Policy Limit Settlement Offer

Made Properly

Practice Pointer

Introduction

An injured plaintiff and an insured defendant want to settle their liability dispute with the insurance company's money, but the insurer has no contractual nor statutory duty to settle. True, liability insurers have a statutory duty to attempt "in good faith to effectuate prompt, fair, and equitable settlements of claims in which liability has become reasonably clear"1, but there is no private remedy to directly enforce this obligation.2 But in California and elsewhere, a liability insurer does have a common law implied duty to accept a reasonable settle offer within policy limits. The hammer available to enforce this duty to settle is that if the insurer refuses and a covered judgment is thereafter entered against the policyholder, the insurer may have to pay the whole thing - even in excess of the policy's state limit of liability. This is powerful. But like dancing on stage, it needs to be carefully executed.

There are several factors that courts consider when deciding whether of not a liability insurer has breached its implied duty to settle. They are: 1) the plaintiff must initiate the offer; 2) the offer must be reasonable in light of the policyholder's probable liability and the plaintiff's likely damage award; 3) the offer must be for an amount that is equal to or less than the policy limit; 4) settlement must release all claims against all policyholders; 5) there must a reasonable amount of time for the insurer to evaluate the offer; 6) the terms of the offer must be reasonably clear; 7) a written record of admissible evidence should prove what happened; and 8) if the offer is refused, the later judgment against the policyholder should be covered.

Basics

Liability insurance policies are contracts of indemnity by which insurance companies promise to pay judgments on behalf of a policyholder that are covered by the terms of the policy. Standard policies make no promise to settle lawsuits filed against a policyholder. If the insurer accepts the offer, the plaintiff and the policyholder achieve closure, ending the expense, risk, and distraction of continued litigation. The plaintiff recovers a "reasonable" sum and avoids the risk of a pyrrhic victory: a big uncollectible judgment against a penniless defendant. Alternatively, if the insurer rejects the offer, the insurer may be required to pay the entire judgment, even in excess of the policy limit. Thus, policy limit settlement offers are usually good for plaintiffs, good for defendants,3 and good for the judicial system - but bad for liability insurers and their lawyers. Making a proper policy limit settlement offer is usually a win-win for policyholders and plaintiffs.

Implied Duty to Settle

"California courts have derived an implied duty on the part of the insurer to accept reasonable settlement demands on such claims within the policy limits."4 "[T]he implied obligation of good faith and fair dealing requires the insurer to settle in an appropriate case although the express terms of the policy do not impose such a duty. The insurer must take into account the interest of the insured and give it at least as much consideration as it does to its own interest. The insurer should not be permitted to profit by its own wrong. [A]n insurer, who refuses to accept a reasonable settlement within the policy limits is liable for the entire judgment against the insured even if it exceeds the policy limits."5 "[I]t is common knowledge that one of the usual methods by which an insured receives protection under a liability insurance policy is by settlement of claims. The rule eliminate[s] the danger than an insurer, faced with a settlement offer at or near the policy limits, will reject it and gamble with the insured's money to further its own interests. [T]here is more than a small amount of elementary justice in a rule that would require the insurer, which may reap the benefits of its determination not to settle, should also suffer the detriments of its decision."6

"[A] liability insurance policy's express promise to defend and indemnify the insured against injury claims implies a duty to settle third party claims in an appropriate case. [T]he insurer must settle within policy limits when there is substantial likelihood of recovery in excess of those limits. The duty to settle is implied in law to protect the insured from exposure to liability in excess of coverage as a result of the insurer's gamble—on which only the insured might lose."7 Factors of a Proper Policy Limit Settlement Offer

California law is well developed to determine whether a liability insurer violates its implied duty to settle by declining a "reasonable" settlement offer

1. The Plaintiff Must Initiate the Settlement Offer

"In the absence of a settlement demand or any other manifestation the injured party is interested in settlement, when the insurer has done nothing to foreclose the possibility of settlement, we find there is no liability for bad faith failure to settle."8 However, "a failure to investigate and fairly appraise the third party's claim against the policyholder would breach the covenant of good faith and fair dealing."9 Where the insurer refuses to disclose policy limits or fails to contact the policyholder for consent to disclose policy limits, a formal offer to settle within policy limits may not be necessary.10

