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Insurance Bad Faith: Failure to Reform Policy Based on Agent Error May Constitute Bad Faith as a Matter of Law

Trinity Evangelical Lutheran Church v. Tower Insurance Company
May 28, 2003

On Friday, May 23, 2003, the Wisconsin Supreme Court issued its decision in Trinity Evangelical Lutheran Church v. Tower Ins. Co., 2003 WI 46. In a puzzling opinion, the Court reinstated a trial court’s finding of insurance bad faith as a matter of law, concluding that the defendant’s knowledge or intent need not be determined by a jury. Furthermore, the court’s four-justice majority approved a punitive damages award of $3.5 million in the face of constitutional, common law, and public policy-based challenges to that award. The court’s decision on punitive damages is at odds with the United States Supreme Court’s recent decision in State Farm Mut. Auto. Ins. Co. v. Campbell, 123 S. Ct. 1513 (2003), which placed heretofore unprecedented restrictions on state and federal courts as they evaluate, under constitutional due process principles, large punitive damages awards.

Nature of the Case
In Trinity, an insurance agent mistakenly failed to apply for "hired and non-owed vehicle" coverage that the insured had requested. The error resulted in the plaintiff, a church and school, being uninsured for a motor vehicle accident. After the accident, the agent immediately recognized his error, brought it to the attention of a Tower underwriter, and requested that Tower issue and backdate the necessary coverage. The underwriter passed the request on to Tower’s vice president and director of operations, who decided within 48 hours that Tower would refuse to backdate the coverage. Tower initially argued that the agent’s errors and omissions carrier ought to cover the loss. Tower maintained that position even when presented by the E&O carrier with binding legal authority that it was Tower’s duty to reform the policy in the event of a mutual mistake of fact. See Trible v. Tower Insurance Co., 43 Wis. 2d 172, 168 N.W.2d 148 (1969).

Ultimately, the third parties injured in the car accident sued Trinity. In conjunction with that lawsuit, Trinity deposed the Tower underwriter, who apparently confirmed that although Tower’s agent failed to check "hired and non-owned vehicle" coverage on the application, he had previously verbally requested that coverage. At that point, more than three years after the accident and several months into the underlying accident suit, Tower finally agreed to reform the policy, paying $490,000 on behalf of Trinity to the injured parties. Trinity then amended its pleadings to include a claim for bad faith against Tower. When Tower moved for summary dismissal of the bad faith claim, the trial court not only denied Tower’s motion, but also ruled on the merits of the bad faith claim without being asked to do so. The trial court entered summary judgment holding Tower liable for bad faith as a matter of law, and awarding $17,500 in compensatory damages for the fees and costs Trinity incurred in the coverage dispute. The case proceeded to trial on the sole issue of punitive damages. After hearing the trial court’s instruction that bad faith existed as a matter of law, the jury awarded $3.5 million in punitive damages based, apparently, on the $490,000 in exposure.

The Wisconsin Court of Appeals (District II) held that the award of summary judgment on bad faith was erroneous but conditionally upheld the jury’s punitive damages award pending a new trial on the bad faith issue. In a four-to-three decision, the Wisconsin Supreme Court reversed the court of appeals and reinstated the trial court’s decision on summary judgment, upholding the punitive damages award as well.

Tower argued, on appeal, that the trial court’s finding of bad faith was erroneous for three reasons. First, Tower argued that Wisconsin courts had never recognized the tort of bad faith in the context of an insurer’s failure to reform a policy when the insured never made a formal reformation request. Second, Tower argued that the knowledge or intent element of the tort of bad faith cannot be determined as a matter of law. Third, Tower complained that the trial court’s decision to enter summary judgment deprived Tower of fair notice and opportunity to be heard on the issue of bad faith. Tower also argued that the trial court improperly submitted the question of punitive damages to the jury, with instructions that bad faith had been determined as a matter of law. Finally, Tower argued that the $3.5 million punitive damages award violated Tower’s right to due process under law.

The Court’s Decision
The court did not address the first and third of Tower’s arguments, apparently agreeing with the court of appeals that the tort of bad faith can occur in a policy reformation context and dismissing Tower’s concern that it lacked notice prior to the entry of summary judgment.

