When Your Insurance Company Won’t Cover You: Fraud and Bad Faith
Although insurance fraud is commonly associated with fraud committed by people who swindle money from insurance companies, it may also be committed by the insurance companies themselves. Also known as "bad faith insurance practices," fraudulent activities on the part of insurers include actions such as denying valid insurance claims, denying coverage to individuals for certain conditions that should be covered, failing to properly investigate claims, and deliberately underpaying claims. Some states have statutes passed by legislators that specifically prohibit these practices on the part of insurers. In other states, however, bad faith insurance practices are largely governed by court-made law.
Both statutory and court-made laws prohibiting bad faith insurance practices are based upon the rationale that in every insurance contract, there is an implied promise between the parties to treat each other fairly and act in good faith. Because contacts have the binding power of law, an insurance company's bad faith action to deny a policyholder the benefit of the contract is a violation of the contract and therefore illegal.
All states have departments of insurance which, among their other duties, investigate bad faith and fraudulent practices committed by insurance companies. Many states aggressively investigate and punish insurance companies who commit these actions. For example, in 2000, New York state fined an insurance company $500,000 for deleting thousands of valid claims and deliberately underpaying certain types of claims. In 2008, an Oregon woman's report to the state that her insurer had improperly denied her claims led to an investigation revealing that the insurance company had denied over 5,000 similar claims. The insurer was heavily fined.
In some cases, state departments of insurance will choose not to investigate certain allegations of bad faith, or, even if they do investigate, may not take action against the insurer. In such instances, individuals who believe they have been subject to bad faith or fraudulent practices must file lawsuits in order to enforce their rights under their insurance contracts.
Laws Prohibiting Bad Faith Insurance Practices
Many states have specific laws and regulations governing what is required of insurance companies when handling insurance claims. These laws impose penalties on insurance companies for various actions constituting fraud and bad faith, including:
- Improper delay in handling claims. Many state laws require that insurance companies respond to claims within a certain period of time. For example, California law requires that insurance companies accept or deny a claim within 40 days from receiving proof of loss, or else provide the claimant with written notice of the need for more time. In some states, regulations require that claims be processed in an even shorter timeframe, such as 15 or 30 days.
- Deliberately undervaluing claims/losses. Several states have laws prohibiting insurers from deliberately undervaluing claims, or paying less to the claimant than what is specified under a particular policy.
- Failing to comply with minimum standards for investigating claims. Many state laws set minimum requirements for investigating claims. For example, Oregon requires that insurance companies conduct a thorough investigation of each claim. If claimants and providers are never contacted regarding a claim, the insurance company could be penalized for failure to properly investigate the claim.
- Failure to properly defend or indemnify third-party claims. Most state laws in this area impose a duty on the part of insurers to adequately defend their policyholders in lawsuits brought by third-parties. Further, there is a duty to indemnify, or compensate, their policyholders when covered claims are brought against the policyholders by third parties.
- Improperly denying claims. State laws prohibit insurers from refusing to pay a claim "without just cause or action." Many states also require the insurance company to provide an explanation of the basis for denying a person's claim within a certain time period after the denial.
- Misrepresenting to claimants certain facts or insurance policy provisions regarding insurance coverage. Some states have laws that prohibit insurance companies from making intentional misrepresentations regarding insurance coverage.
- Improperly denying coverage for certain conditions or canceling coverage. Some state laws prohibit insurers from improperly denying coverage for certain conditions that are either covered by the insurance policies, or are required to be covered by law. For example, some states require that preexisting conditions that may have been originally excluded be covered after an individual holds a policy for a certain length of time.
Depending on the specific state statutes and regulations, insurers who violate these laws may be required to compensate the claimants for their denied claims, pay damages to claimants in addition to the value of the denied claims, and pay fines to the state.
Legal Claims Based upon Insurers' Bad Faith
Many people who believe they have been the subject of illegal or fraudulent treatment by an insurance company file a lawsuit against the insurance company in order to force payment of their claims and seek other damages for their mistreatment. Some states have specific laws on the legal bases for bad faith insurance claims, known as “statutory causes of action.” In states without such laws, injured parties may bring lawsuits based upon “common law” principles—long-recognized legal theories such as breach of contract or personal injury.
Statutory causes of action for insurance bad faith
Some states have passed laws creating statutory causes of action for legal claims based upon bad faith and fraud by insurers. They set out the standards for judges to use when deciding these cases, and the penalties they should award to winning claimants. Under some of these laws, prevailing claimants are entitled to punitive damages (damages designed to punish the offending party for their bad behavior) and attorney fees from the insurance companies.
Common law remedies for insurance bad faith
Even in states that do not have specific regulations or statutes penalizing bad faith, insurance companies may be liable under common, or court-made, law if the insurance company engages in bad faith or fraud in its dealings with its customers. For example, policyholders who are subject to a bad faith practice may sue their insurers for breach of their insurance contract.
Breach of contract claims are based upon the implied covenant of good faith and fair dealing between both parties to an insurance contract. This means that in every insurance contract, there is an implied promise on the part of both the insurer and the insured that they will not do anything to purposefully deny the other party the benefit of the agreement. If an insurance company commits one of the bad faith practices described above, it is very likely in breach of its contract with the insured, and could be held liable in court. Similarly, these insurance companies could be liable under a tort, or personal injury, claim for causing injury to the claimants because of their bad faith actions.
Special rules apply to bad faith claims against insurance companies when the policy involved (such as health or disability insurance) was provided by the insured's employer. In most cases, these claims are prohibited because of a federal statute known as the Employee Retirement Income Security Act (ERISA), which regulates employer-provided health plans. Due to a doctrine called federal preemption, courts have held that because ERISA does not explicitly provide a cause of action for bad faith claims, Congress intended to prohibit these types of claims from being made. Therefore, no claims of this kind can be brought in either state or federal court.
Contact the Department of Insurance
If you have been subjected to what you believe is a fraudulent or bad faith practice by an insurance company, you may want to consider contacting your state department of insurance. As mentioned above, every state has a department of insurance that investigates charges of insurance fraud and bad faith. For a state-by-state of departments of insurance, visit the National Association of Insurance Commissioners' website.
Legal Help for Your Claim
If you are interested in filing a lawsuit to force your insurance company to pay your claim or other damages, consider contacting an attorney who specializes in insurance law to discuss your options. If your claim involves an employer-provided insurance plan, you will definitely need the help of a seasoned attorney who can determine whether the claim is preempted by ERISA. Discussing your situation with a knowledgeable lawyer will give you a realistic idea of the merits of your case, the various options open to you, and your chances of prevailing at trial or obtaining a good settlement.