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October 23, 2002

This is one of a series of articles under the by line “Butler on Bad Faith” originally published in Mealey’s Litigation Report: Insurance Bad Faith, Vol. 16, #12, p. 20 (October 23, 2002). © Copyright Butler 2002.

I.   Introduction

Insurers find nothing more frustrating than paying for unearned indemnification dollars. In a first-party context this may result from unreported values causing a deflated premium. In other words, the insurer’s actual exposures require more premium than charged — usually over many policy years. In a third-party context this unearned protection is the result of an excess judgment that the liability carrier is required to pay. In most jurisdictions this is the consequence of the liability insurer’s failure to settle within policy limits when it had the opportunity to do so. Typically the standard is whether a reasonable insurer under the totality of the circumstances would have and could have settled within its policy limits, thereby protecting its insured from a judgment in excess of the policy limits. One of the most frequently litigated bad faith issues with respect to third-party claims is the propriety of an insurance carrier’s handling of and response to a claimant’s policy limit “time-demand.”

One of the most commonly encountered bad faith scenarios involves the failure of the insurance company to respond to a demand letter within a deadline set by plaintiff’s counsel. A plaintiff’s lawyer will draft a settlement letter that offers to settle his client’s case within policy limits, but which will also contain certain conditions, usually including the requirement that the settlement funds be delivered within a certain period of time. If, for whatever reason, the insurer does not tender the funds within that time period, and the plaintiff later recovers a judgment in excess of policy limits, the plaintiff’s lawyer or a newly retained additional counsel will claim “bad faith.”

The manner in which an untimely response to a time-demand is treated varies by jurisdiction, however certain generalities can be distilled from the case law. First, the receipt of a time-limited demand letter does not automatically trigger the duty of the insurer to pay the policy limits. Second, the failure to pay within the prescribed period does not automatically create extra-contractual liability down the road. Most states will require an analysis, based upon the jurisdiction’s legal definition of bad faith, as to whether the failure to meet the settlement deadline under the particular facts of the case warrants the imposition of excess liability. Because this type of case-by-case analysis is usually employed, a review of cases that fall on either side of the extra-contractual fence will best illustrate the point.

II.   Why Didn’t You Pay?

Cases in which courts find bad faith for failure to meet the plaintiff’s settlement deadline usually share one thing in common: the insurer cannot offer any valid justification for failing to pay within the time-demand. For example, in Critz v. Farmers Ins. Group, 230 Cal. App. 2d 788, 41 Cal. Rptr. 401 (Cal. App. 1964), the insurer was faced with a one-week time-demand to pay $10,000.00 in policy limits on an automobile claim.(1) The insurer knew that the liability of its insured was clear, as he had crossed the center line when the accident occurred. The insurer also knew that the plaintiff’s injuries were severe, including the loss of sight in one eye. Despite evaluating the claim in excess of policy limits, the insurer responded with a counteroffer of $8,250. The plaintiff then refused to settle, and recovered a judgment against the insured of $48,000.00.

In finding the insurer in bad faith, the California court noted that, despite the short one-week time limit, the insurer knew that a judgment would likely exceed policy limits, and therefore had a duty to protect its insured by settling at or below the policy limits. By failing to settle for the policy limits, the insurer risked excess liability to its insured, and therefore was later found to be in bad faith. The insurer’s attempt to “save” a few dollars under policy limits thus resulted in paying several times that amount in an excess judgment. California’s bad faith standard requires the insurer to give the insured’s interests as much consideration as its own, and when there is a “great risk” of exposure to an excess judgment, the insurer is required to settle the claim within the policy limits. Failure to settle under those circumstances almost always results in a finding of bad faith in California.

Looking to another jurisdiction, the court in Hayes Brothers, Inc. v. Economy Fire & Casualty Co., 634 F.2d 1119 (8th Cir. 1980), applying Iowa law, found an insurer in bad faith for failing to accept a five-day time-demand on the eve of trial. In that case, after all of the pre-trial investigation had been completed, it was clear to the insurer that the judgment could substantially exceed the $50,000.00 policy limits, and defense counsel estimated a 50% chance of an excess verdict. When the insurer received the offer, it made a $30,000.00 counteroffer that was rejected. Thereafter, defense counsel recommended that the offer be accepted, however the insurer instead raised its counteroffer to $45,000.00. One day after the five-day period expired, the insurer offered the policy limits, which were rejected by the plaintiff. The jury later returned a verdict of $169,748.00.

In finding the insurer in bad faith, the Hayes Brothers’ court noted that, under Iowa law, the mere failure to settle within policy limits is not automatically bad faith. Instead, the plaintiff must prove that the defendant did not have a reasonable basis for failing to accept the offer before it was withdrawn. In this case, there was no legitimate reason for not accepting the policy limit demand within the time period. No additional investigation was necessary, and even retained defense counsel recommended it be accepted. Once again, the insurer’s efforts to save money resulted in paying far in excess of its contractual policy limits.

