Insurance Class Actions Insider -

In February, there was a new class action filed against Citizens Property Insurance Corporation, Florida’s property insurer of last resort, alleging that it was using Xactware’s 360Value software to purportedly overvalue homes and charge inflated premiums.  This week, Allstate was sued in a putative nationwide class action in Illinois federal court making claims on a similar theory, based on Allstate’s use of Marshall Swift & Boeckh (MSB) software to estimate replacement cost value of homes for purposes of setting policy limits and premiums.  I’m not yet prepared to say this is a trend, but other insurers may wish to take another look at their valuation software. 

The complaint in Diskey v Allstate Indemnity Company.pdf, Case No. 1:12-cv-03728 (N.D. Ill., filed May 15, 2012), alleges that MSB performed an analysis for Allstate in 2004 which determined that 59% of homes insured by Allstate nationwide were underinsured, with an average undervaluation of 27%.  The plaintiff claims that Allstate went too far in remedying that problem and allegedly used MSB software to unduly inflate the valuations of homes used in determining policy limits and thus unduly increase premiums.  The complaint also alleges that Allstate’s homeowners insurance policies provide for the use of a “Property Insurance Adjustment” (PIA) index to adjust policy limits at each policy anniversary, and that when the PIA indices went down, Allstate still increased policy limits and premiums.  The complaint also makes a vague, non-specific allegation that the MSB system that is used by Allstate to determine replacement cost of homes for underwriting purposes is inconsistent with the MSB system used by Allstate adjusters in valuing property damage when claims are submitted. 

The complaint seeks certification of several nationwide classes: (1) a class of policyholders whose properties were appraised using a software program, resulting in an increase in policy limits, and who “paid excessive premiums”; (2) a class of policyholders whose properties were appraised using a software program, resulting in an increase in policy limits, who do not reside in a valued policy law state, and who suffered a loss within the limitations period; and (3) a class of policyholders whose policy included Allstate’s PIA provision, and whose policy limits were increased at the same time that the PIA indices decreased, within the limitations period.  The causes of action alleged include restitution, breach of contract (including breach of the implied covenant of good faith and fair dealing), bad faith and unjust enrichment/constructive trust.

This case is similar, in part, to the Cox v. Allstate case (see my April 11, 2012 blog post) in which certification was recently denied by the Western District of Oklahoma on a claim involving Allstate’s PIA provision.  The court reasoned that determining whether Allstate inappropriately raised a policy limit would require comparing every individual policy limit with the property’s fair market value, an individualized analysis that defeated certification under Wal-Mart v. Dukes.  As the Cox decision demonstrates, this is an issue on which insurers often have strong defenses to class certification.  But given that the plaintiffs’ bar seems to be focusing a bit more on valuation and premium calculation issues, and on whether underwriting valuation methods are consistent with valuations used for loss estimating purposes, this is an area insurers may want to pay attention to in their efforts to avoid potential class action exposure.

There have been an unusually large number of significant decisions in insurance class actions over the last couple of weeks.  I will not be able to discuss all of them in detail but thought you would like to have shorter summaries of them.  Here is the first installment regarding recent P&C class action decisions: 