2. The Offer Must Reflect Liability and Damages

The offer of settlement must be "reasonable." "[T]he duty to accept reasonable settlements, [is] a duty included within the implied covenant of good faith and fair dealing."11 A leading case seriously considered, but ultimately found it unnecessary to adopt a "per se" rule "that . . . the insurer should be liable in every case for the amount of any final judgment whether or not within the policy limits."12

"[T]he only permissible consideration in evaluating the reasonableness of the settlement offer becomes whether, in light of the victim's injuries and the probable liability of the insured, the ultimate judgment is likely to exceed the amount of the settlement offer."13 "The reasonableness of a settlement offer is to be evaluated by considering whether, in light of the victim's injuries and the probable liability of the policyholder, the ultimate judgment is likely to exceed the amount of the settlement offer."14 A form jury instruction provides: "A settlement demand is reasonable if (insurer) knew or should have known at the time the settlement demand was rejected that the potential judgment was likely to exceed the amount of the settlement demand based on (claimant's) injuries or loss and (insured's) probable liability."15

The amount of a reasonable offer is not impacted by the defendant's inability to pay.16 If multiple policies are available, no insurer is excused from the obligation to accept a policy limits offer because others failed to do so.17 A plaintiff may often satisfy the reasonableness factor by offering to settle for the limits of all available coverage. Also, it may be possible to settle for the limits of some, but no all insurers. In one reported opinion,18 a primary insurer entered a non-
collusive settlement resulting in a stipulated judgment for an amount invading excess coverage. The primary insurer paid its primary limits but an excess insurer rejected a reasonable settlement and failed to undertake the defense. The plaintiff, as assignee of the policyholder's rights, recovered the full amount of an unpaid stipulated judgment from the excess insurer.

3. The Offer Must Be Within the Policy Limit

Size matters. The monetary amount of the settlement offer must be for a sum that is within the insurer's contractual policy limit. "The decisive factor is the refusal to accept an offer of settlement within the policy limits."19 "The duty to settle is implied in law to protect the insured from exposure to liability in excess of coverage as a result of the insurer's gamble—on which only the insured might lose."20 "The size of the judgment recovered . . . when it exceeds the policy limits, although not conclusive, furnishes an inference that the value of the claim is the equivalent of the amount of the judgment and that acceptance of an offer within those limits was the most reasonable method of dealing with the claim."21

Although there are no reported California opinions directly on point, if a plaintiff offers to settle for a sum in excess of the policy limit and the policyholder offers to pay the difference between the offer and the policy limit, it makes sense that this element will be satisfied.

While the monetary amount of the offer must be within the policy limit, determining the correct policy limit may require some effort. Many policies have a per occurrence and a larger aggregate limit. Multiple "occurrences" may trigger more than one per occurrence triggering more than one policy limit and/or more than one deductible.22 Some policy limits state the amount the insurer must pay while others limits are reduced by a deductible or self-insured retention. Some policyholders have excess or umbrella policies that raise the limit of a primary policy. Some defendants have multiple policies, each of which may be available to calculate the correct policy limit. Some policies are renewed, often for a year at a time, so that a fresh policy limit may apply for each year the policy was in force. Some policies have "burning limits" so that the contractual policy limit is reduced by certain claims expense.23 Settlement is possible in excess of the limits of a defending insurer to reach the limits of a non-participating insurers.24

As a rule, a proper policy limits settlement offer should not include terms other than the payment of money. The insurer is a financial institution that promises only to "pay" a judgment. Thus, a settlement offer that includes terms which the insurer is not able nor required to perform may excuse the insurer from bad faith liability for a failure to settle. The implied covenant does not obligate a liability insurer to accept a settlement demand requiring performance beyond that due under its policy.25 However, it is logical that if a settlement offer does include terms beyond the mere payment of money and the policyholder agrees to be responsible for satisfying such terms so that the insurer has no obligations except to pay money, then the settlement offer may pass muster.

