Insurance Claims Practices. Civil Remedies.
Under current law, an insurance company must handle claims from a policyholder in a fair manner. It is illegal for an insurance company to engage in "unfair" claims practices, such as:
- Failing to promptly explain the reason for denying a claim or offering a compromise settlement.
- Failing to act in "good faith" to settle a claim in which liability is reasonably clear.
If an insurance company unfairly handles a claim (typically referred to as the "underlying claim"), the policyholder has two ways to respond: (1) file a complaint with the Department of Insurance (DOI), which is responsible for enforcing state law regarding unfair claims practices; and/or (2) sue his or her insurance company in civil court. These lawsuits by individuals against their own insurance companies are referred to as "first-party" actions.
There are many insurance claims--especially those involving auto accidents--that involve two individuals. For instance:Driver X runs a red light and hits Driver Y, causing both bodily injury to Driver Y and damage to her car. Driver X's insurance company is willing to pay Driver Y $20,000 for her injury and damages, but not the $30,000 Driver Y feels is reasonable. Driver Y can either accept the $20,000 or reject it and sue Driver X in court.
If Driver Y feels that Driver X's insurance company did not deal with her fairly throughout the process, Driver Y--as a "third-party" claimant--has only one way to respond. She can file a complaint with DOI for an investigation. She cannot sue Driver X's insurance company for unfairly handling the claim (a so-called third-party lawsuit). These third-party lawsuits were possible in California during the 1980s but are not now. See nearby box for a brief legal history.
Legal History on Third-Party Lawsuits in California Prior to 1979 Third-party lawsuits were not allowed. March 1979 The California Supreme Court ruled in Royal Globe Ins. Co. v. Superior Court that a third party could sue an insurance company for unfair claims practices. August 1988 In Moradi-Shalal v. Fireman's Fund Ins. Co., the California Supreme Court overturned its Royal Globe decision. The court held that state law did not include a right for a third-party claimant to sue an insurance company for unfair claims practices. October 1999 The Governor signed two laws specifically allowing third-party lawsuits in certain situations. These measures were to have gone into effect January 1, 2000. In December 1999, however, referenda on the two laws qualified for the March 2000 ballot (Propositions 30 and 31). Thus, the provisions of the two laws are "on hold" until after the vote on the propositions.
In the fall of 1999, the Legislature approved and the Governor signed SB 1237 (Chapter 720) and AB 1309 (Chapter 721). These laws allow third-party claimants to sue insurance companies under certain conditions. The two laws would have gone into effect January 1, 2000. In December 1999, however, referenda on the two laws qualified for the March 2000 ballot (Propositions 30 and 31). Once these propositions qualified, SB 1237 and AB 1309 were put "on hold" until the vote at the March 2000 election.
If approved, this proposition would allow the provisions of SB 1237 to go into effect. Senate Bill 1237 (1) gives third-party claimants the right to sue an insurance company for unfair claim practices in certain liability cases and (2) creates an alternative, binding arbitration system for settling these liability cases.
This proposition allows an individual or a business to file a third-party lawsuit against an insurance company for unfair claims practices in handling liability claims. (Liability insurance provides financial protection to individuals and businesses for harm that occurs to others.) This insurance generally provides compensation for bodily harm, wrongful death, and economic losses. A third-party lawsuit could be filed, however, only if:
If the lawsuit goes forward, the third-party claimant needs to prove in court that the insurance company unfairly handled the claim. If the third party wins the lawsuit, the claimant could receive an amount that is higher than the insurance policy limits.
- The third party was not driving under the influence of alcohol or drugs at the time of the accident that caused injury.
- The third party sends a written final request to the insurance company to settle the claim for an amount within the insurance policy limits.
- The third party is awarded an amount larger than the final written request.
An Example. In the earlier example, Driver Y had one way of responding to the insurance company's handling of her case--filing a complaint with DOI. Under this proposition, she could also pursue a third-party lawsuit against Driver X's insurance company. To do so, an award in the underlying claim would have to exceed her final written request. (For instance, if her final request was the $30,000 she thought was reasonable, the award would have to be more than that amount.)
This proposition also creates a binding arbitration system to settle certain disputed underlying claims (generally those of $50,000 or less where the claimant is represented by a lawyer). Either a third-party claimant or an insurance company can request arbitration, but both sides must agree before the case goes to arbitration. If a case goes to arbitration, the third-party claimant cannot sue the company. In all cases, an arbitration award cannot exceed policy limits or include damages not covered by the policy.
Interaction With Proposition 31
Proposition 31 would modify portions of this proposition if both are approved by the voters. In general, Proposition 31 would place some limits on when a third-party lawsuit could be filed. Please see the analysis of Proposition 31 for more details.
The fiscal impact of this proposition on state and local governments would depend on the future behavior of individuals, insurance companies, and other businesses in response to its provisions. The proposition, however, would likely increase liability insurance costs in California. These higher costs would occur because (1) in many cases, insurance companies will settle or arbitrate claims for somewhat higher amounts to avoid third-party lawsuits; and (2) when there are such lawsuits, insurance companies will incur greater costs. These higher costs could be offset in part by savings from other provisions in the proposition. For instance, some arbitration awards might be lower than what the insurance companies otherwise would have paid.
The net increase in liability insurance costs, however, presumably would result in insurance premiums that were higher than they otherwise would have been. In order for an insurance company to increase premiums, DOI must review and approve proposed premium increases.
Insurance Gross Premiums Tax. The state currently taxes insurance companies on the basis of gross premiums. (This tax is instead of the corporate income tax.) The current tax is 2.35 percent of gross premiums. Any increase in insurance premiums would increase state revenue from this tax. We estimate, for example, that for each 1 percent increase in liability premiums, state tax revenues would increase by about $2 million each year.
State Court Costs. The proposition could affect the number of civil cases taken to court. On the one hand, some provisions of the proposition could reduce court costs (by shifting cases to arbitration). Other provisions, however, could increase court costs (by allowing third-party lawsuits). We cannot estimate the net effect of these provisions on state costs.
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