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Insurance carriers doing business in California are required by law to communicate reasonably and fairly with their policyholders. This duty is not technical in nature or difficult to articulate. The carrier must disclose to the policyholder any event or decision potentially affecting the insured’s interests. To promote openness in the insurer-insured relationship, carriers violating this duty for their own selfish gain are held liable for bad faith. Insurance is no longer cheap and plentiful. Carriers are not writing coverage below pure premium just to get money into an overheated stock market. Insurers in many business risk categories are fleeing California in droves, leaving the largest insurance companies to dominate high-exposure categories such as directors and officers liability policies. Premium increases on the order of 50 percent or even 100 percent are not unheard of. In fact, some of the largest insurers, who sense that their ability to raise premiums is topping out, are now looking for ways to cut costs to maintain profitability. The most significant cost to every carrier comes from claims payments. As a result, when the biggest insurers look for ways to reduce their costs, they are really looking to pay fewer claims while keeping obligatory claim payments in their pockets for as long as possible. In the midst of what general counsel and risk managers of California businesses report as an increasingly intense and hostile insurance environment, some of the largest insurance companies are challenging whether they are barred from concealing important claim-related events and decisions to corporate policyholders. Make no mistake. These insurers are looking for ways to pay fewer policy benefits to business-related policy owners. These carriers are clamoring for less judicial oversight of their activities toward businesses on a fundamentally questionable assumption: that corporate policyholders and commercial insurers have equal bargaining power in the current insurance marketplace. They advocate, in effect, a “big company” exception to the carrier’s duty to communicate fairly and reasonably with their corporate policyholders. If insurers persuade California courts to adopt such a rule, companies of any size doing business in this state must beware. Currently, carriers must promptly acknowledge coverage, identify as early as possible any and all coverage defenses that might someday apply to a claim (depending on how underlying events or litigation unfold) and disclose to the policyholder when the insurer decides to deny coverage in whole or in part. If insurers are relieved of these duties, they will be free to make decisions and take positions concerning corporate policyholders without taking the insured’s interests into account in any way, without consequence. Let’s say, for example, that a business is sued for liability by a third party and submits a claim to its carrier. The policy contains two insuring agreements: The first covers any judgment up to a certain limit while the second covers interest on a within-limits judgment beyond the policy limit. The carrier decides that any judgment against the business will be covered under the first insuring agreement up to its dollar limit. But it also decides that it will deny coverage under the second insuring agreement for any interest on a judgment. The insurer does not reserve rights or otherwise advise the insured that it has no intention of providing coverage under the second insuring agreement. To most, this would seem to constitute bad faith. One of the largest insurers now asserts that a carrier should be excused from liability when it conceals material facts from a corporate insured and the insured suffers a loss when it proceeds in reliance on facts the carrier knows are inaccurate. Another example involves an insurance company that decides internally to deny part of a claim without informing the insured. The insured in turn changes its position regarding its defense of the underlying claim in reliance on the fact that the carrier has not reserved any rights. The carrier then argues that because the insured is as sophisticated as the insurance company, the insured cannot argue bad faith. We learned in law school that contractual relationships are arms-length and that either party may breach without any penalty and without moral infraction if the value of doing so would exceed the contract damages incurred. We also learned that insurance policies are the sole exception to this rule. Because insurance has a public and private function in society, our society censures an insurer for breaching an insurance policy by imposing tort as well as contract damages if the breach was unreasonable — and punitive damages if it was despicable. The public function of insurance is expressed in the covenant of good faith and fair dealing implied into every insurance contract issued or performed in California. In order to comply with this covenant, a carrier has the duty to communicate reasonably with the policyholder. In another case currently in the pretrial stage, a large insurer claimed that it could not be liable under California’s unfair business practice law, Business & Professions Code § 17200, because the insured was not a “consumer” under the statute. The court correctly found that the insured was a consumer of insurance, but only after a lengthy and expensive battle between the company and its carrier. Insurance companies also are threatening their insureds with rescission in the early stages of coverage disputes. Due to some recent carrier successes in rescission actions resulting from shareholder litigation against officers and directors, companies are genuinely frightened by this prospect. Carriers are not stopping there, however. Outside directors are being contacted directly by D&O carriers regarding the adequacy of their coverages in an attempt to frighten them into purchasing new products that often are both expensive and illusory. There has been a lot of talk in recent months about the unfair business climate in California, an issue that also injected itself into the recall campaign against Gov. Gray Davis and the election of his successor, Arnold Schwarzenegger. Critics point to legislation increasing the state minimum wage above the federal standard and mandating health coverage for employees, runaway jury verdicts against products manufacturers and land-use regulations inhibiting the development of affordable housing for workers. Little is said about the quiet crusade being waged in California courts by a handful of multinational insurers seeking to recoup in coverage contractions and claim denials what they cannot force upon corporate policyholders through premium increases. These insurers urge the relaxation and outright abandonment of the duty of commercial insurers to communicate with their business customers and treat them in good faith. At the same time, these large carriers are reducing their coverage and raising premiums wherever the market will bear. These insurers — as much as any of the better publicized factors contributing to California’s anti-business reputation — directly add to the perception that this state is a hostile environment in which to locate and operate a business. David E. Wood is a partner at Wood & Bender, a litigation firm in Los Angeles and Camarillo that specializes in enforcement of business insurance policies.

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