DISCOVERY IN BAD FAITH CASES

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1 DISCOVERY IN BAD FAITH CASES Barbara A. O Brien A. The Tort of Bad Faith Bad faith is a separate tort from breach of contract. Anderson v. Continental Ins. Co., 85 Wis.2d 675, 686, 271 N.W.2d 368 (1978). Bad faith is a separate intentional wrong, which results from a breach of duty imposed as a consequence of the relationship established by contract. Id. at 687. To succeed in a bad faith claim, a plaintiff must show the absence of a reasonable basis for denying benefits of the policy and the defendant s knowledge or reckless disregard of the lack of a reasonable basis for denying the claim. Id. at 691. Insurer must proceed in a manner that is honest and informed. Id. at 692. Elements needed to establish a bad faith claim: (1) the terms of the policy obligated the insurance company to pay the claim; (2) the insurer lacked a reasonable basis in law or fact for denying the claim; and (3) the insurer either knew there was no reasonable basis for denying the claim or acted with reckless disregard for whether such a basis existed. Arnold Anderson, Wisconsin Insurance Law, 9.4, at 5, (6 th ed. 2010). Mere failure to pay is not enough. B. When is Discovery Permitted if Bad Faith is Alleged Insureds are not permitted to engage in broad bad faith discovery every time bad faith is alleged. 1

2 Some breach of contract is a fundamental prerequisite for a first-party bad faith claim against an insurer and thus discovery. Brethorst v. Allstate Property & Cas. Ins. Co., 334 Wis.2d 23, 54, 798 N.W.2d 467, 482 (2011). Insured may not proceed with discovery on bad faith claim until he/she has: (1) Pleaded a breach of contract by the insurer as part of a separate bad faith claim, and (2) Satisfied the court that he/she has established such a breach or will be able to prove such a breach in the future. Brethorst, 2011 WI 41, 76. Rationale: An insurer is facing potential prejudice when an insured is allowed to seek discovery on bad faith without evidence of a breach of contract. The Wisconsin Court of Appeals in The Farmers Automobile Ins. Assoc. v. Union Pacific Railway Co., 2008 WI App 116, 313 Wis. 2d 93, 756 N.W.2d 451 stated: Undoubtedly, [the insured] would love to scour through [the insurer's] files in an attempt to find some dirt. Indeed, his lawyer told the circuit court as much during the hearing on [the insurer's] motion for summary judgment on the bad-faith claim: [The insured] went to [the insurer] and said this is what I believe my house is worth. Based on the fact that they disagreed with him, he should have an opportunity to take a look { "pageset": "Sd2 at exactly why is it that [the insurer] disagreed with him. But absent an objectively unreasonable response to an insured's offer of settlement, we are left with a mere legitimate disagreement, which,... is not enough to state a cause of action on the objective aspect of a bad-faith claim. Id., 28. The allegations must withstand the insurer s rebuttal. The insurer must be permitted to challenge the claim not just by pleading but by motion. Brethorst, 2011 WI 41, 77. The 7 th Circuit concluded that the insured must show a likelihood that the documents sought may contain evidence of bad faith. Logan v. Commercial Union Ins. Co., 96 F.3d 971, 977 (7 th Cir. 1996) C. What Materials Are Discoverable in a Bad Faith Claim? 1. The Claim File and Related Documents 2