• Folks v. State Farm Mut. Auto. Ins. Co., 2012 U.S. Dist. LEXIS 43294 (D. Colo. Mar. 29, 2012):  This case involves personal injury protection (PIP) coverage and a requirement in Colorado’s No Fault Act that insurers must offer enhanced PIP coverage that includes coverage for pedestrians.  State Farm failed to offer the enhanced benefits and, after losing some prior court decisions, modified its policy language.  State Farm also provided voluntary relief, re-adjusting a number of claims.  The court denied class certification, finding that numerosity was not satisfied because, excluding the people who were given voluntary relief, the plaintiff could only speculate that there were about 50 class members that might obtain relief in the suit.  The court also concluded that a reformation claim was not suitable for certification under Rule 23(b)(2) because reformation is an equitable remedy that requires an individualized analysis of whether the class member relied on State Farm’s past practices and the degree of injustice or hardship.  To the extent certification was sought under Rule 23(b)(3), predominance also was not satisfied because the prior litigation, together with State Farm’s voluntary relief program, had resolved the common legal and liability issues, and what remained were only individualized determinations regarding reformation of policies and the amounts claimed by individual class members.  This case is a good example of how a voluntary relief program can potentially defeat a putative class action (for more on that, see my Sept. 16, 2011 blog post). 
• Cox v Allstate Insurance Company.pdf, No. CIV-07-1449-F, slip op. (W.D. Okla. Mar. 28, 2012):  This is a class certification decision in a first-party property insurance case involving claims for wildfire damage.  The two proposed Oklahoma statewide classes were: (1) insureds who had recoverable depreciation held back from their claim and did not receive a letter from Allstate explaining the amount of depreciation and how to recover it; and (2) insureds whose policy limits were increased automatically by Allstate’s “Property Insurance Adjustment” feature.  The claim on behalf of the first class was that the failure to send a letter regarding the holdback was by itself bad faith and resulted in unjust enrichment to Allstate.  The claim on behalf of the second class was that Allstate’s method of increasing policy limits resulted in overinsurance and unduly high premiums, also resulting in unjust enrichment.  The court held that commonality was not satisfied under Wal-Mart v. Dukes as to proposed class (1) because Allstate’s general policy was to send the letter, and, as the plaintiffs’ expert admitted, some people who did not receive the letter recovered all depreciation they were owed.  Determining whether people failed to receive the letter and sustained an injury would require a file-by-file individualized analysis.  The court reached a similar conclusion with respect to the class of insureds claimed to be overinsured – a file-by-file analysis would be required to determine if there was overinsurance.  The court also found that predominance was not satisfied because, with respect to class (1), a bad faith claim could not be pursued without a breach of contract, and, under Wal-Mart, Allstate would be entitled to present its individualized defenses to breach of contract claims.  The court rejected an argument that Allstate was somehow estopped from asserting defenses in litigation that it had not asserted during the claim process.  With respect to class (2), a determination of whether Allstate inappropriately raised the policy limit would require comparing every individual policy limit with the property’s fair market value, an individualized analysis that defeated certification.  This case is a good example of how courts are applying Wal-Mart v. Dukes in insurance class actions.

A recent report and recommendation by a federal magistrate judge in Arizona recommends that partial summary judgment be granted in favor of a certified class of insureds, in a property insurance class action involving polybutylene (PB) plumbing.  Given this result, other insurance companies might see new “piggyback” class action filings on this issue, which potentially could create significant exposure for the industry. 

In Guadiana v. State Farm Fire and Casualty Company, 2012 U.S. Dist. LEXIS 8262 (D. Ariz. Jan. 25, 2012), the plaintiff’s house had polybutylene (PB) piping that leaked.  She claimed that because of a defect in this kind of piping, it is not feasible to repair a leaky section of pipe.  She claimed that State Farm was contractually obligated to replace all of the piping in the house, in addition to replacing parts of the structure that must be torn out in order to access the piping.  Last March, the court granted certification of an Arizona statewide class.  After notice was sent to the class and the opt-out period expired, the plaintiff filed a motion for partial summary judgment on coverage.

The policy provision at issue provided that:

If loss to covered property is caused by water or steam not otherwise excluded, we will cover the cost of tearing out and replacing any part of the building necessary to repair the system or appliance.  We do not cover loss to the system or appliance from which the water or steam escaped.

According to the opinion, State Farm’s position was that the water damage was covered, but there was no coverage for the cost of accessing and replacing parts of the plumbing system that were not leaking.  State Farm also relied on an exclusion for loss due to a “latent defect” and an exclusion for “loss consisting of . . . defect . . . in . . . materials used in construction or repair.”  It does not appear there was any focus on the second sentence quoted above, i.e., “We do not cover loss to the system or appliance from which the water or steam escaped.”  That seems also potentially applicable here, but I have not read the briefs and prior decisions in this case.

The magistrate judge concluded that the exclusions were not applicable because “[t]hese provisions exclude any loss consisting of defective construction materials,” and “[t]he water damage is the covered loss, not the defective plumbing system.”  Id. at *10.  I find that conclusion somewhat puzzling because the latent defect exclusion, although not quoted with precision in the opinion, appears to apply where a loss is caused by a latent defect, and it seems like this loss likely was caused by a latent defect in the piping.  If the second exclusion (which is not quoted in its entirety in the opinion) applies only to “loss consisting of” a defect in materials, that would be different from some other commonly-used policy forms.  I’ve seen a number of policy forms that have exclusions for a loss “caused by” a defective material. 