These cases demonstrate several points. First, despite the divergent bad faith standards in California and Iowa, the focus of the court’s inquiry was the general reasonableness of the insurer’s failure to accept the offer. In both cases, the insurer had no good reason to fail to settle the claim other than an effort to save money off its limits. The courts uniformly reject such excuses, particularly when they are at the expense of exposing the insured to an excess judgment. The other important lesson to be learned from these cases is that the brevity of the time-demand period does not make the demand itself unreasonable. In both cases, the insurer had sufficient information on file to know that it would be an excess case if taken to trial. In both cases, then, the short ten or five day period was sufficient to accept the offer and settle the case.

On the other side of the coin, the failure to pay in time is generally not a case of strict liability. Where the facts of the case indicate that the insurer could not have reasonably been expected to evaluate the case and pay the limits in time, extracontractual liability will not arise. For example, in Pavia v. State Farm Mutual Automobile Ins. Co., 626 N.E.2d 24 (N.Y. 1993), the court was evaluating the failure to settle a case where its insured hit a parked car, causing the passenger in the car to be partially paralyzed. The insurer knew that liability was a certainty and that damages would most certainly exceed the $100,000.00 policy limits. However, at the deposition of its insured, it was discovered that the parked car may have been backing up and that the insured may have an “emergency defense.” The insured testified to various witnesses who would confirm these facts, and also testified that the injured passenger was not wearing a seatbelt and that drugs were involved. After the deposition, the insurer began an investigation into these new facts.

Before the investigation could get underway, however, the plaintiff made a 30-day time-demand for policy limits. Because the insurer had not yet completed its investigation, it did not respond to the demand. After the investigation proved unsuccessful, the insurer offered the policy limits, but the offer was rejected as “too late.” The jury later returned a verdict in excess of $6 million.

Under New York law, an insurer is in bad faith if it acts in “gross disregard” for the interests of its insured. The Pavia court found that State Farm’s actions in investigating the claim, though ultimately fruitless, were not in “gross disregard” to the interests of its insured. Instead, the insurer legitimately needed to investigate the possible liability defenses available to its insured. That investigation could not reasonably be completed in the 30 days available under the time-demand. Accordingly, the court held that, under New York law, the insurer was not in bad faith for failing to meet the demand under the particular facts of the case.

Similarly, in Clauss v. Fortune Insurance Company, 523 So. 2d 1177 (Fla. 5th DCA 1988), the plaintiff was injured in an automobile accident with Fortune’s insured and sent a twenty-day time-demand for policy limits less than a month after the accident. In response, Fortune requested that the plaintiff’s attorney provide medical records to verify the extent of his injuries. The plaintiff’s attorney provided the records and extended the deadline by an additional five days. On the last day, the plaintiff’s attorney revoked the offer to settle and indicated that suit had been filed. Fortune sent a letter to the plaintiff’s attorney the following day, in which the policy limits were tendered in exchange for a release. This tender was refused by the plaintiff’s attorney as untimely.

The trial court entered summary judgment in favor of Fortune finding as a matter of law that there was no bad faith. The appellate court affirmed the finding that there were insufficient allegations of unreasonable conduct and bad faith on the part of Fortune. In so finding, Clauss applied a “reasonably prudent person” standard in evaluating the bad faith issue.(2) The court found that there was only a one-month delay from the initial demand for policy limits during which time Fortune verified the claim. They also found the policy limits were tendered one day after the time demand period expired. Under these circumstances, the court held that Fortune did not violate its common law duty of good faith.

These two cases again demonstrate that, despite different bad faith standards, the focus of any time demand case will be on the reasonableness of the insurer’s failure to settle. In Pavia, the insurer reasonably needed to conduct further investigations. In Clauss, the insurer complied with the demand a reasonably short time after it was made, and after it had enough time to evaluate the case. In both instances, the insurer had valid documented reasons for not accepting the offer in time. In neither case was the failure to accept the offer “automatic” bad faith. Instead, where the insurer does not settle the case in the time period prescribed by the plaintiff in good faith and on reasonable grounds, the insurer will not be found to have acted in bad faith.

III.   The Bad Faith Set-Up

Frequently, the time-limited demand is used by plaintiffs’ lawyers in an attempt to “set-up” the insurer for bad faith and thus open the policy limits to the amount of a presumably large future verdict. Frequently, plaintiff’s counsel will place conditions on the time-limited offer in addition to the deadline for the payment of policy limits. Those conditions can include the requirement of specific release forms, or of specifications for the release, such as only releasing specific parties or containing or excluding certain language. In the liability arena, many plaintiff’s lawyers will insist that the release not waive any first-party coverage claims, or will require that the release not contain a hold-harmless provision. In addition to a release, plaintiff’s counsel will sometimes require an affidavit be signed by the insured indicating that there is no other available coverage or source of indemnity. Also, plaintiffs may include extra-contractual components to their demands, such as the payment of pre-judgment interest, which the insurer may not even have a legal obligation to pay. Nevertheless, the failure to meet that condition of the demand will likely lead to a breakdown in settlement and later allegations of bad faith. Where the facts indicate that the time-demand was made solely for this purpose, and that there was never any real intent to settle the case, courts will be reluctant to find the insurer in bad faith. This is true even in jurisdictions that do not recognize comparative bad faith. In those states, the court will instead focus on the inherent unreasonableness of the offer, and simply find that the insurer’s failure to meet the time-demand was not bad faith under the circumstances.