3 The scope of bad faith discovery is much broader than that permitted for breach of contract claims. Brehorst, 2011 WI 41, 75 n. 7. Plaintiffs litigating a claim of bad faith may be entitled to discover: (1) the insurance company s work product, and (2) attorney-client privileged material containing information relevant to how the claim was handled. Dahmen v. American Family Mut. Ins. Co., 2001 WI App 198, 13, 247 Wis.2d 541, 635 N.W.2d 1. This could include: Insurance company s internal determination to deny benefits. Id. Insurance company s evaluation as to how a jury may value the claim. Id. Insurance company s approach to settlement. Id. See e.g. Gronik v. Balthasar, 2013 WL (E.D. Wis. Sept 24, 2013)(Reserves set prior to any dispute between the insured and insurer are not privileged) a. Are Any Documents Privileged? Wis. Stat provides: A client has a privilege to refuse to disclose and to prevent any other person from disclosing confidential communications made for the purpose of facilitating the rendition of professional legal services to the client: between the client or the client s representative and the client s lawyer or the lawyer s representative; or between the client s lawyer and the lawyer s representative; or by the client or the client s lawyer to a lawyer representing another in a matter of common interest; or between representatives of the client or between the client and a representative of the client; or between lawyers representing the client (2) 1 In first-party claims, the attorney representing the insurance company is not at any time representing the insured. A claim for bad faith is not an enumerated exception in the statute (4.) Thus, even if in a 1 A communication is confidential if not intended to be disclosed to 3 rd persons other than those to whom disclosure is in furtherance of the rendition of professional legal services to the client or those reasonably necessary for the transmission of the communication. Wis. Stat (1)(d) 3

4 claim file, the documents should be listed on a privilege log and kept confidential. In contrast, in a third party claim, the insurer and defense counsel have an obligation to defend the insured. The attorney is first and foremost the attorney for the insured. Thus, there can be no privileged material because the insured was the client. b. Other Jurisdictions i. Attorney Client Privileged Material Attorney client privilege extends to a communication if: (1) It is made to an attorney in his or her capacity as a lawyer (2) It is made for the purpose of seeking legal advice (3) It is made in confidence Upjohn Co. v. United States, 749 U.S. 383, 389 (1981). Some jurisdictions have held that attorney-client privileged material is discoverable in bad faith litigation. Boone v. Vanliners Ins. Co., 744 N.E.2d 154 (Ohio 2001). Ohio Supreme Court held that attorney-client privileged materials are discoverable in an alleged bad-faith denial of an insurance claim. Id. at 158. In an action seeking uninsured motorist coverage, the plaintiff alleged that the insurer lacked a reasonable basis to deny the claim. Id. at 155. The trial court in this case stated that the lack of a good faith effort to settle... are wholly unworthy of the protections afforded by any claimed privilege. Id. at 157 (citing Moskovitz v. Mt. Sinai Med. Ctr., 635 N.E.2d 331, 349 (Ohio 1994). The Ohio Supreme Court agreed and held that in a case of bad faith, file materials created prior to the denial, including attorney-client privileged communications, are discoverable. Id. at 158. Allstate New Jersey Ins. Co. v. Humphrey, 2008 WL (N.J. Super. App. Div. 2008) (unpublished). Insurer denied coverage in a personal injury claim under a policy exclusion. 4

5 The court held that the insured can pierce the attorney-client privilege by showing a legitimate need for the evidence, showing the relevance of the evidence, and showing that the information could not be obtained another way. Id. at *4. Nowak v. Lexington Ins. Co., 464 F. Supp. 2d 1241 (S.D. Fla. 2006). Held that an insurer cannot assert attorney-client privilege to withhold documents relevant to a bad-faith issue, including advice related to the claim, and coverage determination. Id. at ii. Work Product Material Under the work product doctrine, documents and tangible things prepared by or on behalf of a party in anticipation of litigation are not discoverable, absent a special showing of need. FED. R. CIV. P. 26(b)(3). The purpose of the work product doctrine is to promote the orderly prosecution and defense of legal claims by allowing attorneys privacy to prepare their cases without undue and needless interference and unnecessary intrusions by opposing counsel. Hickman v. Taylor, 329 U.S., 495, (1947). Work product materials that include the mental impressions of counsel are afforded greater protection and are generally undiscoverable. FED. R. CIV. P. 26(b)(3). Absent a showing of substantial need, work product materials should remain privileged. FED. R. CIV. P. 26(b)(3). Some courts have held that in bad faith cases, the requirement of substantial need is automatically met and work product materials are discoverable: Allstate Indemnity Co. v. Ruiz, 899 So 2d 1121 (Fla. 2005). The Florida Supreme Court held that all work-product materials in a claim file, up to the date of resolution of the underlying matter, were discoverable. Id. Brown v. Superior Court, 137 Ariz. 327, 670 P.2d 725 (1983). Court held that the very nature of a bad faith complaint satisfied the substantial need requirement. Id. at

