferred, punitive damages may be awarded. Restatement (Second) of Torts § 908(2). Of course, what is intolerable and what motives are truly evil may in many cases be determined at least in part by the type of relationship of the parties. Thus, conduct justifying the award of punitive damages in bad faith tort cases may often be categorized. The court of appeals' thoughtful opinion in Farr, supra, covers most of the categories which occur to us. The court mentions such things as fraudulent conduct and deliberate, overt and dishonest dealings, oppressive conduct and insult and personal abuse. 145 Ariz. at 8-9, 699 P.2d at 383-84. No doubt there are other motives and categories of conduct which evince an evil mind and neither this opinion nor Farr can be considered all-inclusive. We turn, again, to the case before us. The trial judge's conclusion of law number 6 was that Farmers' conduct ... was intentional and warrants the imposition of punitive damages. No specific findings were made to support this conclusion. For this we do not fault the trial judge, because this case was tried before the decision in Farr, supra, and at a time when it may have been assumed that punitive damages could always be recovered for the intentional tort of bad faith. The trial judge may or may not have applied the appropriate standards which must be met before punitive damages may be recovered. Those standards are now delineated in Farr are this opinion. In our view, it is better that the punitive damage issue be reexamined by the trial judge under the guidelines laid down in Farr and this opinion. We do not suggest any particular disposition. Having heard the evidence, the trial judge is in the best position to consider whether or not it persuades him that Farmers' motive or conduct evinced the evil mind which must exist to allow the award of punitive damages. The trial judge may, in his discretion, reopen to take additional evidence on the question of motive and conduct in so far as punitive damages are concerned. See Rule 59(b), Ariz.R.Civ.P., 16 A.R.S.; McCutchen v. Hill, 147 Ariz. 401, 710 P.2d 1056 (1985).