A. INTRODUCTION Many people involved in the Canadianinsurance industry are alternately amazedand appalled at the bad faith punitive dam-age awards that occasionally emerge fromthe US Courts. They are amazed some statesallow liability limits on auto policies less than10% of the Canadian mandatory minimums($200,000), and they are astounded that aperson who purchases only $25,000 of suchliability coverage can later receive a jury ver-dict of $145 million in punitive damagesagainst the auto insurer for “bad faith” han-dling of an excess liability claim under thepolicy (the Campbell v. State Farm saga). SomeCanadian observers were similarly perplexedhow a simple water leak claim on a home-owner’s policy spiralled into a “toxic mold”catastrophe and ultimately resulted in aTexas jury tagging the homeowner insurerwith some $26 million for mental anguishand punitive damages, and attorneys fees(the Ballard v. Fire Insurance Exchange saga). For their part, US observers wouldprobably be surprised to learn that the high-

est court north of the border (the SupremeCourt of Canada) has effectively limitedavailable punitive damage awards againstfirst party insurers in that country to $1 mil-lion and then only in cases of most egre-gious misconduct. With respect to liabilityinsurance, you can literally count on onehand the number of “bad faith refusal tosettle” cases in Canada and the largest suchaward has been a mere $300,000.

B. THE ORIGIN OF THE GOOD FAITHOBLIGATION “Bad faith” litigation and run away juryawards of multi-million dollar punitive dam-ages against insurers is strictly a NorthAmerican phenomenon. There is no suchcause of action in the United Kingdom, thevery place where today’s modern insuranceindustry originated. In the USA, the Restatement ofContracts expressly imposes upon contract-ing parties “a duty of good faith and fairdealing in [the contracts] performance andenforcement.” No such provision exists in

Canada nor, indeed, have the Canadiancourts adopted any such general rule as amatter of common law. In addition, mostUS states have enacted statutes or regula-tions expressly governing insurance claimsand proscribing certain unfair or deceptiveclaims handling practices. These, along withgeneral tort law principles, form the basisfor much “bad faith” litigation south of theborder. Canada, the world’s second largestcountry in size, comprises ten provinces andthree territories, each of which has its ownlegislative and regulatory regime for insur-ance. Some, but by no means all, of theseprovinces/territories have legislative provi-sions prohibiting “unfair or deceptive prac-tices” in the business of insurance, but noneof the legislation provides any statutorycause of action for insurer “bad faith.” However, the Canadian courts have re-peatedly endorsed the concept of a duty ofgood faith as an implied term in every con-tract of insurance. The courts have also heldthat, generally speaking, insurance policies

B A D F A I T H L I T I G A T I O N I N C A N A D A

Much Ado AboutNothing?

Nigel P. Kent and Samantha Ip Clark Wilson LLP

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U S L A W FALL/WINTER 2012

U S L A W www.uslaw.org FALL/WINTER 2012

are “peace of mind” contracts. These prin-ciples can form the basis in appropriatecases for both punitive and mental distressdamages arising from wrongful denials ofcoverage. Thus far in Canada, only one appealcourt in one province (New Brunswick) hasactually endorsed the concept that insurerbad faith is a tort (as opposed to merely abreach of contract claim). In that case, thecourt declared “it is settled law, at least inthis Province, that insurers owe a duty ofgood faith and fair dealing to their insured,a breach of which may give rise to their lia-bility in both contract and tort.” Openingthe door to tort allows damages claims to bemade not only against the insurance corpo-ration, but also directly against its adjusters,claims managers, investigators and other in-dividuals involved in the claims process.However, such tort suits have not in factgained traction in Canada, and bad faithclaims are still generally treated as breachof contract claims against the insurer alone. Today, as in the USA, coverage enforce-ment lawsuits in Canada invariably includewhat have become almost standard form al-legations of bad faith claims handling on thepart of insurers and very often claim substan-tial punitive and mental distress damages onthat account. Such awards are actually veryrare and, in most instances, the claim ismerely a litigation tactic designed to ransomsettlements through a combination of:1. the mere possibility of an award being

made by a sympathetic, unsophisti-cated jury; and

2. the increased cost, inconvenience and,occasionally, embarrassments arisingfrom extensive discovery into corpo-rate finances, administration andclaims handling.

