New York and Bad Faith: Two Years After Bi-Economy and Panasia
By Joseph G. Grasso, Rachel Lebejko Priester, Alison Weir, and Charles Platto.
In February 2008, the New York Court of Appeals decided Bi-Economy Market Inc. v. Harleysville Ins. Co. of New York, 10 N.Y.3d 187 (Ct. App. 2008) and Pan Estates, Inc. v. Hudson Ins. Co., 10 N.Y.3d 200 (Ct. App. 2008), holding that in certain cases involving first party business interruption and property claims, insurers could be liable for consequential damages - without regard to policy limits - for breach of contractual obligations. These decisions remarkably did not address decades of New York precedent that had established and shaped the law of "bad faith" and extra-contractual damages, based on a required showing of "gross disregard" directed toward the insured.
A. The Decisions
Bi-Economy and Panasia interpreted first party business interruption and property policies and the policyholders' claims for damages in excess of policy limits. In each case, the insurer delayed investigating, processing, and making payments on the claim, and each insured incurred additional damages beyond policy limits. The Court found that the insurers breached their contractual obligations and that they were liable for resulting foreseeable consequential damages. But the facially narrow rulings in Bi-Economy and Panasia raised more questions than they answered. First and foremost, is a finding of bad faith or a breach of the covenant of good faith and fair dealing necessary for an insured to recover damages in excess of policy limits? If so, what standards govern an insurer's conduct and any finding of bad faith? Do these apparently new principles (which may or may not require a finding of bad faith) apply to third party claims such as those resulting from failure to defend or settle, which have always required a finding of bad faith? Are the rules on punitive damages implicated or affected?
Bi-Economy and Panasia have been cited a number of times by courts in and outside of New York and have been discussed in numerous secondary sources. Somewhat surprisingly, however, most cases merely note that the decisions exist, and do not interpret or substantively apply the decisions. Perhaps this rather cavalier treatment is a product of the early procedural stages of the cases (such as on motion practice), and we must allow more time for courts to apply the decisions to different factual contexts after evidence has been developed. Or perhaps the lower courts have been reluctant to set, or have had difficulty in setting, new standards in the absence of further guidance from the Court of Appeals.
B. Subsequent Developments
In the thicket of subsequent case law, what is becoming clear is that a party seeking consequential, extracontractual damages must allege a breach of the covenant of good faith and fair dealing. But what action or inaction constitutes such a breach has yet to be settled. The most significant development occurred late last year in Panasia itself. Following the 2008 Court of Appeals decision, Panasia moved to amend its complaint to add a separate cause of action for consequential damages based on breach of contract. The trial court granted the motion, and both sides appealed. The Appellate Division agreed with Panasia that "the motion court erred by stating that consequential damages do not lie for breach of an insurance contract absent bad faith, since the determinative issue is whether such damages were ‘within the contemplation of the parties as the probable result of a breach at the time of or prior to contracting,'" but also held that the motion to amend should not have been granted "since the breach of contract claim that plaintiff sought to add was duplicative of its existing claim for breach of the implied covenant of good faith." 889 N.Y.S.2d 452, 452-53 (1st Dept. 2009). The court took the opportunity to correct the defendant's misperception that the claim was insufficiently pled, noting that "[t]he reference to such damages as ‘special' in Bi-Economy Mkt. (10 N.Y.3d at 192) was not intended to establish a requirement for specificity in pleading." Id. at 453.
While this decision confirms that a separate cause of action is not necessary to support a claim for consequential damages, an allegation of the breach of the covenant of good faith and fair dealing appears to be necessary. However, in Simon v. Unum Group, 2009 WL 2596618 (S.D.N.Y. Aug. 21, 2009), a New York federal court denied a consequential damage claim absent a finding of bad faith. Based on the decisions to date following Bi-Economy and Panasia, we offer the following comments on the questions noted above:
1. Is a finding of bad faith required for extracontractual, consequential damages in excess of policy limits? The majority in Bi-Economy and Panasia essentially held in the context of first party property and business interruption coverage that a breach by the carrier of its implied contractual obligations of good faith and fair dealing would give rise to a claim for foreseeable consequential damages without regard to policy limits. An express requirement of that decision is a breach of the covenant of good faith and fair dealing by the insurer. Thus, a mere breach of an express contractual or policy provision, without more, should not be enough to support such a claim. In other words, there must be a finding of a breach of the duty of good faith and fair dealing. This point seems clear, but it immediately gives rise to a second question: Is a breach of the duty of good faith the same as bad faith? We do not know, although we think the answer should be yes. The only decision following Bi-Economy and Panasia we have found which appears to address this issue is Simon, in which the court held that absent bad faith, a delay in processing did not give rise to a claim for consequential damages. 2009 WL 2596618, at *7. While the recent Appellate Division decision in Panasia confirms that consequential damages may lie for a breach of the covenant of good faith, it does not reach the question of what is the standard for measuring good faith.
