California Court of Appeal Issues Important Opinion on Bad Faith Failure to Settle

The California Court of Appeal issued an important decision that may significantly impact how settlement opportunities are evaluated in catastrophic liability claims.  In Pinto v. Farmers Ins. Exch., No. B295742, ___ Cal. App. 5th ___, 2021 WL 857776 (Cal. Ct. App. Mar. 8, 2021), the court ruled that an insurer cannot be held liable for bad faith failure to settle unless it “acts unreasonably in some respect.” In reaching this conclusion, the court rejected a rule that an insurer is subject to bad-faith liability whenever it fails to accept a reasonable settlement offer within policy limits where there is potential exposure for an amount greater than the policy.  

Pinto involved a single-vehicle accident where the claimant was rendered quadriplegic. Farmers issued an auto policy with a $50,000 limit covering the owner and driver. Farmers did not accept the claimant’s offer to settle for policy limits because it required sworn statements from the owner and driver that they were not within course and scope of employment. Farmers was unable to locate the driver. After the claimant recovered a nearly $10 million judgment, the claimant sued Farmers for bad faith based on rights assigned by the owner and driver. At the bad-faith trial, the court instructed the jury with a version of CACI 2334, the bad faith failure to settle instruction, which asks whether an insurer “failed to accept a reasonable settlement demand,” but which says nothing about whether this failure was unreasonable. The Court of Appeal found the instruction erroneous. The court explained that California law has “never held that failure to accept a reasonable settlement is per se unreasonable” and that “[t]o be liable for bad faith, an insurer must not only cause the insured’s damages, it must act or fail to act without proper cause, for example by placing its own interests above those of its insured.” The court noted that a “facially reasonable demand might go unaccepted due to no fault of the insurer.” 

Practical Implications
Pinto is an important decision with far-reaching implications.  Following Pinto, it may be more difficult to convince insurers to settle catastrophic claims within policy limits. California law imposes harsh consequences on insurers who fail to settle claims covered by their policies. The most significant is that an insurer is held responsible for paying the full value of any judgment entered against its policyholder, regardless of how large the judgment and how comparably small an insurer’s limits. Without the threat of excess liability hanging over their heads, it is unclear whether insurers will be as willing to take policyholders out of harm’s way. This places policyholders in a difficult situation because California law provides defending insurers with almost absolute control over settlement decisions. If an insurer refuses to settle, then someone, either the policyholder or insurer, will be responsible for the excess verdict. Before Pinto, it was always the insurer so long as the settlement demand was reasonable. Moving forward, this is less clear. Policyholders will now need to convince a judge and jury that the insurer acted unreasonably when refusing to settle. But this requires an excess verdict and a second lawsuit.  In addition, Pinto implies a confusing legal rule that may be difficult for courts and juries to apply. What does it mean for an insurer to reasonably refuse a reasonable settlement offer?  It is unclear. Given the importance of policy limits to policyholders and the insurance industry, we have not heard the last of this issue. Pinto is most likely the first salvo in what will be protracted litigation about the meaning of its holding and the scope of CACI 2334.