Insured’s Counterclaim for Bad Faith Allowed to Proceed Despite Lack of Formal Coverage Denial

The Eastern District of Virginia (Richmond Division) recently permitted  a counterclaim for bad faith to proceed in an insurer’s declaratory judgment action, despite the fact that the insurer had not formally denied coverage.  Great American Ins. Co. v. GRM Management LLC, No. 3:14cv295 (Nov. 24, 2014), arises out of a first-party insurance dispute between Great American Insurance Company and a hotel it insured.  After a former employee allegedly stole an HVAC unit and other items from the hotel roof, the hotel submitted a claim to Great American.

Following its investigation, Great American filed an action for declaratory judgment, seeking a declaration that it was not obligated to pay the claim based on certain policy exclusions and limitations.  Great American did not, however, formally deny the claim.  The hotel  filed a counterclaim alleging breach of contract, anticipatory breach of contract, breach of the covenant of good faith and fair dealing, as well as its own claim for declaratory judgment.  The hotel also moved to dismiss the complaint, while Great American moved for judgment on the pleadings and dismissal of the counterclaim.

The court held the hotel had pleaded sufficient facts to survive the motion to dismiss the counterclaim for bad faith, even though  Great American had not actually denied coverage.  In reaching this decision, the court relied  on  Seneca Ins. Co. v. Shipping Boxes I, LL, ___ F. Supp. 2d ___, No. 2:13cv651, 2014 WL 2567158 (E.D. Va. June 6, 2014 ), and held that the hotel’s allegations were sufficient to support a claim of bad faith. The key allegations were that Great American demanded documents “in an effort overwhelm [the hotel]” rather than investigate the claim, took several EUOs without explaining the insured’s right to have counsel, intended to delay and frustrate the hotel, and purposely delayed payment.

GRM Management LLC and Seneca confirm that filing a declaratory judgment action does not immunize insurers from bad faith claims.  Declaratory judgment actions frequently offer many benefits compared to a denial of coverage.  These actions, however, will not, in and of themselves, shield an insurer from a bad faith claim.  Even if an insurer intends to resolve a coverage dispute with a declaratory judgment action, it must remain mindful of its conduct and be prepared to defend itself against a claim of bad faith.