Introduction

The relationship between an insurer and its policyholder is the product of contract, but in the eyes of the law it is special. Because insurer’s provide a quasi-public service, the resulting relationship between insurer and policyholder is similar to a fiduciary relationship. Insurance is regulated because so that insurers may not take advantage of their superior bargaining power to deprive policyholders of the peace of mind they expect when purchasing insurance. Consequently, courts have imposed upon insurers a duty of good faith and fair dealing.

Insurers Provide a Quasi-Public Service

“The insurers’ obligations are . . . rooted in their status as purveyors of a vital service labeled quasi-public in nature. Suppliers of services affected with a public interest must take the public’s interest seriously, where necessary placing it before their interest in maximizing gains and limiting disbursements . . . As a supplier of a public service rather than a manufactured product, the obligations of insurers go beyond meeting reasonable expectations of coverage. The obligations of good faith and fair dealing encompass qualities of decency and humanity inherent in the responsibilities of a fiduciary. Insurers hold themselves out as fiduciaries, and with the public’s trust must go private responsibility consonant with that trust. Furthermore, the relationship of insurer and insured is inherently unbalanced; the adhesive nature of insurance contracts places the insurer in a superior bargaining position. [Legal remedies are] thus compatible with recognition of insurers’ underlying public obligations and reflects an attempt to restore balance in the contractual relationship.”[1]

“Because of the ‘quasi-public’ nature of the insurance business and the relationship between the insurer and the insured, the rights and obligations of the insurer cannot be determined solely on the basis of rules pertaining to private contracts negotiated by individual parties of relatively equal bargaining strength. In the case of the standardized contract prepared by the economically powerful entity and the comparatively weak consumer we look to the reasonable expectation of the public and the type of service which the entity holds itself out as ready to offer. ¶ The reasonable expectation of both the public and the insured is that the insurer will duly perform its basic commitment: to provide insurance. ‘Insurance companies are engaged in the business of running risks for pay.’”[2]

The Insurance Industry Is Regulated

“The insurance business is governmentally regulated to a substantial degree. It is affected with a public interest and offers services of a quasi-public nature. ¶ An insurer has a special relationship to its insured and has special implied-in-law duties toward the insured. To some extent this special relationship and these special duties take cognizance of the great disparity in the economic situations and bargaining abilities of the insurer and the insured. To some extent the special relationship and duties of the insurer exist in recognition of the fact that the insured does not contract ‘. . . to obtain a commercial advantage but to protect [himself] against the risks of accidental losses, including the mental distress which might follow from the losses. Among the considerations in purchasing . . . insurance, as insurers are well aware, is the peace of mind and security it will provide in the event of an accidental loss . . . .’ The very risks insured against presuppose that if and when a claim is made, the insured will be . . . in strait financial circumstances and, therefore, particularly vulnerable to oppressive tactics on the part of an economically powerful entity.”[3]

Insurers Have a Fiduciary-Like Relationship to Their Policyholders

“[A]n insurer and its insured have a ‘special relationship’. Under this special relationship, an insurer’s obligations are greater than those of a party to an ordinary commercial contract. In particular, an insurer is required to ‘give at least as much consideration to the welfare of its insured as it gives to its own interests.’ Cases have referred to the relationship between insurer and insured as a limited fiduciary relationship; as ‘akin to a fiduciary relationship’; or as one involving the ‘qualities of decency and humanity inherent in the responsibility of a fiduciary’. ¶ The insurer-insured relationship, however, is not a true ‘fiduciary relationship’ in the same sense as the relationship between trustee and beneficiary, or attorney and client. It is, rather, a relationship often characterized by unequal bargaining power in which the insured must depend on the good faith and performance of the insurer. This characteristic has led the courts to impose ‘special and heightened’ duties, but ‘[w]hile these “special” duties are akin to, and often resemble, duties which are also owed by fiduciaries, the fiduciary-like duties arise because of the unique nature of the insurance contract, not because the insurer is a fiduciary.’[4]