6 Because the information relating to the insurer s investigation, reasons for denying coverage or defense, and how the insurance company went about making its decision are available only in the insurer s claim file, the work product privilege is overcome by a showing of substantial need. Id. Other courts hold that a mere allegation of bad faith, without more, will not satisfy the substantial need requirement. These cases hold that an insured must demonstrate an actual need for the materials sought: Bozeman v. State Farm Fire and Cas. Co., 420 So. 2d 89 (Ala. 1982). In addition to alleging bad faith, an insured must make a showing of substantial need before the court will compel production of documents protected by the work product privilege. Id. at Because the insured did not make a showing of substantial need on the record, work product materials were not automatically discoverable. Id. Travelers Indem. Co. v. Allied-Signal, Inc., 124 F.R.D. 101 (D. Md. 1989). Insured must show persuasive evidence that the insurer acted in bad faith; a mere allegation of bad faith is insufficient to compel discovery of work product materials. Id. at 103. For opinion work product, which is granted elevated protection, most jurisdictions hold that it is discoverable only in rare circumstances. Palmer v. Farmers Ins. Exch., 261 Mont. 91, 861 P.2d 895(Mont. 1993). Opinion work product is discoverable only if the strategy, mental impressions, and opinions regarding an insurer s handling of a claim are directly at issue in the case and the need for the material is compelling. Id. at 117. The court reasoned that because the insurance company, not its attorneys, denied the claim, attorney mental impressions were not directly at issue in the case, and were therefore not discoverable. Id. at Discovery Beyond the Claim File A plaintiff may attempt to engage in discovery beyond the claim file for a particular case. A plaintiff may seek to show that either the insurer is involved in an alleged pattern of denying certain claims, or that the insurer denied coverage of the plaintiff s claim while extending coverage to other similar claims. Ron A. Yarbrough and Cheri Turnage Gatlin, Discovery of Information from an Insurer, 3 FIDELITY L. ASS N J. 71, 72 (1997). 6

7 a. Claim Handling Practices Plaintiff may try to establish a broader pattern of wrongful conduct. Example: Did you handle this claim in the same manner that you handle other claims involving similar circumstances? If the claim handler answers Yes, then the plaintiff has established a pattern of wrongful conduct. If the answer is No, then there is an inference that the claim handler singled out this insured for special improper treatment. i. Claim manuals or other memoranda describing claim handling procedures. ii. iii. iv. Training manuals for newly hired employees. Claim department forms. Quality assurance manuals and audit procedures. b. Evidence of a pattern of wrongful conduct. i. Other claim files involving similar claims. ii. iii. iv. Department of Insurance Consumer complaints. Department of Insurance Market Conduct Examinations. Internal databases v. Files of preferred contractors c. Claim payment goals or incentive programs i. Reduction in average claim costs ii. iii. Savings generated by fraud unit Performance measurements The majority of courts deny any discovery of the records of other insureds either on the grounds that it will not lead to the discovery of relevant evidence, or on the ground that the relevance is so clearly outweighed by the burden of production. See e.g., North River ins. Co. v. Mayor and City Council of Baltimore, 680 A.2d 480 (Ct. App. Md. 1996). However, discovery of claim files of other insureds has been permitted in some jurisdictions. 7

8 PECO Energy Co. v. Insurance Co. of North America, 2004 PA Super 221, 852 A.2d Claim against numerous liability and property insurers for indemnity and reimbursement of costs incurred as a result of liability for environmental damage. Plaintiffs also sought additional damages for insurers breach of their insurance contracts. Id. 2. The plaintiff sought to discover, among other things, other policyholders claim files. Id. 3. The insurers argued against discovery of the other claim files on the grounds that they were not relevant, were protected by attorney-client, work product, and trade secret privileges. Id. 4. The plaintiff argued that other claim files would be relevant to analyze whether the insurers have provided past coverage for the types of claims now asserted. Id. 12. The court held that discovery of other claim files would be permitted, but also held that the requests must not be unduly burdensome and should be limited to environmental claims. Id. 13. *Special thanks to Emily Kuhn 8