Why Do Insurance Companies Act in Bad Faith?

Insurance is a cornerstone of modern life, offering protection and peace of mind in times of uncertainty.

Whether it’s health, auto, or property insurance, policyholders expect their insurance companies to act in good faith, promptly processing claims and providing coverage as promised. However, instances of insurance companies acting in bad faith are not uncommon.

In this blog post, we delve into the reasons why insurance companies act in bad faith, undermining the trust and confidence of their customers.

Understanding Bad Faith

Before exploring the motivations behind the actions of insurance companies, it’s essential to understand what constitutes bad faith.

In the realm of insurance, “bad faith” refers to any deceptive, dishonest, or unfair practices employed by insurers when handling claims or fulfilling their contractual obligations to policyholders. Acting in bad faith can take various forms, undermining the trust and confidence of policyholders.

Some common examples include:

• Unjustified Claim Denials: Insurers may wrongfully deny valid claims without a legitimate reason, either by misinterpreting policy provisions, misrepresenting facts, or relying on arbitrary criteria to reject claims that should be covered. A recent Kaiser Family Foundation (KFF) “Survey of Consumer Experiences with Health Insurance” found that nearly 20% of insured adults report that they’ve experienced denied claims in the past year.
• Delaying Claim Processing: Insurers may unreasonably delay the processing of claims, prolonging the settlement process without valid justification. Delays can cause financial hardship and emotional distress for policyholders who are awaiting compensation for covered losses.
• Offering Unreasonably Low Settlements: When settling claims, insurers may offer unreasonably low settlement amounts that do not adequately compensate policyholders for their losses. This tactic aims to minimize the insurer’s financial liability at the expense of fair compensation for the policyholder.
• Misrepresenting Policy Provisions: Insurance companies may provide misleading or incomplete information about policy terms, coverage limits, or exclusions, leading policyholders to believe they are covered for certain events when they are not.
• Failure to Investigate Claims Thoroughly: Insurers have a duty to conduct prompt and thorough investigations of claims to determine their validity. However, some insurers may fail to investigate claims properly, leading to unjustified denials or delays in processing.
• Retaliatory Actions Against Policyholders: In some cases, insurers may retaliate against policyholders who file claims by increasing premiums, canceling policies, or engaging in other punitive actions without valid cause.
• Breach of Fiduciary Duty: Insurance companies owe a fiduciary duty to their policyholders, meaning they are legally obligated to act in the policyholders’ best interests. When insurers prioritize their own interests over those of policyholders, they breach this duty and act in bad faith.
• Using Ambiguous Policy Language to Deny Coverage: Insurance policies often contain complex language and ambiguous terms that can be interpreted in different ways. Some insurers may exploit these ambiguities to deny coverage or limit their financial obligations unfairly.
• Failure to Communicate Effectively: Insurers must communicate openly and honestly with policyholders regarding their claims and coverage. Failure to provide clear and accurate information or respond promptly to inquiries can constitute bad faith.
• Unfair Claims Settlement Practices: Insurance regulators typically define specific unfair claims settlement practices, such as misrepresenting policy provisions, refusing to pay claims without conducting a reasonable investigation, or failing to explain claim denials adequately. Engaging in these practices can result in legal consequences for insurers and harm policyholders.

NRS 686A.310 - Unfair practices in settling claims; liability of insurer for damages states that, among other restrictions, “Failing to effectuate prompt, fair and equitable settlements of claims in which liability of the insurer has become reasonably clear” is considered to be an unfair practice in Nevada.

Reasons Insurance Companies Act in Bad Faith

Overall, acting in bad faith undermines the fundamental principles of fairness, honesty, and trust that should govern the relationship between insurers and policyholders.

When insurers prioritize their own financial interests over the legitimate needs of policyholders, they erode confidence in the insurance industry and may face legal repercussions for their actions.

Some of the reasons that an insurance company may act in bad faith can include:

Profit Over Protection

One of the primary reasons insurance companies may act in bad faith is the profit motive. Like any business, insurance companies aim to maximize their profits and minimize their losses.

The US health insurance industry is big business, reporting a net income of just under $17 billion for the first six months of 2022 and a 13% increase in underwriting gain from the prior year, all according to the National Association of Insurance Commissioners.

In some cases, a profit-driven mindset can lead to unethical behavior, such as denying legitimate claims or delaying payouts to preserve the company’s bottom line. When faced with a choice between fulfilling their obligations to policyholders and increasing their profits, some insurers may prioritize the latter, resulting in actions that constitute bad faith.

Lack of Regulatory Oversight

Another contributing factor to insurance companies acting in bad faith is the lack of stringent regulatory oversight. While insurance is heavily regulated in most jurisdictions, enforcement mechanisms may vary, and loopholes in existing regulations can be exploited by unscrupulous insurers.

Without robust oversight and consequences for bad faith practices, some insurance companies may feel emboldened to engage in dishonest behavior, knowing that the chances of facing repercussions are slim.

Pressure To Meet Financial Targets

Insurance companies often set financial targets and performance metrics for their claims departments and adjusters.

These targets may include reducing claims expenses, improving claims processing efficiency, and increasing profitability. While setting goals is a common business practice, the pressure to meet these targets can sometimes lead to unethical behavior.

In an effort to achieve financial targets, claims adjusters may resort to unjustified claim denials or lowball settlement offers, disregarding the needs of policyholders and acting in bad faith.

Complexity of Insurance Policies

Insurance policies are notoriously complex documents, filled with legal jargon and intricate terms and conditions. For the average policyholder, deciphering the intricacies of their insurance policy can be daunting, if not impossible.

This complexity can work to the advantage of insurance companies, allowing them to exploit ambiguities in the policy language to deny or limit coverage.

By hiding behind convoluted policy provisions, insurers may engage in bad faith practices, knowing that many policyholders lack the knowledge or resources to challenge their decisions effectively.

Incentives for Claims Adjusters

Claims adjusters play a crucial role in the claims process, evaluating the validity of claims and determining the appropriate amount of compensation.

However, the incentives and compensation structures for claims adjusters may inadvertently incentivize bad-faith behavior. In some cases, adjusters may receive bonuses or performance-based incentives tied to metrics such as claim denials, claims closure rates, or cost savings.

While these incentives are intended to improve efficiency and productivity, they can also incentivize adjusters to prioritize cost-saving measures over fair and equitable claims handling, leading to actions that constitute bad faith.

While insurance companies are expected to act in good faith and honor their commitments to policyholders, instances of bad faith practices continue to occur.

From profit-driven motives to lax regulatory oversight and complex policy language, various factors can contribute to insurers engaging in dishonest behavior. Addressing these root causes requires a multifaceted approach, including stronger regulatory enforcement, improved transparency and accountability, and a shift toward a corporate culture that prioritizes integrity and customer satisfaction.

By holding insurance companies accountable for their actions and advocating for meaningful reform, we can work towards a more equitable and trustworthy insurance industry that serves the needs of policyholders fairly and responsibly.

If you suspect that you’ve been treated in bad faith, you’ll want to speak with an experienced insurance lawyer. At the Law Office of Matthew L. Sharp, we’re ready to answer your questions and help you seek the justice you deserve.