Hot Topics for Trial Lawyers
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The Insurability of Punitive Damages
Posted 9/9/08 Clyde J. "Jay" Jackson, III, Abraham, Watkins, Nichols, Sorrels & Friend
Under Texas law, are punitive damages covered by insurance? The Supreme Court answered a certified question from the Fifth Circuit on that point on February 15, 2008 in Fairfield Insurance Company v. Stephens Martin Paving, LP, et al., ___ S.W.3d ___ (Tex. 2008).
This opinion addresses whether public policy prevents insurance coverage for punitive damages. This case was a worker's compensation death case, seeking punitive damages only (since actual damages were prohibited by worker's compensation). The Supreme Court ruled that public policy does not prohibit coverage for "exemplary damages for gross negligence in the workers' compensation context." Beyond that, the majority declined "to make a broad proclamation of public policy here but instead offer some considerations applicable to the analysis in other cases."
First, the Supreme Court determined that the policy language would cover punitive damages, and "presume the policy language covers the exemplary damages sought."
Next, the majority noted situations in which coverage for punitive damages is prohibited by statute, e.g. health care providers and guaranty funds and excess liability pools. "The Legislature is aware of and sensitive to ... exemplary damages ... [and has decided] to prohibit insurance coverage of those damages in selected circumstances."
In particular, in workers' compensation, the statute "does not prohibit recovery of exemplary damages. ..." Additionally, the Department of Insurance has approved a policy form with that coverage. Thus, the "Legislature's expressed intent is that Texas public policy does not prohibit insurance coverage for claims of gross negligence in this context."
The above holding "ends our inquiry in the present case." Nevertheless, the opinion goes further. For instance, "the majority of states that have considered whether public policy prohibits insurance coverage of exemplary damages ... have decided that it does not." Texas generally favors "freedom of contract." "The Legislature has passed many laws declaring certain agreements illegal and, therefore, against public policy." Also, some contracts required specific conditions (such as waiver of the DTPA). If the Legislature has not spoken, "a court should consider the purpose of exemplary damages." For 150 years, it was "to punish the wrongdoer and set 'a public example to prevent the repetition of the act.'" The latter phrase has since been deleted. In addition, punitive damages are not compensatory: "[e]xemplary damages are neither economic nor noneconomic damages."
Pursuant to Chapter 41 of the Civil Practice and Remedies Code, punishment must be directed to the wrongdoer, and vicarious liability is limited. Specifically, under Section 41.011(a), three elements are objective, and three are subjective. The subject elements are relevant if the defendant must pay the damages. Therefore, it is "against public policy" to obtain punitive damages "under uninsured or underinsured motorist policies. ..." However, "disallowing coverage for a large corporation means that exemplary damages" paid by it will be passed on to consumers. "In the uninsured and underinsured motorist context, it may be appropriate for policyholders to share in the burden of injuries caused by underinsured motorists, but not their punishment." "The considerations may weigh differently when the insured is a corporation or business that must pay exemplary damages for the conduct of one or more of its employees. Where other employees and management are not involved in or aware of an employee's wrongful act, the purpose of exemplary damages may be achieved by permitting coverage so as not to penalize many for the wrongful act of one. When a party seeks damages in these circumstances, courts should consider valid arguments that businesses be permitted to insure against them."
As Fairfield indicates, the Supreme Court may rule that punitive damages are not insurable, at least for individuals, despite the Supreme Court's recent resurrection of and reliance upon the hoary concept of "freedom of contract." That is, except for corporations: it appears that investors should not lose money because they entrust their businesses to managers who are grossly negligent or who ratify grossly negligent acts or omissions.