Bad-Faith is a One-Way Street in Kentucky, Sixth Circuit Holds

In State Auto Property & Casualty Insurance Co. v. Hargis, 2015 U.S. App. LEXIS 7475 (6th Cir., May 6, 2015) the United States Court of Appeals for the Sixth Circuit, interpreting Kentucky law, refused to recognize an insurer’s reverse bad faith claim against a policyholder that intentionally set fire to the insured property in order to collect insurance proceeds. The insurer brought a declaratory action to declare the policy void. The policyholder asserted counterclaims for bad faith. The policyholder filed an $866,000 claim under her homeowners policy after her home burned to the ground. The carrier paid over $425,000. However, subsequent investigation established that the fire was intentionally set. The policyholder was eventually indicted for conspiracy to use fire to commit wire fraud. The policyholder’s guilty plea included an admission that she had solicited a friend to commit the arson so that she could collect insurance money. The policyholder offered her friend $10,000 of the insurance proceeds. The policyholder was ordered to pay $672,497.80 to the carrier as restitution. This sum included $195,116.70 for the carrier’s costs of investigating the claim and defending against the policyholder’s bad faith action. The carrier sought to add an additional common law tort claim against the insured for reverse bad faith. The trial court dismissed this claim because reverse bad faith is not a recognized cause of action in Kentucky. The insurer appealed and argued that permitting such a claim is supported by public policy considerations. Without such a claim, the carrier argued, policyholders have nothing to lose by bringing bad faith claims against insurers seeking punitive damages while the insurers must bear the burden of the cost of defending and investigating. In essence, reverse bad faith would disincentivize policyholders from bringing frivolous bad faith claims against insurers. The court disagreed. In this particular matter, the court found the consequences to the policyholder to be significant enough to deter fraudulent claims. Here, the policyholder was required to make restitution to the carrier. She was also incarcerated. The court further noted that the carrier could have brought a common law claim for fraud. In essence, the court held that criminal prosecution was enough of a deterrent, thereby rendering the threat of punitive remedies unnecessary. This case provides yet another example of the un-level playing field carriers and policyholders encounter during litigation. While the court’s point about the deterrent effect of criminal prosecution is well-taken, it is difficult to ignore the differing standards of conduct implicated by subjecting insurers to punitive damages without doing the same for policyholders.

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