C. THIRD PARTY LIABILITY CLAIMS:WHAT ARE THE “GOOD FAITH” OBLIGATIONS? As indicated, there have been relativelyfew successful bad faith lawsuits against lia-bility insurers in Canada. Of course, likemost litigation, the vast majority of suchcases settle before trial. Nevertheless, the ab-sence of reported Canadian case law in thisarea provides an astonishing comparisonwith the US experience. Canadian courts have held that whilethe opportunity to settle a defensible casefor the policy limits necessarily produces aconflict of interest between insurer and in-sured, it is not a situation where the insurerowes fiduciary duties to the insured, and theinsurer is not required to abandon theirseparate interest simply because of the pos-sibility of a judgment in excess of policy lim-

its. Rather, liability on that account will onlyflow where the defense is mishandled,where the insurer fails to consider the in-sured’s interests as well as its own, andwhere there has been poor or untimelycommunication to the insured of all mate-rial information touching upon their posi-tion in the litigation. Cases involving failure to settle withinlimits do not usually result in punitive dam-age awards. Rather, the insurer becomes li-able for the amount of the excess judgment.Indeed, the highest punitive damage awardin Canada for wrongful denial of liabilitycoverage was made in 2012 and was only for$75,000.

D. FIRST PARTY COVERAGE: WHATARE THE GOOD FAITH OBLIGATIONS? By far the most common form of badfaith allegation against insurers is made inthe context of first party property or disabil-ity insurance coverages. Even so, theSupreme Court of Canada has declared; “aninsurer will not necessarily be in breach ofthe duty of good faith by incorrectly deny-ing a claim that is eventually conceded, orjudicially determined, to be legitimate…thequestion instead is whether the denial is asa result of the overwhelmingly inadequatehandling of the claim or the introductionof improper considerations into the claimsprocess.” Conduct which some Canadian courtshave held to constitute a breach of the dutyof good faith in first party cases includes:• Failing to provide an accurate and fair

explanation of the policy terms andclaims procedures;

• Failing to act with reasonable prompt-ness during each step of the claimsprocess, including timely payment ofundisputed portions of the claim.

• Failing to undertake a competent in-vestigation of the claim using objectiveunbiased experts; and

• Denials of coverage or delayed pay-ments to take advantage of the in-sureds economic vulnerability or togain bargaining leverage.

The highest punitive damage award ina first party coverage case in Canada is $1million. It involved a denial of coverageunder a homeowners policy on grounds ofalleged arson even though the insurer wastold by their own investigators, they “didn’thave a leg to stand on.” The award wasmade by a jury and while the SupremeCourt of Canada ultimately allowed it tostand, they expressed the view that theamount was extremely high.

E. PUNITIVE DAMAGES: WHAT IS THETHRESHOLD?While the case law establishes that the in-surer’s breach of the implied duty of goodfaith claims handling is a necessary pre-con-dition for any award of punitive damages, itdoes not follow that such awards are auto-matic in all cases where there has been abreach. Rather, the Supreme Court ofCanada has made it very clear there is a two-step analysis which must be undertakennamely:1. Beyond establishing that the denial of

coverage was an incorrect judgmentcall, was the denial also the result ofboth overwhelmingly inadequate claimhandling or the introduction of im-proper considerations? and

2. If so, was the insurer’s conduct so ex-ceptionally egregious that an award ofpunitive damages is warranted.

It is only in exceptional cases whereboth conditions are met, that punitive dam-ages are supposed to be awarded in Canada.Some observers believe the trial courts oftenoverlook the exceptional nature of theaward and that some dilution of the thresh-old criteria has occurred. Still, awards ofpunitive damage for insurer bad faith inCanada remain relatively rare even wherethe denial of coverage or the handling of theclaim has been judicially found wanting.Given the size of awards regularly made inUS courts, observers south of the border maybe inclined to think bad faith litigation inCanada is indeed much ado about nothing.

Nigel Kent (npk@cwilson.com) and Samantha Ip(ssi@cwilson.com) are sen-ior partners in the insur-ance litigation group atClark Wilson LLP inVancouver, Canada.Nigel's been practicing in-surance law for 32 years,teaches at CapilanoUniversity, and is recog-nized as a most frequentlyrecommended specialist inhis field in the "BestLawyers in Canada" direc-tory. In addition to her ex-pertise in insurance law,

Sam is also a leading construction litigationcounsel and is a much sought after contributorto industry publications and presenter atprominent professional liability continuing ed-ucation seminars.More detailed bios are avail-able at www.cwilson.com