Johansen v. California State Automobile Ass'n Inter-Insurance Bureau

Citations: 538 P.2d 744; 15 Cal. 3d 9; 123 Cal. Rptr. 288; 1975 Cal. LEXIS 219Docket: S.F. 23229

Court: California Supreme Court; August 11, 1975; California; State Supreme Court

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Muriel Johansen, the plaintiff, obtained a judgment of $33,889.30 against Gary and Joyce Dearing following an automobile accident. This amount exceeded the Dearings' insurance policy limits. The California State Automobile Association Inter-Insurance Bureau, the defendant, defended the Dearings but rejected a settlement offer within policy limits, believing the accident was outside the policy's coverage. A subsequent Court of Appeal ruling determined that the policy did indeed cover the incident, leading the insurer to pay only the portion of the judgment within the policy limits while denying liability for the excess amount. The Dearings assigned their rights against the insurer to Johansen, who then sued to recover the remaining balance. The superior court favored the insurer, but Johansen appealed. The Supreme Court of California reversed the lower court's decision, stating that an insurer failing to accept a reasonable settlement offer within policy limits due to doubts about coverage assumes the risk of liability for all damages resulting from that refusal, including amounts exceeding policy limits. The court referenced the precedent set in Comunale v. Traders General Ins. Co., which similarly addressed insurer liability for not accepting settlements based on coverage uncertainties. The case revolved around a 1963 accident involving the Dearings' minor son, for which the insurer had policy limits of $10,000 for bodily injury per person, $20,000 per occurrence, and $5,000 for property damage.

On December 10, 1964, Ms. Johansen proposed to settle her claim against the Dearings for $10,000, the full policy amount. The defendant, acknowledging the high likelihood of a judgment against the Dearings exceeding this limit, declined to settle, insisting on a judicial determination of policy coverage first. Although the insurer sought to expedite the declaratory relief action, the personal injury case concluded first with a judgment of $33,889.30 against the Dearings, significantly over the policy limits. Initially, the trial court sided with the insurer on coverage, but this ruling was reversed on appeal, confirming coverage on September 5, 1968. The insurer subsequently paid Johansen $19,692.19, which included $8,302.89 in interest, leaving an outstanding judgment of $22,500 against Gary Dearing. Dearing assigned his rights against the insurer to Johansen in exchange for her release of his personal liability. Johansen then initiated a lawsuit against the insurer to recover the unpaid judgment balance. The trial court ruled in favor of the insurer, stating that liability could only be established if the insurer's denial of coverage was found to be in bad faith, which it deemed was not the case here. The rights in question belonged to Gary Dearing, with Johansen acting solely as his assignee. The court referenced Comunale v. Traders General Ins. Co., which established an implied covenant of good faith and fair dealing in contracts, particularly in insurance, obligating insurers to settle claims within policy limits when there is a substantial risk of exceeding those limits.

The court determined that the defendant insurer violated its implied covenant of good faith and fair dealing by not compromising a claim against its insured, despite the risk of a judgment exceeding policy limits. The insurer was held liable for the full amount of the judgment against its insured. The defendant contended that the Comunale principle, which holds insurers accountable for refusing reasonable settlement offers, does not apply when the denial of coverage is based on a genuine belief that the policy does not cover the claim. However, the court reaffirmed that an insurer's erroneous belief in noncoverage does not excuse it from liability if it fails to settle a reasonable offer. The court cited prior cases stating that when a judgment against the insured is likely to exceed policy limits, the insurer must act in good faith to settle the claim. The assessment of reasonableness of the settlement offer should focus solely on the nature of the injuries and potential liability, disregarding policy limits or beliefs about coverage. In this instance, the insurer conceded that the plaintiff's $10,000 settlement offer was reasonable given the serious injuries and evidence of negligence. The final judgment against the insured was nearly $34,000, suggesting that accepting the settlement would have been a prudent decision. The insurer's admission of liability was further supported by advice from its retained counsel to admit liability in the personal injury suit. Thus, the court concluded that the insurer was obligated under the Comunale principles to accept the settlement offer, rejecting the defendant's argument that the rule only applies when there is a failure to defend as well as a failure to settle.

