Is Common Law Bad Faith Dying in Texas?

When a carrier is sued for denying a claim, it is usual for policyholders to raise claims of bad faith. For decades now, policyholders have frequently pled both common law (i.e., law created by cases) and statutory (i.e., law from statutes or regulations) bad faith claims arising from the same facts, though in many cases only statutory claims may be viable. To know which type of claim may be appropriate, a little history is helpful.

The Rise of Common Law Bad Faith

In 1983, the Texas Supreme Court first recognized a covenant of good faith and fair dealing between an insurer and insured based upon the parties “special relationship.” English v. Fischer, 660 S.W.2d 521 (Tex. 1983). The idea was that insurance companies could often use their knowledge, size and superior bargaining position to extract on unfair advantage in placing insurance with insureds. The common law tort of bad faith stemmed from that assumed inherent bargaining disparity between them.

Just a few years later, in 1987, the common law duty of good faith and fair dealing was fleshed out by the Texas Supreme Court in Arnold v. National County Mutual Fire Insurance Co., setting off a long series of cases and decisions that shaped claims handling practices for much of the next 30 years. During the early period, beginning in the late 1980s and developing through the early 1990s, the trend was to expand the common law duties of insurance carriers to protect insureds outside of a statutory or legislative framework. However, the pendulum began to swing back to a statutory and regulatory-based scheme of protections by the mid-1990s.

For instance, the Texas Supreme Court decided in 1996 that a duty of good faith and fair dealing was not owed by third-party insurers, leaving in those cases only the tort duty of ordinary care in settlement negotiations under the Stowers doctrine. Maryland Ins. Co. v. Head Indus. Coatings and Services, Inc., 938 S.W.2d 27 (Tex. 1996). This landmark shift forced liability policyholders to focus on statutory claims such as Tex. Ins. Code Articles 21.55 (Prompt Payment, now ¤ 542) and 21.21 (Unfair Claims Practices, now ¤ 541).

Even so, Texas courts continued to recognize a duty of good faith and fair dealing in first-party policies, though with limitations. In 1998, the Texas Supreme Court, while reaffirming the existence of a first-party duty of good faith and fair dealing, limited its application by requiring that the policyholder show that the insured denied or delayed the payment of a claim when it knew, or should have known, its liability on the claim was reasonably clear. State Farm v. Simmons, 963 S.W.2d 42 (Tex. 1998).

Thus, even while reaffirming the existence of the duty, the Court began a process of limiting the scope of common law bad faith to circumstances where there was “clearly knowing” and “egregious conduct” on the part of the carrier.

This trend of common law limitations has encouraged policyholders to explore and rely on their statutory options.

Statutory Protection

Even before the Court was creating a common law duty of good faith and fair dealing to correct perceived imbalances between carriers and insureds, the Texas Legislature developed a set of safeguards and protections in the Texas Insurance Code that provided basic protections to insureds.

In 1973, the Texas Legislature first provided a significant remedy under the insurance code to regulate improper insurance trade practices. Under the former Article 21.21 of the Texas Insurance Code, treble damages were enacted to punish carriers for acts of improper claims handling.

The legislature amended the statute in 1985 to require that the violations subject to trebling had to be committed “knowingly” to prevent an overly exuberant use of the statute. The legislature also amended the Unfair Claims Practices Act to change the mandatory trebling provision for a “knowing” violation from an automatic to a discretionary award.

When the Texas Legislature recodified Article 21.21 to its current Chapter 541 of the Texas Insurance Code, it included various changes such as including various types of “unfair insurance practices” that had been recognized as violations of the common law duties. These new statutory provisions closely resembled the duty of good faith and fair dealing as expressed in Vail v. Texas Farm Bureau Mut. Ins. Co., 754 S.W.2d 129 (Tex. 1988).

Not surprisingly, it became common for insureds (especially in first party cases) to allege both common law and statutory bad faith violations against carriers. However, because the standards under the common law and statutory schemes are so similar, common law claims have been increasingly seen as superfluous. The Fifth Circuit even noted that although claims under the Texas Insurance Code are “individual causes of action which do not depend on each other for support, Texas courts have clearly ruled that these extra-contractual tort claims require the same predicate for recovery as bad faith causes of action in Texas.” Higginbotham v. State Farm Mut. Ins. Co., 103 F.3d 456, 460 (5th Cir. 1997).
A Future for Common Law Bad Faith?

Last fall, the Texas Supreme Court decided Texas Mut. Ins. Co. v. Ruttiger, 2011 WL 3796353 (Tex., August 26, 2011), which signaled a further diminishing of common law bad faith claims and an increasing reliance by courts on statutory bad faith claims.

In Ruttiger, the plaintiff suffered an injury at work and made a claim on his employer’s workers’ compensation carrier. During its investigation, the carrier discovered that the claimant had actually been injured the week before at a softball tournament. In fact, a coworker disclosed that the plaintiff bragged about getting paid for the injury by the workers’ comp carrier. Based on its investigation, the carrier refused to pay the claim and the plaintiff sued it for violations of the insurance code, as well as a breach of the common law duty of good faith and fair dealing.

The Texas Supreme Court, in a plurality decision, indicated they would eliminate the common law duty of good faith and fair dealing as to workers’ compensation claims. The Court reasoned that the legislature had not codified this cause of action in the workers’ compensation statute and had to consider to what extent the judiciary should continue to recognize the common law cause of action in light of the legislature’s authority to measure and protect the rights of the parties in the workers’ compensation system as part of its policymaking function.

While the Court remanded these issues to the Court of Appeals, it may revisit this issue, and ultimately decide that common law bad faith is no longer viable as a cause of action.

The question remains as to whether the Texas Supreme Court will continue to recognize the existence of the common law duty of good faith and fair dealing given the overlapping statutory causes of action. Given that the same legal predicates and standards largely apply for recovery under both, the need for common law protections may no longer exist. Consequently, the common law duty of good faith and fair dealing may very well be on its way out.

Dying but not Dead

While the trend of Texas cases over the last decade, as illustrated by Ruttiger, tends towards limiting the scope of common law bad faith, it is not gone. The duty is still recognized by prior cases such as Simmons, and common law bad faith claims are still commonly plead in the first party cases. However, given that Chapter 541 provides a clear standard, it is likely that the common law duty will be used less frequently by plaintiffs and that the Texas Supreme Court, given the right opportunity, may simply do away with common law bad faith in favor of statutory protections.

Martin is a partner in the Insurance Litigation and Coverage Practice of the law firm of Thompson Coe Cousins & Irons LLP.

Topics Carriers Texas Claims Workers' Compensation