California Supreme Court Holds that Insurers May Be Liable under Unfair Competition Laws for its Alleged Bad Faith Claims Handling Practices and False Advertising

August 2, 2013

The California Supreme Court today announced its decision in Zhang v. Superior Court, a decision which may have far-reaching implications for the insurance industry. Essentially, the Court held that insurers can be held liable under California's Unfair Competition Law (Bus. & Prof. Code §17200, et. seq.) for "insurance practices" that also violate California's unfair claims settlement practices laws, thus arguably limiting the protection that had been afforded by the same court 25 years ago in Moradi-Shalal v. Fireman's Fund Ins. Co. (1988) 46 Cal.3d 287.

By way of background, California Insurance Code §790.03(h) sets forth a list of insurer practices deemed to be unfair claims settlement practices. In Moradi-Shalal, the California Supreme Court held that this statute does not give rise to a private cause of action. In other words, neither a third party claimant nor an insured who believes an insurer has committed an act constituting an unfair claims settlement practice may sue the insurer directly under that statute. Instead, the Court held, they are limited to common law causes of action.

There are, of course, a variety of other statutes in California which regulate companies who do business in California, including insurance companies. One such statute is California's Unfair Competition Law ("UCL"), embodied in Business & Professions Code §17200, et. seq. In general, the UCL prohibits "unlawful, unfair or fraudulent" business acts or practices, and "unfair, deceptive, untrue or misleading advertising." The issue addressed in Zhang was whether or not the Moradi-Shalal bar to private actions under Insurance Code §790.03(h) extends to the UCL as well.

The facts in Zhang are relatively simple. Zhang was insured under a policy of insurance issued by California Capital Insurance Company. She sustained fire damage to her insured property and submitted a claim for policy benefits to California Capital. A coverage dispute ensued, prompting Zhang to sue California Capital for breach of contract and "bad faith". She alleged a litany of bad faith practices by California Capital, including unreasonable delays, withholding of policy benefits, refusal to consider cost estimates, and false statements made to her during the claims process. In addition, Zhang also included a cause of action for violation of the UCL, alleging that California Capital had engaged in "unfair, deceptive, untrue and/or misleading advertising" when it promised in its advertising that it would promptly provide policy benefits in the event of a loss, when in fact it had no intention of paying the true value of its insureds' covered claims.

California Capital demurred to the complaint, arguing that Moradi-Shalal barred the UCL cause of action. The trial court agreed and dismissed that count. The Court of Appeals reversed, holding that Zhang's false advertising claim was a viable UCL claim not reached by the Moradi-Shalal bar. The California Supreme Court granted review.

In affirming the decision of the Court of Appeals and ruling that Zhang is entitled to bring a separate action under the UCL, the Court held that Moradi-Shalal "does not preclude first party UCL actions based on grounds independent from section 790.03, even when the insurer's conduct also violates section 790.03." In other words, the holding in Moradi-Shalal and section 790.03 et. seq. (collectively known as the "UIPA") do not "immunize insurers from UCL liability for conduct that violates other laws in addition to the UIPA." Zhang's claims of false advertising and bad faith were held to provide grounds for a UCL claim independent from the UIPA. The Court rejected California Capital's argument that the crux of the UCL claim was improper claims handling and that the allegations of unfair competition and false advertising were nothing more than an attempt to plead around Moradi-Shalal. California Capital also argued that any bad faith claim might be turned into a false advertising suit because all insurers at least impliedly promise to pay what they owe under their policies. In rejecting these arguments, the Court held that "claims for UCL relief based on conduct proscribed by the UIPA" are viable "if it is independently actionable under the common law of insurance bad faith." Bad faith insurance practices may constitute unlawful, unfair and/or fraudulent business practices.

In short, "Moradi-Shalal imposed a formidable barrier, but not an insurmountable one. . . . . UCL claims may be based on claims handling practices, as long as they do not rest exclusively on UIPA violations." What does this mean from a practical standpoint? Quite simply, insurers who are sued by their insureds for breach of contract and bad faith arising out of claims handling disputes can now expect to see another cause of action included in the complaint, namely violation of the UCL. The same allegations constituting the alleged bad faith will also serve as the predicate for pleading an unlawful business practice under the UCL. Thus, California Capital's prediction that any bad faith claim might be turned into a false advertising suit because all insurers at least impliedly promise to pay what they owe under their policies will likely prove true. The only limitation in the Zhang decision is that an insured cannot base its UCL cause of action solely on alleged violations of section 790.03(h), a limitation which, quite frankly, is easy to surmount by simply including allegations of bad faith and false promises to pay claims.

Notwithstanding this sweeping decision, a few things should be noted. First, this was simply a decision on a demurrer, simply permitting the insured to include the UCL cause of action in her complaint. Whether or not she can actually prove the false advertising claims at trial remains to be seen. Secondly, the Court took great pains throughout its decision to point out the limited scope of remedies under the UCL – a plaintiff in a UCL action cannot recover monetary damages or punitive damages; the remedies are limited to injunctive relief and in proper cases, restitution. Thus, the inclusion of this cause of action does not substantially increase the insurer's exposure to monetary damages, yet nevertheless remains a dangerous weapon in the insured's arsenal.