This opinion also reflects a debate between the parties about the use of the word “repair” in the tear-out provision quoted above.  State Farm argued that “repair” must have a different meaning from “replace,” based on dictionary definitions, the context of the policy, and case law.  The court concluded essentially that “repair” could mean total replacement if the only practical and effective means of repair was a total replacement of all the piping.  The court also found, at a minimum, an ambiguity.  The court also cited public policy and a desire to make the insured whole.  The court ultimately concluded, in granting partial summary judgment in favor of the class, that:

If Guadiana can establish as a matter of fact that the system that caused the covered loss includes all the pipes in her house and it was necessary to replace all the pipes to repair that system, State Farm is obligated to pay the tear-out costs necessary to replace all the pipes, even those not leaking.

Id. at *18-19.

I don’t think this decision is a cause for alarm by insurance companies.  It is only a magistrate judge’s recommended ruling, which likely will be objected to and reviewed by the district judge.  And even if the district judge adopts this recommendation, that is only the view of one trial court, and there are some decisions elsewhere that disagree on some of these points.  But it would not surprise me to see some additional companies hit with new class action filings on this issue.  It potentially could create substantial exposure for the insurance industry if courts rule that every time a leak occurs with PB piping, homeowners’ policies require that the entire piping system must be replaced.  I come at this from an insurance industry perspective, but it seems like the kind of problem, somewhat analogous to Chinese-made drywall, for which the manufacturer, rather than a homeowners’ insurer, should bear the responsibility, as courts have concluded nearly unanimously with respect to Chinese-made drywall.

A hot issue in recent years in property insurance class actions, an issue I’ve defended a number of cases on, is general contractor overhead and profit.  The issue is under what circumstances insurance companies are required to include in their estimates on property damage claims a fee for the services of a general contractor.  For those readers not well-versed in construction terminology, a general contractor is a person or company that typically does not perform any of the work themselves but is involved in selecting, coordinating and/or supervising the work of the tradespersons or companies that do the repairs.  They get paid a fee for that coordination and supervision work that is above and beyond the cost of the repairs.  Plaintiffs’ attorneys have taken the position that there is or should be a uniform “three trade rule” under which insurers must always include a general contractor fee if there are three or more “trades” involved in the loss (what exactly constitutes a “trade” in their view varies and is typically quite debatable).  Insurers frequently take the position that a general contractor fee is appropriate only if, on a case-by-case, totality of circumstances type of test, a general contractor is reasonably necessary in making the repairs.  The vast majority of courts have agreed with insurers on the standard and have denied class certification.  A few courts, largely in Oklahoma, have found class certification appropriate. 

In the new decision, National Security Fire & Casualty Company v. DeWitt, No. 1091225, 2011 Ala. LEXIS 196 (Ala. Nov. 18, 2011), the Alabama Supreme Court reversed a trial court’s grant of class certification.  The court held that, putting aside the parties’ debates about the plaintiff’s proposed “three trade rule” and what the insurer’s practices were, adjudicating the case would require evidence on numerous individual claims.  Predominance and superiority therefore were not satisfied.  Here is the heart of the opinion:

In reaching our decision to vacate the class-certification order, we are not addressing the merits of DeWitt's argument that National Security engaged in a standard practice of not paying GCOP [general contractor overhead and profit] in cases where a general contractor was not hired or the merits of National Security's assertion that its policy  was to pay GCOP when it was reasonably foreseeable that a contractor would be necessary and that it determined whether to pay GCOP on a case-by-case basis. Nor do we address the merits of the three-trade rule. Rather, we base our determination on the fact that the litigation of these issues will likely involve the presentation of evidence regarding numerous individual claims. Although this case will involve issues that are common to all class members, it is highly likely that it will also involve individualized evidence regarding whether it was reasonably foreseeable that the services of a general contractor would be necessary in each of those claims. Also, it is likely that the case will also involve evidence as to whether some of the estimates actually indicate that three or more trades would be involved in the repairs. Additionally, as the United States District Court for the Middle District of Florida noted in Mills, National Security would also be able to raise any affirmative defenses it might have against individual insureds. Finally, although DeWitt has presented a mechanical method for calculating the damages of each insured, as was the case in Mills an individual review of each claim file would still have to be undertaken to determine the damages in each case.

. . .

[One of the defendant’s witnesses] testified that [the case] would involve between 30,000 and 40,000 files and that each file contained between 20 and 40 pages. Therefore, a class action in this case could potentially involve National Security's presenting evidence regarding thousands of individual claims. Therefore, in this case, common questions of law and fact do not predominate. 