The insurer's liability for an excess judgment is determined primarily by its refusal to accept a settlement offer within policy limits, not solely by the failure to defend, as established in Comunale. The defendant contends that the Comunale principle is limited to contract actions, arguing that the plaintiff's claim is based on tort liability. However, the court clarifies that the plaintiff has consistently maintained her claim arises from the Comunale liability theory. It emphasizes that the insurer's duty to accept reasonable settlement offers falls under both contract and tort law, stemming from the implied covenant of good faith and fair dealing. The court further asserts that the classification of the breach does not negate the insurer's liability, as the duty arises from the contractual relationship. The defendant's claims that subsequent cases have modified the Comunale rule are rejected. In State Farm, the court reaffirmed the Comunale principle, indicating that the insurer's duty to settle is not dependent on a refusal to defend alone. In Donohue, the court noted that the issue of the implied covenant was not adequately addressed and that the refusal to defend did not increase the insured's liability due to existing coverage.

Defendant's claim that the Comunale rule mandates an insurer to settle regardless of policy coverage is rejected. The ruling indicates that if the insurer's position on non-coverage were correct, it would not be liable for damages from refusing to settle; however, an insurer that declines to settle does so at its own risk. The insurer retains the option to accept a settlement while reserving the right to contest coverage, allowing it to seek reimbursement later if non-coverage is established. Consequently, the insurer breached its duty by not accepting a reasonable settlement offer.

Defendant further contends that even if it breached this duty, it is not liable for damages, arguing from various legal doctrines that the excess judgment was due to the insureds' lack of good faith. While acknowledging the covenant of good faith benefits both parties, the record does not support the argument that the insureds' actions caused the excess judgment. The sole incident referenced is the insureds' refusal to allow their counsel to seek a continuance in the personal injury lawsuit while awaiting the coverage decision. Defendant suggests that had the coverage issue been resolved first, it would have altered the outcome of the personal injury suit. However, evidence shows that the insureds had attempted to continue the case but were denied by the court, indicating that their efforts would likely not have changed the situation.

The judgment in the declaratory relief action occurred over three years post-judgment in the personal injury suit and nearly five years after the personal injury suit was filed. Under Code of Civil Procedure section 583, actions not brought to trial within two years from filing may be dismissed, and those not tried within five years must be dismissed. The court would likely not have allowed delays in the personal injury suit for nearly five years. The trial court's finding that the resolution of the personal injury action resulted from the collaboration of the plaintiffs' and insureds' counsel is contradicted by the evidence. The defendant's allegations of collusion between the insureds and Ms. Johansen are unsupported, as there is no evidence that the insureds' actions inflated the judgment amount. While the defendant claimed that the insureds initially resisted admitting liability, this is deemed irrelevant since they ultimately did admit liability. The court acknowledges that laypersons may initially hesitate to admit fault, but emphasizes that the insureds did not compromise their defense. Consequently, the excess judgment is attributed to the defendant's failure to settle the claim against its insured. The judgment is reversed, and the case is remanded for further proceedings. The court noted that the insurer's prior offer to settle was rejected and addressed issues regarding the automobile's coverage relevant to the case. Additionally, it clarified that actions for damages exceeding policy limits due to an insurer's failure to settle can be assigned and that a "wrongful" denial of coverage refers to an erroneous denial as required by the policy, not necessarily a culpable one.

Defendant's liability is not solely based on specific reprehensible conduct, but rather on its failure to accept reasonable settlement offers, which constitutes a breach of the implied covenant of good faith and fair dealing. Recovery may occur even without evidence of dishonesty, fraud, or concealment. Both the plaintiff and an amicus curiae advocate for a rule that would hold insurers liable for the amount of any final judgment when they reject settlement offers within policy limits, a position supported by New Jersey case law. The court concludes that the defendant's liability for excess judgment can stem from its rejection of a reasonable settlement offer, rendering the issue of liability in cases of policy limit settlements unnecessary to resolve. 

Additionally, the court notes that an insurer’s refusal to defend does not grant it greater deference than one that only refuses to settle, establishing that liability arises directly from failing to settle within policy limits. Recent decisions do not undermine this conclusion, and cases from other jurisdictions that do not follow the Comunale rule are irrelevant. The insurer cannot delay a personal injury trial pending a declaratory relief action regarding coverage. The Nonwaiver or Reservation of Rights Agreement supports the plaintiff's argument that the personal injury action should be resolved first. 

Defendant's reliance on the conduct of Hawkins, who had a fee-splitting arrangement with another counsel prior to trial, is noted, yet the Dearings were unaware of this arrangement. The court does not address Hawkins' conduct but focuses on whether the insureds contributed to the excess judgment, finding no evidence to support such a claim. In a referenced case, an assignment of rights against the insurer did not imply collusion since the insured did not act in a way that jeopardized their defense.