4. The Settlement Must Release All Claims Against All Policyholders

The offer must release all policyholders from all claims of further liability. "[A]n insurer's duty extends to all of its insureds. Therefore, an insurer may, within the boundaries of good faith, reject a settlement offer that does not include a complete release of all of its insureds."26

A liability insurer has a duty of good faith to all of its policyholders. It may not accept a settlement offer on behalf of one policyholder if doing so might injury other policyholder(s). An insurer is not permitted to accept a settlement offer that would leave any excluded policyholder exposed to liability. An insurer may not accept a policy limits settlement offer if doing so would exhaust its policy limits to settle on behalf of one policyholder, thereby leaving any remaining policyholder underfunded.27 Similarly, in one reported opinion, an otherwise proper policy limit demand was found to be invalid where the offer failed to extinguish a workers compensation lien that would have left the policyholder exposed to liability.28

An insurer is not permitted to settle a suit on terms that include one policyholder while excluding another, unless the excluded policyholder(s) consent(s). The insurers duty to good faith to the first policyholder does not require it to violate that duty to the other policyholder(s). "[A]n insurer's duty [of good faith] extends to all of its insureds. Therefore, an insurer may, within the boundaries of good faith, reject a settlement offer that does not include a complete release of all of its insureds."29

5. The Offer Must Grant a Reasonable Time for Acceptance

The amount of time within which the insurer may accept a settlement offer must be reasonable. "Even if the insurer attempts to resume negotiations by a belated offer of the policy limit, that action does not necessarily relieve it of the onus of an earlier bad faith rejection. She had a right to attach a time limit to her offer, but the insurer was not bound by it. Had the company needed more time for investigation, for a good faith assessment of the claim's value or for consultation with its policyholder, it might have chosen neither to accept nor reject her offer, but rather to suggest additional time."30

Some plaintiffs have erred by imposing unreasonably short deadlines for an insurer to accept a settlement offer. Whether a plaintiff's goal is to achieve settlement or perfect a bad faith case, the insurer must have an adequate opportunity to investigate liability and damages. Whether the insurer is obligated to accept a settlement demand may turn on the reasonableness of any deadline for acceptance of the demand. This is basically a question of fact in each case.31

6. The Terms Must Be Clear

The terms of the offer must be reasonably clear. The actual language used in a proper policy limits settlement offer will create the benchmark against which a jury in a bad faith case will compare a subsequent judgment. If a jury cannot understand the terms of a policy limits settlement offer, they may conclude that an insurer should not be expected to have understood it. A written policy limits settlement offer letter may be the only piece of documentary evidence for a jury to consider in a bad faith trial, when an insurer simply does not respond. Thus, the offer should satisfy all of the usual elements of contract law.32 It may be best for a settlement offer to be so clear that the insurer need simply respond by saying "yes."

7. The Offer and Refusal Must Be Proved by Admissible Evidence

Plaintiff's counsel should make a policy limit demand in writing, emphasizing evidence that supports the defendant's probable liability and the plaintiff's probable damage award. The author of the settlement demand should keep in mind that the ultimate audience for such a written demand is the jury in a bad faith case. Thus, it should include most information the jury needs to find bad faith, and its tone should be magnanimous. Some courts have considered whether or not the defense lawyers' evaluation supports probable liability and damages. Often, insurance defense lawyers tend to refute plaintiff's policy limit demands, while Cumis counsel tend to support them - a result of the conflicts of interest that arise when a plaintiff seeks to settle within policy limits.

