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Brethorst v. Allstate: The Wisconsin Supreme Court Addresses the Intersection Between Bad Faith and Breach of Contract

June 23, 2011

For over three decades, Wisconsin has recognized a claim for first-party bad faith. Insureds filing a bad faith claim typically also bring a corresponding breach of contract claim. When that happens, Wisconsin law requires the trial court to bifurcate the claims and stay all discovery on the bad faith claim until the insured has proven the contract claim.

But what if, in an effort to end run that requirement, the insured brings a bad faith claim without a breach of contract claim? Is there anything to bifurcate? Should the insured be allowed to proceed immediately with bad faith-related discovery and obtain access to the insurer's work product and attorney-client materials?

The Wisconsin Supreme Court addressed these questions last week in Brethorst v. Allstate Property and Casualty Insurance Company, 2011 WI 41. The court found that an insured could bring a bad faith claim without a breach of contract claim, but could not proceed with discovery on the bad faith claim until she has: "(1) pleaded a breach of contract by the insurer as part of a separate bad faith claim, and (2) satisfied the court that she has established such a breach or will be able to prove such a breach in the future." Id. at ¶ 5.

While it remains to be seen exactly how the court's decision will play out in practice, the decision is generally favorable to the insurance industry. An insured will not be able to force production of the insurer's claims-handling documentation before first making a strong showing that the insurer likely breached its policy obligations.

I. Case Background
Plaintiff Wanda Brethorst suffered injuries in an automobile accident caused by an uninsured motorist. She submitted an uninsured motorist (UM) claim to her insurer, Allstate, for roughly $10,000. Allstate denied full payment of the claim and offered $6,800 instead. Brethorst rejected the offer and sued for bad faith -- without an accompanying breach of contract claim.

Allstate moved to have Brethorst's contract claim bifurcated from her bad faith claim and asked that bad faith discovery be stayed until the contract claim had been resolved. Not surprisingly, Brethorst opposed the motion, pointing out that she had not brought a breach of contract claim and, thus, there was nothing to bifurcate.

The circuit court denied Allstate's motion, finding that Wisconsin law permits a party to bring a bad faith claim without an underlying breach of contract claim. Allstate petitioned the court of appeals for leave to file an interlocutory appeal. The court of appeals granted the motion and certified the case to the supreme court, which accepted the certification.

II. The Issue
Only Brethorst and her counsel can be certain why she filed a bad faith claim without a breach of contract claim. Nonetheless, Brethorst's motivation seemed clear: she wanted early access to Allstate's claim file and other sensitive claims-handling documentation, which would not be available through discovery on a breach of contract claim. Brethorst and her counsel undoubtedly understood that if Allstate were ordered to turn over that material and produce its claims-handlers for deposition at the outset of the case, she would have a significant negotiating advantage that might result in a favorable settlement, particularly in a case where the potential contract damages were modest. In short, Brethorst's tactic was designed to gain leverage.

While there is nothing inherently wrong with parties seeking to maximize their leverage, the law needs to keep the playing field level. Allstate and the state insurance industry were concerned that if, as Brethorst had attempted, an insured could sue for bad faith alone, obtain the right to immediately access the insurer's claim file, and then start a discussion about resolving the case or scheduling depositions of the insurer's employees -- without first proving that the insurer had breached a coverage obligation -- the playing field would be unfairly tilted in favor of the insured.

III. Wisconsin Bad Faith Law
Since the Wisconsin Supreme Court adopted the first-party bad faith tort in Anderson v. Continental Insurance Co., 85 Wis. 2d 675, 271 N.W.2d 368 (1978), the applicable standard has contained an objective and a subjective component. The objective prong requires the insured to show the "absence of a reasonable basis for denying [the claim]"; that is, that "a reasonable insurer under the circumstances [would not] have denied or delayed payment of the claim under the facts and circumstances." Id. at 691 92. The subjective prong obliges the insured to establish the insurer's "knowledge or reckless disregard of the lack of a reasonable basis for denying the claim." Id.

In Anderson, the state supreme court explicitly acknowledged insurers' fears that the tort could lead to "extortionate lawsuits." Id. at 693. The court ultimately dismissed those concerns, holding that, because the bad faith standard contained an objective element, insurers need not worry about being "mulcted by extortionate or questionable claims." Id. at 693 94; see also Mills v. Regent Ins. Co., 152 Wis. 2d 566, 575 76, 449 N.W.2d 294 (Ct. App. 1989) (objective component of bad faith test is designed to protect insurers from unwarranted bad faith claims).

