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WHEN DEFENSE COUNSEL MUST INFORM THE INSURED OF THE RIGHT TO SUE THEIR INSURANCE COMPANY FOR BAD FAITH

Posted by H. Lee Pruett

As defense counsel hired by insurance companies to represent their insureds, we are loath to bite the hand that feeds us. Yet that is exactly what it feels like when a plaintiff makes a demand within the liability policy limits and counsel must inform the insured of the bad faith claim they may bring against the insurance company if the company refuses to settle and a subsequent judgment exceeds the limits. What is “bad faith” in this context? And from where does this troubling duty to inform the insured spring?

Dating back to State Farm v. Smoot, 381 F.2d 331 (1967), and USF&G v. Evans, 116 Ga. App. 93 (1967), the courts have held that insurers must act reasonably and in good faith in evaluating claims against their insureds and, while considering their own interests, they must give equal consideration to the interests of the insured. As the court held in Smoot, the question is whether the insurer conducted a reasonable evaluation of the case “at each stage,” whether “proposed settlements were rejected consciously in terms of deliberative judgment evaluation or because of other or no reasons.” Smoot, 381 F.2d at 334. The insurer must consider the conduct of its insured in the incident at issue, the medical evidence, and all other factors likely to affect the verdict. Smoot also teaches that the insurer should seek and consider defense counsel’s judgment in evaluating the case. In Evans, the Georgia Court of Appeals held that the insurer is negligent in failing to settle if “trial would involve chances of unfavorable results out of reasonable proportion to the chances of favorable results.” Evans, 116 Ga. App. at 95. Thus, if the insurer declines to pay a demand within policy limits, and a judgment is rendered in excess of the limits, the insured may file suit against the insurer for bad faith or negligent refusal to settle. If the insured proves either, the insurance company must pay the excess amount.

The problem for defense counsel is that, while he or she is working with the insurance company to investigate and evaluate the case, counsel must take an apparently adversarial position by advising the insured of their right to sue the company for bad faith. But that is our duty, as clearly stated in the Georgia Supreme Court’s Formal Advisory Opinion 86-4. The Court first states that the plaintiff’s attorney is not the proper person to inform the insured of the potential bad faith claim because that amounts to legal advice to an adverse party. The proper person is defense counsel. While the Court acknowledges defense counsel’s “dilemma”-the insurance company hired counsel and would prefer that the insured not know of the right to sue for bad faith-the Court states that “the dilemma is only apparent.” Counsel represents the insured, the Court says, and has an ethical duty to not only inform the insured of settlement offers, but also of the insurance company’s potential bad faith in refusing to accept a reasonable offer within policy limits.

As a practical matter, it helps to call the insurance company to give them a heads up before the letter goes out to the insured client. And when your honest and informed opinion is that the value of the case should not exceed policy limits, there is nothing wrong with sharing that opinion with the insured while telling them at the same time that it is in their best interest for the case to settle.