For example, in DeLaune v. Liberty Mutual Insurance Company, 314 So. 2d 601 (Fla. 4th DCA 1975), a Florida court was faced with a ten-day time-demand letter on a $10,000 policy of liability insurance. The accident giving rise to the claim occurred on December 27, 1971, and the plaintiff filed a personal injury action approximately one month later. The suit papers and the file were delivered to the attorney representing the insured on February 7, 1972. Eight days later, defense counsel received a time-demand letter from the plaintiff’s attorney offering to settle the case for the $10,000 policy limits and placing a ten-day limitation upon the acceptance of the offer. An affidavit from a neurosurgeon was attached to this letter indicating that the plaintiff’s injuries would totally disable him for the rest of his life. An analysis of the case by the defense counsel, the company’s adjuster, and the company’s claims’ examiner revealed that the medical expenses were already $4,200.00, that liability was “highly probable,” that the insured should be notified of his possible excess exposure, and that the case should probably be settled for $10,000.00.

On the final day of the ten-day time limitation, the defense counsel telephoned plaintiff’s counsel and left a message with the counsel’s secretary that he did not yet have authority to settle, but anticipated receiving such authority the following Monday. In fact, authority was received the following Monday, and defense counsel attempted to settle the case for $10,000 but the plaintiff’s attorney refused the offer. Ultimately, the jury returned a verdict of $360,000 and the plaintiff sought to recover the excess from the insurer. However, the Florida Appellate Court found the limited time within which to accept the offer was totally unreasonable under the circumstances and implied that there might have been a “set-up.”

DeLaune is significant because Florida does not recognize comparative bad faith. The insurer in that case could not have asserted that the plaintiff himself was in bad faith for making such an arbitrary and unreasonable demand and refusing to accept the offer one day late. Although the lack of comparative bad faith would preclude asserting the “set-up” as an affirmative defense, the law nevertheless allowed the insurer to argue that its actions were not bad faith because of the unreasonableness of the demand. In such cases, the insurer can still argue a “set-up” occurred, because it is always necessary to analyze the insurer’s reasons for not complying with the demand. In this case, where every effort was made to meet the demand and the policy limits offer was definitively made one day after the demand period expired, the court found that the insurer’s actions did not constitute a degree of negligence which would rise to the level of bad faith. Thus, the reasonableness of the insurer’s actions in response to a “set-up” letter will be taken into account when later litigating the bad faith claim. Where the insured’s refusal to accept the slightly late tender of limits appears arbitrary and unreasonable, a finding of bad faith is unlikely even in a state that does not recognize comparative fault in this context.

Note, however, the equities of an excess judgment “bad faith” trial are not favorable to the insurer. There is a large judgment that must be paid. The jury is to decide who is to pay it: the insured or the insured’s liability carrier. The fact that the shrewd plaintiff’s attorney was “setting-up” the liability carrier, probably would have no practical effect on the jury.

IV.   Avoiding Extracontractual Liability for Excess Judgments

The insurer must take all reasonable and necessary steps to investigate the claim and determine whether payment of the policy limits is warranted within the time period prescribed by the plaintiff. If this cannot be done within the time permitted under the demand, the insurer should ask for an extension of time to respond. The failure of a plaintiff to grant the additional time (particularly if the demand is pre-suit) will often expose the plaintiff’s true motives.

Regardless of what jurisdiction’s laws are applicable, a time-limited demand should immediately set off an alarm. The adjuster should make a reasonable effort to obtain all necessary information to evaluate the claim, and make the decision whether or not to pay the limits within the prescribed period, or make a reasonable counteroffer. Note, a counteroffer is also a rejection of the plaintiff’s time-demand.

If you want to accept the time-demand but cannot comply with all its conditions within the time frame, write the plaintiff’s counsel, explain the situation, and request a reasonable extension in which to comply with the conditions. The worst thing an insurer can do in “response” to a time-demand is to ignore it. The fuse on this particularly explosive piece of correspondence can be extinguished by exercising good claims handling practices and paying attention to the implications of the offer. Simply allowing the clock to tick is bad practice for both the insurance company and its insureds, and is a sure way to create extra-contractual liability.


  1. Critz has been receded from by Crisci v. Security Ins. Co. Of New Haven, Conn., 66 Cal. 2d 425, 58 Cal. Rptr. 13 (Cal. 1967), to the extent that Critz implied that a showing of dishonesty, fraud or concealment was necessary to show bad faith. This would not likely change the outcome of Critz, as it makes the standard for demonstrating bad faith in California more difficult on the insurer.
  2. Florida currently follows a “totality of the circumstances” bad faith standard. State Farm Mutual Automobile Ins. Co. v. Laforet, 658 So. 2d 55 (Fla. 1995).