Bad Faith as a Matter of Law
"To establish a claim for bad faith, the insured ‘must show the absence of a reasonable basis for denying benefits of the policy and the defendant’s knowledge or reckless disregard of the lack of a reasonable basis for denying the claim.’" Weiss v. United Fire & Cas. Co., 197 Wis. 2d 365, 377, 541 N.W.2d 753, 757 (1995) (quoting Anderson v. Continental Ins. Co., 85 Wis. 2d 675, 691, 271 N.W.2d 368, 376 (1978). As the dissenting opinion noted:

The tort of bad faith contains an objective and a subjective element. Weiss, 197 Wis. 2d at 377. The first element – the absence of a reasonable basis for denying the claim – is objective. Id. at 378. The second element – the defendant’s knowledge or reckless disregard of the absence of a reasonable basis for denying the claim – is subjective.
Trinity, 2003 WI 46 (J. Sykes, dissenting), ¶ 88.

While "[i]ssues of subjective intent are generally not suitable for resolution on summary judgment," Id., ¶ 89, citing Tri-Tech Corp. of America v. Americorp Serv., Inc., 2002 WI 88, ¶ 30 n.5, 254 Wis.2d 418, 646 N.W.2d 822, the Trinity majority did not recognize this long-standing principle. Instead, the majority concluded, "the undisputed material facts in this case lead to only one reasonable inference – an inference of bad faith on the part of Tower." Trinity, 2003 WI 46, ¶ 38.

The court’s two dissenting opinions were extremely critical of the majority in this regard.
[T]his court overrules the court of appeals’ determination that material facts were in dispute and insists that no inferences helpful to the insurer could have been drawn from the facts. This is breathtaking

Id., (J. Prosser, dissenting), ¶ 83.

At trial, Tower Insurance was not able to defend itself on a level playing field. The circuit court left handprints on the scales of justice by taking the bad faith issue from the jury and instructing the jury as to the defendant’s bad faith.

Id., ¶ 84. Despite the pointed dissent, Wisconsin insurers must now be aware that they may no longer be entitled to a jury trial on the issue of bad faith. Under some circumstances, such as those present in the Trinity case, a court may conclude that an insurer’s denial of a claim constitutes bad faith without a jury ever finding the necessary knowledge or intent on the part of the insured.

Liability for Punitive Damages
In 1995, the Wisconsin legislature changed the law of punitive damages in Wisconsin, enacting a new statute that raised the standard of conduct necessary to justify punitive damages. Remarkably, the majority in Trinity did not acknowledge the change in the law, mentioning the statute but once and, at that, only as a "see also" citation. Trinity, 2003 WI 46, ¶ 45. Ignoring the development in the law over the last 25 years, the court did not even mention, much less analyze, the intent of the legislature in enacting the new standard for punitive damages.

Rather than addressing the 1995 change in the law, the court cited the old common law test for punitive damages, requiring only: 1) evil intent deserving of punishment or of something in the nature of special ill-will; or 2) wanton disregard of duty; or 3) gross or outrageous conduct. In a footnote, the court acknowledged that its punitive damages criteria, drawn from a 1978 bad faith decision, did not match the current punitive damages jury instruction based on the new statute, which requires either malice or an intentional disregard of the plaintiff’s rights. The court failed, however, to address this inconsistency. Rather, the court concluded summarily "the jury instruction adequately covered the factors that the jury should have considered here." Trinity, 2003 WI 46, ¶ 45, n.5.

While the Wisconsin court acknowledged the U.S. Supreme Court’s recent decision in State Farm, it failed to differentiate between the constitutional law of punitive damages set forth in State Farm and the common law analysis found in the Wisconsin cases. Characterizing Wisconsin’s common law test as "virtually identical" to the U.S. Supreme Court’s standards in State Farm and earlier cases, the Wisconsin court recited a six-part test for the constitutionality of punitive damages that includes "potential damage" and the "wealth of the wrongdoer," both of which State Farm explicitly rejected as constitutional criteria. Trinity, 2003 WI 46, ¶ 53.

De Novo Review
In Trinity, the state supreme court correctly adopted the de novo standard of review for constitutional challenges to punitive damages. It also said, however, that "the evidence must be viewed in the light most favorable to the plaintiff, and a jury’s punitive damages award will not be disturbed, unless the verdict is so clearly excessive as to indicate passion and prejudice." Trinity, 2003 WI 46, ¶ 56, citing Jacque v. Steenberg Homes, Inc., 209 Wis. 2d 605, 626, 563 N.W.2d 154 (1997). That reasoning, again, mixes common law, statutory, and constitutional principles into a legal stew. Deference to the jury is generally inconsistent with proper de novo appellate review, as Justice Diane Sykes noted in her dissenting opinion. Trinity, 2003 WI 46, ¶ 98, n. 1.