Similarly, in Dahmen v. American Family Mut. Ins. Co., 2001 WI App 198, 247 Wis. 2d 541, 635 N.W.2d 1, the court of appeals was concerned about an insured's ability to simply allege bad faith and then proceed with discovery and full litigation of the claim before there ever was any determination that the insurer acted in an objectively unreasonable manner. Agreeing with several out-of-state decisions in which courts had been reluctant to allow discovery to proceed in such circumstances, the court of appeals noted that insurers could be prejudiced "when discovery proceeds on a bad faith claim while an underlying claim against the same defendant remains unresolved." Id. at ¶ 16.

To protect against this risk of prejudice, the court of appeals determined that the plaintiffs' underlying underinsured motorist (UIM) claim should be bifurcated from their bad faith claim, and all discovery on the bad faith claim stayed until the underlying claim had been resolved. Id. at ¶¶ 19-20. The court of appeals further concluded that such an approach "might well enhance, rather than defeat, the interests of judicial economy and possible settlement." Id. at ¶ 19.

Brethorst's litigation tactics were deliberately calculated to bypass the procedural requirements of Dahmen. By pursuing only a bad faith claim, Brethorst apparently believed she could proceed directly with full-fledged bad faith discovery without first having to establish that Allstate had breached the underlying insurance policy by offering her an inadequate payment on her UM claim.

IV. The Decision
The state supreme court framed the key issue as whether "an insured must prove a breach of contract -- such as a wrongful denial of benefits -- prior to seeking discovery and litigating a claim of bad faith against an insurer where there is no accompanying claim for breach of contract." 2011 WI 41, ¶ 22.

The court first found that there could be no valid first-party bad faith claim unless the insurer had wrongfully denied benefits under the insurance contract. Id. at ¶ 56. Given that holding, the court was reluctant to authorize discovery on a bad faith claim without any initial showing by the insured that the insurer had wrongfully denied contractual benefits. Id. at ¶ 59. Ultimately, the court concluded that "some breach of contract by an insurer is a fundamental prerequisite for a first-party bad faith claim against the insurer by the insured." Id. at ¶ 65. To hold otherwise, the court found, would "invite the filing of unmeritorious claims, focused on the insurer's alleged misconduct." Id. at ¶ 69.

The court then turned to the question of discovery, explicitly recognizing that the scope of bad faith discovery is more expansive than that allowed for breach of contract claims (including the insurer's work product and attorney-client material related to how the claim was handled). Id. at ¶ 75 n. 7. Given this broad scope of discovery, the court held that:

the insured may not proceed with discovery on a first-party bad faith claim until it has pleaded a breach of contract by the insurer as part of a separate bad faith claimand satisfied the court that the insured has established such a breach or will be able to prove such a breach in the future. Stated differently, an insured must plead, in part, that she was entitled to payment under the insurance contract and allege facts to show that her claim under the contract was not fairly debatable.

Id.
at ¶ 76. The court also noted that the insurer had to be permitted to challenge the elements of the breach of contract claim by motion before it would be subjected to bad faith discovery. Id. at ¶ 77. In particular, the supreme court explained that if the insured could not make a preliminary showing, the trial court would have grounds to grant summary judgment to the insurer. Id. at ¶ 79.

Having laid out these standards, the court then applied them to Brethorst's situation. It found that Brethorst had pled a breach of contract claim as part of her bad faith claim, and she also had provided sufficient factual allegations to support a potential breach of contract. In response, Allstate had not provided any concrete factual reasons to "undermine Brethorst's story" or justify its failure to pay the entire claim. Id. at ¶ 85. (The court did not acknowledge that Allstate had never known that it needed to provide facts to justify its position.) In the end, though, the court permitted Brethorst to proceed towards trial on her bad faith claim.

Justices Bradley and Abrahamson concurred, agreeing that Brethorst's freestanding bad faith claim should proceed. Nonetheless, they criticized the majority for "needlessly alter[ing] the well-established law and creat[ing] out of whole cloth new pleading requirements and uncertain procedures that are unnecessary and confusing." Id. at ¶ 87. In short, Justices Bradley and Abrahamson found the majority's pleading requirements contrary to standard notice pleading and insufficient to provide real guidance to trial courts on how to evaluate the sufficiency of the facts alleged.

V. Conclusion
With Brethorst, the state supreme court has tried to strike an appropriate balance in Wisconsin bad faith law, keeping the playing field level for insured and insurer alike.

In light of the decision, it seems rather unlikely that insureds will begin to bring stand-alone bad faith claims on a regular basis. While there may be some modest advantage for insureds to proceed in that fashion, particularly when their underlying contract claims involve modest damages, the supreme court has shut down the easy access to claims-handling materials that Brethorst had hoped to achieve.

The one certainty here is that Wisconsin bad faith law will continue to evolve, just as it has for the last 30 years. Brethorst is not the last word, but for now, insurers can be satisfied that the Wisconsin Supreme Court has understood their concerns.

Kendall filed an amicus brief in Brethorst on behalf of the Wisconsin Insurance Alliance, and also argued the case before the Wisconsin Supreme Court.

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