MARCH 2015 BAD FAITH CASES – DIETZ & WATSON PART II: COURT PERMITS DEPOSITIONS OF INSURED’S COUNSEL IN CONNECTION WITH AFFIRMATIVE DEFENSES OF: SETTLEMENT WITHOUT CONSENT, AND ALLEGED UNCLEAN HANDS AND COLLUSION; BUT DENIES DEPOSITION OF INSURER’S COUNSEL WHOSE DECISIONS WERE MADE AFTER NOTICE OF BAD FAITH CLAIM, AND SOME OF THE DISPUTES WERE IN THE NATURE OF DISCOVERY DISPUTES WHICH ARE NOT THE BASIS OF A BAD FAITH CLAIM (Philadelphia Federal)

In Dietz & Watson v. Liberty Mutual Insurance Company, Magistrate Judge Rueter addressed numerous discovery issues in the context of third party insurance bad faith litigation.  The insurer asserted that documents the insured sought were protected by the mediation privilege and/or the attorney-client privilege or work product doctrine. (This is addressed in a separate blog entry).  Further, the insurer sought the deposition of the insured’s counsel in connection with its affirmative defenses, and the insured sought to depose one of the insurer’s attorneys, discussed below.

The basic factual background involved a third party personal injury claim against the insured.  The insurer had provided a defense under a reservation of rights, reserving the right to disclaim coverage for punitive damages. The case settled for $2.5 Million with the insurer paying $1,750,000 and the insured paying $750,000. In addition, at the time of settlement, the third party’s counsel and the insured’s counsel reached an agreement that the third party’s counsel would represent the insured in a bad faith claim against the insurer; and that the injured third party would receive the first $250,000 of any recovery in that bad faith action.  In addition, at that time, the injured third party withdrew his punitive damages claim against the insured.

During the underlying case, the insurer had assigned defense counsel, and the insured’s corporate counsel had also entered an appearance for the insured in that action.

The primary basis of the bad faith claim was the insurer’s alleged failure to engage in good faith settlement negotiations, by refusing to pay more than $1,750,000, and thus forcing the insured to pay the additional funds out of its own pocket to achieve the settlement.  The insured also asserted bad faith on the alleged basis that the insurer obstructed the insured from investigating and pursuing the bad faith claim, after the settlement had occurred.

  1. Depositions of Insured’s Attorneys

The insurer sought to depose the insured’s current attorney, who was the injured third party’s attorney in the underlying action (as well as two of his partners); and also sought to depose the insured’s corporate counsel.  The insurer argued that these depositions were necessary and permitted to support its affirmative defenses, which alleged that: (1) the policy prohibited the insured from making a voluntary settlement payment without the insurer’s consent; and (2) the insured had “unclean hands” and had colluded with the underlying plaintiff and his attorney.

The court recognized that the insured, as well as the insurer, had a duty of good faith; and that “Pennsylvania law requires that a settlement entered without the insurers’ knowledge or consent must be reasonable and in good faith and non-collusive, even if the insurer breached its duty to defend.” “Indicators” that may be considered in evaluating the insured’s alleged bad faith and alleged collusion “’are unreasonableness, misrepresentation, concealment, secretiveness, lack of serious negotiations on damages, attempts to affect the insurance coverage, profit to the insured, and attempts to harm the interest of the insurer.’” In this case, the insurer alleged that “at the time of the settlement, [the underlying plaintiff] withdrew his claim for punitive damages, so that it would not appear that [the insured] was paying money … to settle a claim not covered by the terms of the … insurance policy.” The insurer further claimed it was relevant that the insured was now represented by the underlying plaintiff’s former attorney, and it alleged that the insured “had secretly agreed to pay [the underlying plaintiff] a large portion, i.e., $250,000.00, of any monies received by [the insured] from its bad faith action….”

The court found that if these two defenses could be proven, they would be valid defenses, and that the facts the insurer alleged were “sufficient for it to take discovery into the areas of [the insured’s] alleged voluntary payment made without the consent of [the insurer] and [the insured’s] bad faith.” Thus the court permitted the deposition of counsel who formerly represented the underlying plaintiff “who negotiated the challenged settlement”. The court further allowed the deposition of the insured’s corporate counsel.  The court did limit the depositions of the two partners, to the extent that if the insurer believed it still needed their depositions after these other depositions occurred, it could apply to the court for such relief.

  1. Deposition of Insurer’s Attorney/Discovery Disputes not Bad Faith

The insured sought the deposition of one of the insurer’s attorneys, concerning her decisions in relation to disclosing litigation and claims files. The insurer had been put on notice of the bad faith claim prior to this attorney’s involvement, and the insurer’s attorney referred the matter to other counsel to evaluate disclosure of the files in light of the bad faith claim, to consider the propriety of their production.  The court stated that such conduct was reasonable.

The insured further claimed that there was bad faith obstruction in producing these files.  However, the insured had eventually obtained the underlying defense litigation files, and had later obtained the claims file with certain redactions for privileged materials. The court denied the motion to compel the deposition of the same attorney on this issue, again observing this all occurred after the bad faith claim had been threatened.

Further, to the extent this was a discovery dispute, the court stated that “Pennsylvania courts have made it clear that an insured may not recover under Pennsylvania’s bad faith statute ‘for discovery abuses by an insurer or its lawyer in defending a claim predicated on its alleged prior bad faith handling of an insurance claim.’” The insured’s “only claim alleged of post settlement bad faith conduct is [the insurer’s] refusal to turn over its claim file after it was notified it may be sued for bad faith. This is the nature of a discovery violation, which does not constitute bad faith under Pennsylvania law.”

Date of Decision:  January 28, 2015

Dietz & Watson v. Liberty Mut. Ins. Co., No. 14-4082, 2015 U.S. Dist. LEXIS 9815 (E.D. Pa. January 28, 2015) (Rueter, U.S.M.J.)