Lira v. Shelter Insurance Co.

913 P.2d 514, 20 Brief Times Rptr. 421, 1996 Colo. LEXIS 47, 1996 WL 128144

• Court: Supreme Court of Colorado
• Decided: March 25, 1996
• Docket: 95SC153
• Status: Published

Opinions

Chief Justice VOLLACK

delivered the Opinion of the Court.

We granted certiorari to review the decision of the court of appeals in Lira v. Shelter Insurance Co., 903 P.2d 1147 (Colo.App. 1994), which held that when an insured’s only claimed damages are the outstanding punitive damages awarded against him in the underlying suit, the insured may not recover against the insurer for acting in bad faith in failing to settle. We affirm the decision of the court of appeals.

I.

Early in the morning on January 3, 1988, Joel Lira (Lira) became involved in an altercation with another driver, Edgar Gunn (Gunn), while traveling northbound on Interstate 25. Lira had spent much of the prior evening consuming beer at various locations. According to Lira’s testimony, Gunn pulled in front of him and stopped suddenly, causing Lira’s vehicle to collide with Gunn’s vehicle and lock bumpers with it. The two drivers then exited their vehicles, leaving the vehicles in a traffic lane on Interstate 25, and began fighting on the highway. After the two finished fighting, Gunn left the scene in his vehicle. Lira departed on foot, abandoning his vehicle in the traffic lane on Interstate 25. Lira neglected to report to any authorities that he had left his vehicle in the path of oncoming traffic.

Soon thereafter, Lira’s vehicle was struck by Jeffrey Davis (Davis), who was traveling north in his vehicle on Interstate 25. Subsequently, Davis brought an action against Lira, seeking compensatory and punitive damages. Shelter Insurance Company (“Shelter”), as Lira’s insurance company at the time of the accident, hired a law firm to defend Lira. Shelter also notified Lira by correspondence that

the plaintiff is seeking punitive damages. Exclusion 11 on Page 5 of your policy exclude (sic) punitive damages from coverage under your policy. Should there be a judgment rendered against you for punitive damages, you would be responsible for same. Again, you have a right to hire an attorney at your expense to defend you as to the punitive damages.

During the pretrial proceedings, Davis offered to settle his claims against Lira for the policy limit of $50,000. Shelter, on behalf of Lira, refused this offer, and made a counteroffer of $10,000. Shelter based this counteroffer on its assessment that Davis had incurred $30,000 in losses relating to the accident and that Lira should be liable for one-third of those losses.¹ Davis refused Shelter’s counteroffer, and the ease proceeded to trial.²

After trial, the jury returned a verdict against Lira in the amount of $87,300 in compensatory damages and $87,300 in punitive damages. The trial court reduced the compensatory damages award to $43,650, pursuant to the comparative negligence statute, section 13-21-111, 6A C.R.S. (1987), and the pro rata liability statute, section 13-21-111.5, 6A C.R.S. (1987). Additionally, the trial court reduced the punitive damages award to $43,650, pursuant to the punitive damages statute, section 13-21-102(1)(a), 6A C.R.S. (1987). The damages awards were upheld by this court. Lira v. Davis, 832 P.2d 240, 246 (Colo.1992).

Shelter satisfied the compensatory damage award, plus interest and costs, the total of which was within the $50,000 limit of Lira’s policy with Shelter. Shelter declined to pay the punitive damages awarded against Lira, as Lira’s insurance policy exempted punitive damages from coverage.

Lira then brought the instant action against Shelter for bad faith breach of Lira’s insurance policy, alleging that Shelter acted in bad faith by failing to settle Davis’s action against Lira. The damages alleged by Lira were the $43,650 in punitive damages, plus interest, awarded against Lira in the underlying suit.³ After trial, the jury in the instant case returned a verdict against Shelter in the amount of $58,000.

Shelter appealed, and the court of appeals reversed the jury’s verdict, holding that an insured may not recover against his insurer for a bad faith failure to settle when the insured’s only claimed damages are the punitive damages awarded against him in the underlying suit.⁴

II.

Lira contends that the court of appeals erred by reversing the jury verdict in his favor on the basis that an insured may not recover against his insurer for bad faith in failing to settle when the insured’s only claimed damages are the punitive damages awarded against him in the underlying suit. Shelter contends that the court of appeals’ ruling is correct, because it prevents responsibility for punitive damage awards from being shifted to the insurer in contravention of Colorado policy underlying imposition of punitive damages. This question is an issue of first impression in Colorado. We hold that in an action by an insured against his insurer for bad faith failure to settle, the insured may not collect as compensatory damages the punitive damages awarded against him in the underlying lawsuit.