The Alabama Supreme Court’s opinion conducts a thorough survey of the law that has developed around the country on this issue.  For that reason alone, it is a good read for those who are unfamiliar with overhead and profit class actions.  It seems likely this decision will now become one of the leading appellate decisions nationwide on this issue.  The principles articulated here are also of general applicability to many insurance claim-related class actions.  As I’ve noted before, a central question a court looks at on class certification should be an examination of how the case is going to be tried, by both sides, and whether it reasonably can be tried as one case or not.  That is the lens through which the Alabama Supreme Court viewed this case.

As Hurricane Irene takes aim at New York and Connecticut (where I live), and the rest of the mid-Atlantic and New England, insurers are preparing to deploy their catastrophe teams and/or independent adjuster teams to handle claims in a region that has not been impacted by a hurricane in a number of years.  An article yesterday in PropertyCasualty360 predicts that Irene will be a multibillion dollar event for the insurance industry, and lists the companies with the largest written premiums in the states expected to be impacted.  Given that I spent most of my time for several years defending insurance companies in lawsuits from Hurricanes Katrina and Rita, as well as the Florida hurricanes of 2004, I thought I would offer here some thoughts on what claim executives and their counsel can be doing now to try to reduce bad faith and class action exposure:      

1. Make sure your legal research on claim-handling statutes and regulations is fully up-to-date for all applicable jurisdictions.  These statutes and regulations are amended from time to time, so it is important to make sure that your research is fully updated.  Unlike hurricanes in recent years that impacted only one or two large states, it looks like Irene will affect a number of smaller states and adjusters likely will be working in multiple states, so they may need to handle some things differently depending on where they are working on a given day.  Some states have specific deadlines for certain claim-related activities, which may or may not be extended for catastrophes, and violation of these deadlines sometimes results in automatic penalties.  In the Hurricane Katrina class actions, insurers were able to successfully defeat class certification in federal court in numerous cases, but there were a few class actions certified in state court.  Some of the class actions that were certified in state court involved failure to initiate loss adjustment within 30 days, as required by a Louisiana statute.  See Oubre v. Louisiana Citizens Fair Plan, 961 So. 2d 504 (La. Ct. App. 2007); Orill v. AIG, Inc., 26 So. 3d 994 (La. Ct. App. 2009).  This is the kind of issue that insurers need to pay close attention to.  Applicable law on the calculation of actual cash value, depreciation and valued policy laws is also worth checking and updating in each applicable jurisdiction.
2. If you have not done so recently, check your procedures and training with respect to general contractor overhead and profit.  This issue has been a major hotbed of class action litigation in recent years.  In the Katrina litigation, the federal courts refused to certify classes on this issue, but one state intermediate appellate court certified a class (that decision was later overturned by the state supreme court).  For more on this issue, see my recent article on Defending Class Actions on Coverage Issues.  What policy an insurer has in place and how it is implemented by adjusters can make a substantial difference if your company is sued in a class action on this issue.
3. Think carefully about what instructions you are giving to adjusters on segregating wind damage from flood damage and anti-concurrent causation.  The instructions given can have a substantial impact on bad faith and class action exposure.  Take into account the Katrina decisions on this, including Leonard v. Nationwide Mutual Ins. Co., 499 F.3d 419 (5th Cir. 2007), Corban v. USAA, 20 So. 3d 601 (Miss. 2009), and Arctic Slope Regional Corp. v. Affiliated FM Ins. Co., 564 F.3d 707 (5th Cir. 2009).
4. Keep in mind that in the Katrina litigation, some carriers faced significant problems from independent adjusting companies’ use of inexperienced and inadequately trained adjusters.  In some instances, the adjusters were not informed of or inadequately trained with respect to some procedures that the insurance company wanted them to follow.
5. Start putting a plan together for coordinating the litigation that inevitably will follow the storm.  In Louisiana following Katrina, some plaintiffs’ lawyers filed suits in Baton Rouge before the New Orleans courts were even open.  Last year, I wrote an article with Louisiana lawyer Seth Schmeeckle on “Handling the Flood of Coverage Litigation:  Lessons Learned from Hurricane Katrina.”  Seth and I spent several years coordinating the Katrina litigation.  We talk about several important strategies that can be used, including: (1) establishing coordination among defense groups and using test cases for critical issues; (2) recognizing the unique issues of judicial ethics that can occur when a widespread catastrophe affects everyone living in the affected area; (3) moving to strike class allegations in putative class actions; (4) using methods to efficiently resolve large amounts of smaller suits, such as establishing a protocol to administratively stay cases, conduct written discovery, and then have settlement negotiations; and (5) taking measures to minimize possible class action tolling of suit limitation provisions in insurance policies.

