Insurer Acts in Bad Faith in Failing to Defend and Indemnify Insured Bishop In Suit Arising From Priest’s Sexual Molestation of Parishioner

An insurer was found to have acted in bad faith in failing to defend and indemnify its insured, a catholic bishop, in a case arising from a priest’s sexual molestation of a young parishioner. ( Howard v. American National Fire Insurance Company (2010) 187 Cal.App.4th 498

Facts

The Roman Catholic Bishop of Stockton (Bishop) employed a priest, Father Oliver O’Grady (O’Grady), who sexually molested a young parishioner, James Howard (James). After O’Grady was criminally convicted, James filed a civil suit against O’Grady, alleging that O’Grady repeatedly molested James “beginning in approximately 1979” and continuing through 1988. James also named the Bishop as a defendant, alleging that the Bishop had negligently supervised and retained O’Grady.

The Bishop tendered the defense of the action to various insurers, including American National Fire Insurance Company (American), which had issued a $500,000 general liability policy to the Bishop for the period of November 1, 1978 through November 1, 1979. Although James alleged in his complaint that the molestations began “in approximately 1979” ( during American’s policy period), American relied on one part of James’ deposition testimony to conclude that the molestations actually began in 1984 ( after American’s policy period). American thus declined to participate in the Bishop’s defense, asserting that James had not suffered any bodily injury “during the [American] policy period.” Other insurers defended the Bishop under a reservation of rights.

Before trial, James offered to settle his claims against the Bishop for $1.85 million, which was more than American’s policy limit of $500,000 but less than all of the insurers’ combined limits of $4.3 million. American did not offer to contribute toward settlement, and the case proceeded to trial.

A jury found the Bishop liable and the trial court entered a judgment against the Bishop for $5.5 million ($2.5 million in compensatory damages and $3 million in punitive damages). The Bishop had difficulty providing collateral for an appeal bond and, fearing the loss of diocese assets, the Bishop negotiated a settlement with James. The settlement involved a partial payment of the judgment by the Bishop and some of his insurers. In addition, the Bishop agreed to prosecute litigation against American and pay any proceeds to James. The participating insurers also assigned their contribution rights to James.

Thereafter, James filed a judgment creditor action against American in an attempt to collect on his judgment. In addition, the Bishop filed a breach of contract / bad faith action against American for failing to defend and indemnify him against James’ lawsuit. The actions were consolidated in the trial court. The trial court found that American had a duty to defend and indemnify the Bishop against James’ lawsuit, and that American had acted in bad faith in failing to defend and indemnify the Bishop. The court awarded James (as judgment creditor) the policy limit of $500,000, and the Bishop (as insured) additional bad faith damages of approximately $2.5 million. American appealed.

Holding

In a wide-ranging opinion, the Court of Appeal affirmed the judgment in all material respects.

With respect to the duty to defend, the appellate court agreed that American had a duty to defend the Bishop in the underlying action filed by James. In his complaint in the underlying action, James had alleged that the molestations began “in approximately 1979,” and in his deposition in the underlying action, James had testified that he had “vague memories … that [molestations] started during the late ‘70s.” That was sufficient to raise the possibility that James had suffered bodily injury during the American policy period (i.e., November 1978 to November 1979). American’s sole ground for refusing to defend the Bishop in the underlying action was an isolated part of James’ deposition in which he testified that the “first detailed incident” he could recall occurred in 1984 (after American’s policy period). However, according to the appellate court, that was merely the first “detailed” incident James could recall, and did not preclude the possibility that James had been molested during American’s policy period. As such, American had a duty to defend the Bishop against James’ lawsuit.

With respect to the duty to indemnify, the appellate court likewise agreed that American had a duty to indemnify the Bishop for the underlying judgment entered in favor of James. It was true that at the trial in the underlying action James did not present any evidence that he had been molested during the American policy period. However, that did not prevent James from introducing evidence in the coverage action that he had in fact been molested during the policy period. According to the appellate court, the evidence in the underlying action simply focused on whether the Bishop had negligently allowed O’Grady to molest James, and did not focus on when the molestations had occurred. In the coverage action, James presented both testimonial and documentary evidence that he had been molested during American’s policy period, and that was sufficient to support the trial court’s conclusion that American was obligated to indemnify the Bishop for the underlying judgment entered in favor of James.

The appellate court also concluded that American had breached its implied duty to settle the underlying action on behalf of the Bishop. The court rejected American’s assertion that because James had never made a settlement demand within American’s $500,000 policy limit, American alone could not have settled the underlying action. The court acknowledged held that in actions involving a single insurer, a settlement offer within policy limits generally is necessary to support a finding of bad faith.  However, the court concluded that where multiple insurers are on the risk, an insurer can be held liable for failure to settle if the settlement offer is less than the total limits of all policies insuring the risk.  Here, although American’s policy limit was $500,000, there was a settlement demand for $1.85 million that was well within the various primary insurers’ aggregate policy limits totaling $4.3 million. The appellate court reasoned that if American and the other insurers had responded to this offer, the underlying case could have been settled.

In addition, the appellate court rejected American’s argument that its refusal to settle was prompted by a “genuine dispute” concerning coverage and that this precluded a finding of bad faith. According to the court, an insurer in a third-party case may not rely on a genuine dispute over coverage to refuse a reasonable settlement demand. Moreover, even if the genuine dispute doctrine did apply, American’s “no-coverage” position was founded on an unfair and selective reading of James’ deposition testimony that distorted James’ account of specific episodes of molestation into an admission that no molestation occurred during the policy period. Thus, even if the genuine dispute doctrine could apply in a third party case involving a coverage dispute, the doctrine would not apply here, since American’s coverage position was not maintained reasonably and in good faith.

The appellate court held that American was liable for various items of damage, including but not limited to (1) the $500,000 policy limit owed to James as judgment creditor, (2) approximately $1.5 million the Bishop had contributed to the settlement with James, (3) attorney’s fees (“ Brandt fees”) of approximately $662,000 and (4) prejudgment interest of approximately $1.4 million.

Comment

At least in hindsight, it seems clear that American did have a duty to defend the Bishop in the underlying lawsuit filed by James. At a minimum, there was a factual dispute about when James was molested, and that factual dispute by itself was sufficient to create a potential for coverage and, hence, a duty to defend. Having found a duty to defend, the trial court the appellate court were both willing to impose significant damages on American, despite the fact that (1) other insurers had defended the Bishop, (2) there was never any settlement demand within American’s policy limits and (3) the compensatory damages awarded against the Bishop did not exceed the total of all insurers’ policy limits.