2. To the extent it appears that at a minimum, Bi-Economy and Panasia require a breach of the duty of good faith and fair dealing to support an award of extra-contractual damages, how is this measured? What is the standard? Is it different from the traditional rules in New York relating to bad faith? As discussed in our original articles, in a series of cases in the mid nineties, beginning with Pavia and including Soto, Rocanova and NYU v. Continental, the New York Court of Appeals established a clear standard for bad faith, based on a finding of "gross disregard" for the insured's interests. Whether Bi-Economy and Panasia measure a breach of the covenant of good faith and fair dealing by this standard or some lesser or different standard remains unclear. Without guidance in Bi-Economy and Panasia or subsequent cases to date, we think the traditional "gross disregard" standard should apply.
3. Do Bi-Economy and Panasia apply to third party coverage, where there was already an established bad faith standard? In our ABA article in August 2008, we said there was no apparent difference between first party and third party contexts. But upon reflection, we would argue that there is. In Bi-Economy and Panasia, the Court struggled to establish a remedy for extra contractual consequential damages in first party coverage situations, where no such remedy previously existed, while making clear that the decisions were limited to the circumstances of those cases. By contrast, a remedy long has existed under the law of bad faith in the third party coverage context, and Bi-Economy and Panasia did not address that issue. Courts considering Bi-Economy/Panasia in the context of third-party claims, however, have not distinguished third-party claims from first party claims. In U.S. Fire Insurance Co. v. Bunge North America, Inc., 2008 WL 3077074 (D. Kan. Aug. 4, 2008), the court dismissed the plaintiff 's bad faith claim as unsupported by an independent tort, but allowed the claim for consequential damages as a result of the breach of the covenant of good faith and fair dealing to proceed. Id. at *16. Likewise, in Handy & Harman v. American International Insurance Group, Inc., 2008 N.Y. Slip Op. 32366(U), 2008 WL 3999964 (Sup. Ct. New York Co. Aug. 25, 2008), the court ruled consequential damages "were within the contemplation of the parties as a probable result of the breach at the time of, or prior to, contracting" for liability coverage. The court opined, "[a]n insurer in these circumstances fairly may be supposed to have assumed, when the insurance contract was made, that if it breached its obligations under the contract to make timely investigations in good faith and pay covered claims it would have to respond in damages for damages to plaintiff's business."
4. Have the rules on punitive damages been affected? We believe that this is the one question that can be answered firmly: "No." The dissent in Bi-Economy and Panasia expressed concern that the rules for punitive damages established in Rocanova and New York Univ. v Continental were being abandoned. However, the majority expressed an intent to allow compensatory, not punitive, damages and that the standards for punitive damages remained intact.
With the passing of the two-year anniversary of Bi-Economy and Panasia, we wondered what has happened in the wake of those seemingly revolutionary decisions. The answer is not much. It appears that New York, like many other jurisdictions, now has provided a remedy to policyholders for breach of the covenant of good faith and fair dealing in first party coverage disputes - but whether New York has abandoned or limited the long-established principles of bad faith and the applicable requirements and standards for awarding punitive damages remains to be seen. We would urge that the courts in New York carefully consider this issue and the questions above in resolving future cases.
 Mr. Grasso is a current co-Chair of Wiggin and Dana's National Insurance Practice Group. Ms. Weir is an associate with Wiggin and Dana and Ms. Priester is a former associate who now works at The Hartford; they are both former federal judicial law clerks. Mr. Platto is the principal of The Law Offices of Charles Platto in New York and is Adjunct Professor of Insurance Law and Litigation at Fordham Law School as well as a Vice Chair of the American Bar Association Tort and Insurance Practice Section Insurance Coverage Litigation Committee. He was formerly Chair of the National Insurance Practice Group of Wiggin and Dana LLP. A version of this article appeared in the March 8, 2010 issues of the Insurance Litigation Reporter and another is expected to appear in the summer 2010 newsletter of the Insurance Coverage Litigation Committee of the Tort, Trial & Insurance Practice Section of the American Bar Association.
 Pavia v. State Farm Mutual Auto. Ins. Co., 82 N.Y.2d 445 (1993); Rocanova v. Equitable Life Assurance Soc., 83 N.Y.2d 718 (1994); New York Univ. v. Continental Ins. Co., 83 N.Y.2d 603, 615 (1994); Platto, et al "New Developments in the New York Law of Good Faith and Bad Faith," ABA Insurance Coverage Litigation Committee Newsletter, 8 (Summer 2008); Platto, et al. "New York's ‘Good Faith' Standard-What Does it Mean for ‘Bad Faith'?," 30-6 Ins. Litigation R. 165, 165 (Apr. 23, 2008).
 Platto, et al "New Developments in the New York Law of Good Faith and Bad Faith," ABA Insurance Coverage Litigation Committee Newsletter, 12.