Constitutional Analysis of the Punitive Award
In BMW of North America v. Gore, 517 U.S. 559 (1996), the U.S. Supreme Court articulated a "three guidepost" test for lower courts to follow when evaluating the constitutionality of a punitive damages award. The BMW guideposts are, generally, the reprehensibility of the defendant’s conduct, the disparity between the harm and the award, and the difference between the award and the civil or criminal penalties imposed in comparable cases.

The Wisconsin court’s analysis under BMW is troubling. The court emphasized the "reprehensibility" factor, adopting the plaintiff’s characterization of the wrongs committed by Tower against its insured. The majority was particularly convinced by what it perceived as a pattern of "recidivism" on the part of Tower, the primary evidence being a 30-year-old Wisconsin Supreme Court decision on policy reformation in which Tower had been a defendant. See Trible v. Tower Insurance Co., 43 Wis. 2d 172, 168 N.W.2d 148 (1969). The majority also considered the speed with which the Tower executive made his decision (without consulting counsel or conducting any investigation) to be determinative in the reprehensibility inquiry.

Turning to the "proportionality" inquiry, the Wisconsin Supreme Court completely ignored the U.S. Supreme Court’s clarification in State Farm that the relevant inquiry is the ratio of punitive damages to the actual compensatory award. Instead, the court uncritically adopted the plaintiff’s theory that the potential harm to the insured ($490,000 in exposure if no insurance coverage existed) was the appropriate denominator, concluding that the resultant 7-to-1 ratio was consistent with State Farm. In reality, the actual damage to the plaintiff was approximately $17,500 in defense costs and legal fees associated with the coverage dispute. There never was any possibility that Trinity would have to pay this amount – it was covered either by Tower or the agent’s E&O carrier. Justice Sykes’ dissent was particularly critical of the majority in this regard:

Inexplicably, the majority fails to undertake the proper comparison (punitive damages to actual compensatory damages) and instead endorses (apparently) an improper comparison of punitive damages to a measure of "potential harm" that has no relationship to the bad faith claim upon which the punitive damages award was premised.

Trinity, 2003 WI 46, ¶ 107. If the court had used actual compensatory damages in its calculation, the punitive-to-compensatory damages ratio would have been more than 200-to-1, a ratio Justice Sykes characterized as "startling." Id., ¶ 111. The court’s failure to apply the proper "proportionality" inquiry in Trinity is especially puzzling in light of State Farm, which involved the same tort (bad faith), and used the actual compensatory damages award as the denominator.

Finally, the Wisconsin court turned the constitutional "comparability" inquiry on its head. The majority acknowledged State Farm’s admonition that "a criminal penalty has ‘less utility’ when used to determine the dollar amount of the punitive damages award," Id., ¶ 68, (citing State Farm), and noted that the Wisconsin statute imposes a $10,000 maximum criminal penalty for insurance bad faith. The court ignored the overriding message of State Farm, however, which "caution[ed] against using the existence of an applicable criminal penalty as grounds to sustain a punitive damages award, not the converse." Trinity, 2003 WI 46 (J. Sykes, dissenting), ¶ 111, n.4.

Other Factors
In State Farm, the U.S. Supreme Court confirmed that "a defendant’s wealth cannot justify an otherwise unconstitutional punitive damages award," State Farm, 123 S. Ct. at 1525. Nevertheless, in Trinity, the majority concluded that the "defendant’s wealth . . . appears sufficient to justify the size of the punitive damages award." Trinity, 2003 WI 46, ¶69. Wealth, in fact, was one of six factors the majority declared "relevant" to the determination of whether a punitive damages award is "excessive." Trinity, 2003 WI 46, ¶ 53.

Lessons for Insurers
Insurers writing policies in Wisconsin should be aware of Trinity’s potential impact on their claims procedures. Now, more than ever, adjusters should be aware that their decisions, particularly in claims for policy reformation, could have adverse consequences. Insurers can no longer rely on the added procedural protection of a jury trial on the issue of bad faith. Further, as long as Trinity remains the law in Wisconsin, insurers face punitive damages awards for bad faith that are multiples of their exposure on the underlying claim, not the actual compensatory damages awarded. Meticulous claims investigation and consultation with counsel regarding reasonable bases for denying claims will help insurers minimize their risk. Nonetheless, Trinity is likely to be perceived by many in the plaintiffs’ bar as an invitation both to bring bad faith claims and to seek large punitive damages awards.

The Court’s opinion can be accessed on the Wisconsin Supreme Court’s web site at

1 In State Farm, the plaintiffs received $1 million in compensatory damages because of embarrassment, worry, and humiliation that an excess judgment might cause them to lose their home. In Trinity, perhaps because the bad faith ruling came on summary judgment instead of from the jury, there was no such award for intangible harm.

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