An insurer’s tort liability for breach of its implied duty of good faith and fair dealing derives from the nature of the insurance contract and the relationship between the insured and insurer. Farmers Group, Inc. v. Trimble, 691 P.2d 1138, 1141 (Colo. 1984). This tort liability is based on the quasi-fiduciary nature of the insurance relationship and is predicated on the parties’ contractual responsibilities. Trimble, 691 P.2d at 1142; Bailey v. Allstate Ins. Co., 844 P.2d 1336, 1339-40 (Colo.App.1992). The tort duty imposed upon the insurer, therefore, must be within the scope of the obligations imposed by the contract. An insurer who has not contracted to insure against its insured’s liability for punitive damages has no duty to settle the compensatory part of an action in order to minimize the insured’s exposure to punitive damages. Magnum Foods, Inc. v. Continental Casualty Co., 36 F.3d 1491, 1506 (10th Cir.1994); Zieman Mfg. Co. v. St. Paul Fire & Marine Ins. Co., 724 F.2d 1343, 1346 (9th Cir.1983).⁵ Thus, if the insurer has no contractual duty to indemnify the insured for punitive damages, the insurer has no tort duty to settle in good faith with regard to punitive damages.

Bad faith breach of an insurance contract may subject the insurer to traditional tort damages. Ballow v. PHICO Ins. Co., 878 P.2d 672, 677 (Colo.1994). The insurer may become liable to the insured in tort for compensatory damages, such as for an award of damages in excess of the policy limits or for emotional distress. Id. If the breach is found to be accompanied by circumstances of fraud, malice, or willful and wanton conduct, the insurer may also be liable to the insured for punitive damages arising from the insurer’s conduct. Id. at 682. This court has never decided whether an insured may recover compensatory damages consisting solely of the punitive damages from the underlying third-party action from an insurer who commits a bad faith breach of the insurance contract.

In the instant ease, the Shelter Automobile Insurance Policy provided that Shelter would not be liable for punitive damages incurred by the insured. Shelter’s duty to settle, therefore, did not encompass a duty to protect the petitioner from exposure to punitive damages. Shelter cannot be held liable for damages for breach of a duty which it did not have in the first place. The damages which are claimed to be “compensatory” in the instant case are none other than the punitive damages from the underlying case. The contract between the parties expressly precluded recovery for punitive damages incurred by the insured. The insured may not later utilize the tort of bad faith to effectively shift the cost of punitive damages to his insurer when such damages are expressly precluded by the underlying insurance contract.

This reasoning is in accord with Colorado ease law and policy regarding punitive damages. The public policy of Colorado prohibits an insurance carrier from providing insurance coverage for punitive damages. See Universal Indemnity Ins. Co. v. Tenery, 96 Colo. 10, 17, 39 P.2d 776, 779 (1934); Gleason v. Fryer, 30 Colo.App. 106, 109, 491 P.2d 85, 86 (1971). Punitive damages are not meant to reimburse an injured plaintiff for harm suffered by that individual, but rather are intended to punish the defendant for his wrongful acts and to deter similar conduct in the future. Seaward Constr. Co. v. Bradley, 817 P.2d 971, 974 (Colo.1991). To allow the petitioner in this case to recover compensatory damages which derive from his own wrongful conduct undercuts the public policy of this state against the insurability of punitive damages.

The Court of Appeals of New York reached the same conclusion under similar factual circumstances in Soto v. State Farm Insurance Co., 83 N.Y.2d 718, 613 N.Y.S.2d 352, 635 N.E.2d 1222 (1994). That case involved an auto accident in which the insured’s ear, driven by another individual, struck and killed two victims. The victims’ administrators then brought actions against the insured and the driver. Despite the administrators’ willingness to settle the action for the policy limits, the insurer, defending the case on behalf of the insured, declined to offer that amount in settlement. The case proceeded to trial, resulting in a judgment against the insured for $420,000 in compensatory damages and against the driver for $450,000 in punitive damages.