Property insurance companies should review their practices with respect to depreciation in California following a new class action lawsuit filed against Farmers Insurance Company in Los Angeles Superior Court.  It looks like this case may remain in the state court because the defendants are California companies and the class is limited to California residents.

The complaint (I don’t have a link to it but e-mail me if you would like a copy) focuses on a California statute enacted in 2004, which defined actual cash value, for a partial loss to a structure, or loss to contents, as follows:

In case of a partial loss to the structure, or loss to its contents, [actual cash value is] the amount it would cost the insured to repair, rebuild, or replace the thing lost or injured less a fair and reasonable deduction for physical depreciation based upon its condition at the time of the injury or the policy limit, whichever is less. In case of a partial loss to the structure, a deduction for physical depreciation shall apply only to components of a structure that are normally subject to repair and replacement during the useful life of that structure.

Cal. Ins. Code § 2051(b) (emphasis added).  The plaintiff’s theory is that “physical depreciation” based on the “condition” of property should be limited to “actual wear and tear,” and cannot be based on the age or obsolescence of a building component or contents item.  (But isn’t age part of “condition”?)  The plaintiff claims that Farmers calculated depreciation based only on the age of items on a “straight line” method.  The plaintiff alleges that Farmers could not have evaluated the “condition” of contents items because it never inspected them and relied only on a proof of loss submitted by the plaintiff.  The plaintiff also claims that Farmers applied depreciation to items that are not “subject to repair or replacement during the useful life of th[e] structure.”

The complaint also focuses on a California Department of Insurance regulation providing as follows:

When the amount claimed is adjusted because of betterment, depreciation, or salvage, all justification for the adjustment shall be contained in the claim file. Any adjustments shall be discernable, measurable, itemized, and specified as to dollar amount, and shall accurately reflect the value of the betterment, depreciation, or salvage. Any adjustments for betterment or depreciation shall reflect a measurable difference in market value attributable to the condition and age of the property and apply only to property normally subject to repair and replacement during the useful life of the property. The basis for any adjustment shall be fully explained to the claimant in writing.

10 C.C.R. § 2695.9(f) (emphasis added).  It is interesting that the regulation states that insurers may take into account the “age of the property,” contrary to other allegations made in the complaint.  

California’s statutes and regulations governing depreciation in this respect are relatively unique.  I’m aware of one prior putative class action that involved similar issues.  Although these issues might not have any legs as a basis for a class action if the case reaches the class certification stage (the statutes and regulations plainly require an individualized, claim-by-claim analysis), property insurers would be wise to carefully review how their adjusters are handling depreciation in California. 

The Seventh Circuit recently reversed a class certification against State Farm in a case involving hail damage claims.  This decision is likely to be frequently cited in insurance coverage-related class actions.  In Kartman v. State Farm Mut. Auto. Ins. Co., Plaintiffs asserted that State Farm's adjustments of hail damage to roofs were inconsistent -- in one case, three different adjusters were sent out to inspect the damage, with results that varied substantially.  An Indiana federal district court granted certification of a class under Rule 23(b)(2) seeking injunctive relief requiring State Farm to reinspect all of the roofs of class members' homes using a "uniform and objective" standard. 

The Seventh Circuit overturned the district court decision on several grounds:

1. Despite the request for injunctive relief, this case was "simply an action for damages" and therefore not appropriate for certification under 23(b)(2), but rather only could be certified, if at all, under (b)(3).  (The issue of the scope of appropriate certifications under 23(b)(2) where damages are sought is before the Supreme Court in Wal-Mart Stores, Inc. v. Dukes.)
2. The court explained that "[i]nsurance entails a promise to pay covered losses, not a covenant to use a particular standard for evaluating property damage.  If a given policyholder was fully compensated for the damage attributable to the hailstorm, then State Farm will have satisfied its contractual obligation regardless of whether it used a 'uniform and objective' or an ad hoc standard to assess the damage."
3. Injunctive relief was not appropriate because monetary damages would be an adequate remedy.
4. Injunctive relief would not be "final" as required by Rule 23(b)(2) because there would need to be individual determinations on whether there was a breach of contract and on damages.

Lessons Learned:  The court's statements about insurance being a promise to pay the bottom line amount required by the contract, not a promise to use any particular methodology in adjusting or estimating has important implications for insurance claims-related class actions.  I have not seen other courts articulate this point as clearly or as broadly.  Insurers can use this part of Kartman effectively in opposing class certification in a number of other contexts.  For plaintiffs, this case explains why seeking injunctive relief will rarely be an effectively strategy in insurance class actions.