The Implied Duty of Good Faith

“‘Insurance contracts are unique in nature and purpose. An insured does not enter an insurance contract seeking profit, but instead seeks security and peace of mind through protection against calamity. The bargained-for peace of mind comes from the assurance that the insured will receive prompt payment of money in times of need. Because peace of mind and security are the principal benefits for the insured, the courts have imposed special obligations, consonant with these special purposes, seeking to encourage insurers promptly to process and pay claims. . . . To avoid or discourage conduct which would thus frustrate realization of the contract’s principal benefit (i.e., peace of mind), special and heightened implied duties of good faith are imposed on insurers and made enforceable in tort.’”[5]

“Of course, an insurer . . . owes a general duty of good faith and fair dealing. Moreover, because of the ‘special relationship’ inherent in the unique nature of an insurance contract, the insurer’s obligations attendant to its duty of good faith are heightened. Such obligations have been characterized as akin to fiduciary-type responsibilities. Because of this unique ‘special relationship,’ a breach of the obligation of good faith may give rise to tort (rather than mere contractual) remedies. Admittedly, the insurer’s ‘special relationship’ to its insured encompasses fiduciary-like duties of decency and humanity. The covenant of good faith and fair dealing is implied in every contract as a method to protect the interests of the parties in having the contractual promises and purposes performed. Insurance contracts are unique in nature and purpose. An insured does not enter an insurance contract seeking profit, but instead seeks security and peace of mind through protection against calamity. The bargained-for peace of mind comes from the assurance that the insured will receive prompt payment of money in times of need. Because peace of mind and security are the principal benefits for the insured, the courts have imposed special obligations, consonant with these special purposes, seeking to encourage insurers promptly to process and pay claims. Thus, an insurer must investigate claims thoroughly; it may not deny coverage based on either unduly restrictive policy interpretations or standards known to be improper; it may not unreasonably delay in processing or paying claims. If an insurer were free of such special duties and could deny or delay payment of clearly owed debts with impunity, the insured would be deprived of the precise benefit the contract was designed to secure (i.e., peace of mind) and would suffer the precise harm (i.e., lack of funds in times of crisis) the contract was designed to prevent. To avoid or discourage conduct which would thus frustrate realization of the contract’s principal benefit (i.e., peace of mind), special and heightened implied duties of good faith are imposed on insurers and made enforceable in tort. While these ‘special’ duties are akin to, and often resemble, duties which are also owed by fiduciaries, the fiduciary-like duties arise because of the unique nature of the insurance contract. An insurer, however, may give its own interests consideration equal to that it gives the interests of its insured; it is not required to disregard the interests of its shareholders and other policyholders when evaluating claims; and it is not required to pay noncovered claims, even though payment would be in the best interests of its insured.”[6]

“[I]n the context of insurance contracts courts have held that breach of the implied covenant will provide the basis for an action in tort. ‘There is an implied covenant of good faith and fair dealing in every contract that neither party will do anything which will injure the right of the other to receive the benefits of the agreement.’ Accordingly, when the insurer unreasonably and in bad faith withholds payment of the claim of its insured, it is subject to liability in tort. ‘The insured in a contract like the one before us does not seek to obtain a commercial advantage by purchasing the policy – rather, he seeks protection against calamity.’ ‘The insurers’ obligations are . . . rooted in their status as purveyors of a vital service labeled quasi-public in nature. Suppliers of services affected with a public interest must take the public’s interest seriously, where necessary placing it before their interest in maximizing gains and limiting disbursements. [A]s a supplier of a public service rather than a manufactured product, the obligations of insurers go beyond meeting reasonable expectations of coverage. The obligations of good faith and fair dealing encompass qualities of decency and humanity inherent in the responsibilities of a fiduciary.’ In addition, ‘the relationship of insurer and insured is inherently unbalanced: the adhesive nature of insurance contracts places the insurer in a superior bargaining position.’[7]