The insurer paid the plaintiffs the full amount of the compensatory damage award, but declined to pay the punitive damages. Consequently, the decedents’ administrators took an assignment of the insured’s and the driver’s rights against the insurer, and brought an action against the insurer for bad faith refusal to settle under the insurance contract. The action alleged that in refusing to settle the claim, the insurer recklessly disregarded the interests of its insureds in the face of the clear likelihood of a jury award in excess of the policy limits. The insurer moved to dismiss the action, and the trial court granted the motion, holding that the punitive damages in the underlying lawsuit were not properly recoverable as a consequential damage of the insurer’s breach of its obligation to act in good faith. Id. 613 N.Y.S.2d at 353-54, 635 N.E.2d at 1223-24.

The Court of Appeals of New York affirmed the trial court, stating the “fundamental principle that no one shall be permitted to take advantage of his own wrong.” Id. at 354, 635 N.E.2d at 1224. The court clarified that this principle retains vitality despite the “existence of an entirely separate and analytically distinct wrong on the part of the insurer.” Id. at 355, 635 N.E.2d at 1225. The court went on to hold:

Regardless of how egregious the insurer’s conduct has been, the fact remains that any award of punitive damages that might ensue is still directly attributable to the insured’s immoral and blameworthy behavior.

Our system of civil justice may be organized so as to allow a wrongdoer to escape the punitive consequences of his own malfeasance in order that the injured plaintiff may enjoy the advantages of a swift and certain pretrial settlement. However, the benefit that a morally culpable wrongdoer obtains as a result of this system, i.e., being released from exposure to liability for punitive damages, is no more than a necessary incident of the process. It is certainly not a right whose loss need be made subject to compensation when a favorable pretrial settlement offer has been wasted by a reckless or faithless insurer.

Id. The court further held that the punitive damages awarded against an insured in the underlying third-party lawsuit are not a proper element of the compensatory damages recoverable from an insurer for a bad faith refusal to settle. Id.; accord Magnum Foods, 36 F.3d at 1505-06 (“[A] risk that a wrongdoer will suffer the consequences of his own malfeasance is not one that may be shifted to an insurer.”).

The reasoning of the Court of Appeals of New York in Soto is sound, and we apply the same to the instant case. To hold otherwise would, in practical application, force insurers to settle cases involving punitive damages in order to avoid liability for the same punitive damages in subsequent bad faith actions. Such a result would be contrary to the principle that insurers have no absolute duty to settle in order to protect their insureds from punitive judgments. See Zieman, 724 F.2d at 1346 (“The proposition that an insurer must settle, at any figure demanded within the policy limits, an action in which punitive damages are sought is nothing short of absurd. The practical effect of such a rule would be to pass on to the insurer the burden of punitive damages in clear violation of California statutes and public policy.”).

Moreover, the holding we reach today does not, as asserted by the petitioner, allow insurance companies to act in bad faith with impunity. Insurance companies failing to settle in bad faith will still be subject to liability for damages arising from the breach, such as damages for excess liability and emotional distress. Ballow, 878 P.2d at 682. We merely decline to extend the tort of bad faith breach of an insurance contract to encompass liability for the punitive damages from the underlying lawsuit. Accordingly, we affirm the holding of the court of appeals.

LOHR, J., dissents, and KIRSHBAUM and MULLARKEY, JJ., join in the dissent.

1 . This assessment was based upon the doctrine of comparative negligence. Shelter theorized that Davis, as well as Gunn and others at the scene, shared liability with Lira for the accident. After trial, the jury assigned Lira 50% of the liability for Davis’s injuries.

2 . Lira does not contend that Shelter breached its duty to defend him against the compensatory or punitive damages, only that Shelter breached its duty to settle. Indeed, Shelter did eventually defend Lira against the entire claim, after Shelter notified Lira that he had the right to hire his own counsel with regard to the punitive damages and Lira declined to do so. Moreover, Lira alleges no deficiency in Shelter’s representation of him at trial.

3 . Lira testified at trial that Shelter’s bad faith refusal to settle caused him no other damages than the punitive judgment rendered against him.

4 . Shelter does not argue that, upon the record, no reasonable jury could have found that bad faith existed in this case. The issue is thus not before us. However, the record indicates that Shelter made a thorough investigation of the claim; made an evaluation of the value of the case based upon that investigation; and proceeded to trial only when its offer of settlement, based upon that evaluation, was rejected. Moreover, it is noteworthy that the final judgment for compensatory damages of $43,650 was in accord with Shelter's refusal to settle for the policy limits of $50,000.

5 . At trial, the jury was instructed that "[a]n insurer does not have an absolute duty to settle a claim, merely to avoid the risk of punitive damages.” This instruction is not challenged in the appeal before us.