8. The Judgment Should Be Covered

Where a coverage dispute exists, the settlement offer may need to be reasonable in relation to the policyholder's covered liability. A coverage dispute is not a proper consideration for an insurer in deciding whether to settle a claim against the insured. "[I]n deciding whether or not to compromise the claim, the insurer must conduct itself as though it alone were liable for the entire amount of the judgment."33 Still, at least one court permitted an insurer to challenge the reasonableness of a settlement demand with respect to covered damages only. "The insurer does not . . . insure the entire range of an insured's well-being, outside the scope of and unrelated to the insurance policy. . . . It is an insurer, not a guardian angel."34

A. Insurer's Duty to Advise of Settlement Opportunities

The insurer has an affirmative obligation to investigate the merits of a claim, evaluate whether the policyholder may be exposed to excess liability and advise the policyholder. "It is the duty of the insurer to keep the insured informed of settlement offers."35

B. Valuing Covered and Non-Covered Claims

Understandably, insurers are wont to settle non-covered claims for which the policyholder never paid premiums. Thus, the parties should consider distinguishing between and valuing covered and non-covered claims. The larger the legitimate valuation of covered claims is, the more likely it will be that the insurer will accept a policy limit settlement offer.

C. Counsels' Opinions

In assessing the policyholder's liability to the plaintiff and the amount of the plaintiff's damages, the opinions of the soldiers on the front line are prized. Both the plaintiff's counsel and defense counsel should communicate with the insurer to assess liability and damages. Again, the greater the policyholder's exposure to liability and the larger the amount of the plaintiff's legitimate damages are, the more likely it will be that the insurer will accept a policy limit settlement offer.

An insurer may defend a bad faith claim on the ground that it relied in good faith upon the advice of defense counsel that may tend to show the insurer was acting reasonably in its handling of the claim. Evidence that an insurer rejected an attorney's advice to accept a settlement may strongly support a finding of bad faith.36 An insurer cannot avoid extracontractual liability by relying on legal advice that it knew was incorrect.37 The policyholder may sue dependent counsel who fails to properly handle a policy limit settlement offer for malpractice and breach of fiduciary duty.38

Recoverable Damages For Breach of the Duty to Settle

An insurer that breaches its duty to settlement is liable for all the policyholder's damages proximately caused by the breach, regardless of policy limits.39 The third party plaintiff with a judgment for bodily injury or property damage may be entitled to recover this measure of damage directly from the insurer for bodily injury or property damage.40 The policyholder, but not the plaintiff, may recover additional damages for bad faith conduct by an insurer. These damages include:

(1) Emotional Distress;41

(2) Attorney Fees;42 and

(3) Punitive Damages.43

The policyholder may not assign to the third party plaintiff the right to recover for emotional distress or punitive damages.44 However, the defendant can grant to a plaintiff a lien in all or some of the defendant's recovery for these non-assignable damages.45

Cooperation and Collusion

Plaintiffs and defendants have wide discretion to cooperate with one another.46 "Of course, as stated some years ago by Judge Cardozo, a cooperation clause may not be expanded to require the assured 'to combine with the insurer to present a sham defense.'"47 Courts rarely enforce "collusion" against plaintiffs and defendants who cooperate, especially when an insurer is in breach of its duty to defend or duty to settle.48

No Direct Duty to the Injured Plaintiff

"The insurer's duty to settle does not directly benefit the injured claimant."49 "However, while the implied covenant of good faith and fair dealing has become a contract "term" within the meaning of section 11580, neither third party beneficiary doctrine nor the Financial Responsibility Law warrant granting the injured claimant the right to recover from the insurer for breach of the duty to settle."50

A third party should not be permitted to enforce covenants made not for his benefit, but rather for others. "The insured may assign his cause of action for breach of the duty to settle without consent of the insurance carrier, even when the policy provisions provide the contrary."51

Conclusion

When a plaintiff wishes to make a policy limits settlement offer that a policyholder's insurer should accept, it is essential that it be done properly. Too often, counsel for plaintiffs and defendants are ignorant of the significant legal factors that will determine whether a policy limit demand has the desired effect. Generally, insurers and their lawyers are not ignorant of these factors. If a settlement demand fails to meet all of these considerations, the insurer knows that no adverse consequence will likely befall it for failing to accept the offer. Thus, inadequate policy limit demands are far less likely to receive serious consideration than are proper demands. Also, inadequate policy limit demands are far less likely to result in opening up the insurer's policy limit than are proper demands.