Cary v. United of Omaha Life Insurance Co.

Justice HOBBS

delivered the Opinion of the Court.

We granted certiorari in this case¹ to review the court of appeals' decision in Cary v. United of Omaha Life Ins. Co., 43 P.3d 655 (Colo.App.2001).² The court of appeals upheld the trial court's ruling on summary judgment. The court of appeals held that third-party insurance administrators hired by a city to run its health insurance program did not owe a duty of good faith and fair dealing to a claimant in the investigation and processing of an insurance claim, because there was no contractual relationship between the administrators and the insurance claimant. Id. at 658.

We disagree with the court of appeals' strict application of a privity of contract analysis to this case. Here, the insurance administrators had primary control over benefit determinations, assumed some of the insurance risk of loss, undertook many of the obligations and risks of an insurer, and had the power, motive, and opportunity to act unserupulously in the investigation and servicing of the insurance claims. Under such cireumstances, we hold that a special relationship existed between the administrators and the insured sufficient to establish in the administrator a duty to act in good faith. In order for Cary to recover for a breach of that duty in tort on remand of this case, he must establish the facts and prove his case that the administrators' conduct was unreasonable and the administrators knew either that their conduct was unreasonable or acted in reckless disregard of whether their conduct was unreasonable.

Accordingly, we reverse the judgment of the court of appeals and reinstate claimant's tort cause of action against the administrators for breach of their duty to act in good faith when investigating and servicing the insurance claims.

We turn first to the evidence the parties put forth, as of the time the trial court entered summary judgment against Cary. For the purpose of reviewing the propriety of the court's summary judgment order, we must resolve all doubts in favor of Cary, the non-moving party. See Smith v. Boyett, 908 P.2d 508, 514 (Colo.1995). In addition, Cary is entitled to all favorable inferences that may be drawn from the facts. Id.

I.

The City of Arvada offered its employees, like Thomas Cary, access to its self-funded health insurance program overseen by the Arvada Medical and Disability Program Trust Fund (Trust), but administered by United of Omaha and Mutual of Omaha of Colorado³ (Administrators).

Due to its limited resources, the Trust did not administer the Plan itself. A five-member volunteer board of trustees staffed the trust. It had no support staff, and none of its members had any experience or expertise in handling insurance claims or making coverage decisions. The board therefore did not investigate claims or involve itself in claims handling or processing (other than hearing final appeals). It met only quarterly to consider claims appeals, review contracts with third-party administrators such as United and Omaha, approve contracts for the provision of certain mental health services, and consider funding issues.

By contrast, United, whom the Trust hired to administer the Plan, exercised near-complete control over the administration of the Plan. United's contract with the Trust obligated it to: provide claim handling facilities; furnish claim handling personnel; establish claim handling procedures, including claim files and systems; verify claimant eligibility for the Plan; receive all claim forms and related materials from Plan members; process submitted claims; send "explanation of benefits" letters to claimants when it acts on a claim; prepare claim payments; provide actuarial services to the Trust to project estimated Plan benefit costs; provide underwriting services whereby it analyzes Plan benefits and makes recommendations to the Trust about modifying the benefits; print and pay the cost of all Plan claim forms and benefit checks; develop and print Plan benefit booklets and identification cards; evaluate the health histories of "late" applicants and determine whether they should have Plan coverage; provide a toll-free number for Plan claimants; and periodically audit the claims processing system to determine the quality of claim administration. United even established an appellate procedure for denials of coverage (though the Trust was the entity of last resort for appeals).⁴

At the same time United agreed to administer the Plan, it entered into a reinsurance agreement with the Trust. Pursuant to this agreement, United agreed to reimburse the Trust for payments in excess of $75,000, but less than $1 million, for any one Arvada employee. It also agreed to reimburse the Trust for aggregate claims in excess of a certain dollar amount.

The claims dispute in this case began when Thomas Cary and Beth Hanna's (Cary's) fifteen-year-old daughter, a beneficiary of the Plan, shot herself in an unsuccessful suicide attempt. Her injuries required extensive treatment, hospitalization, and multiple surgeries. Cary applied for benefits from the Plan but the Administrators denied his claim, citing the Plan's exclusion of self-inflicted injuries as justification.

Cary responded to the denial by suing the City, the Trust, and the Administrators, seeking a declaration that the Plan covered his daughter's injuries, as well as damages for breach of his insurance contract and bad faith failure to provide insurance benefits. The trial court granted partial summary judgment for Cary, finding that the self-inflicted injury exelusion of the contract is ambiguous and resolving the ambiguity in favor of coverage.⁵ However, the trial court on summary judgment also dismissed Cary's claims against the Administrators for bad faith failure to provide insurance benefits, because Cary was not in contractual privity with the Administrators and no statute or regulation imposed an obligation to act in good faith on the Administrators in favor of Cary or his daughter.

Following the trial court's rulings, Cary settled with the City and the Trust for $800,000, and neither of those entities is involved with this appeal. Cary appealed the dismissal of his bad faith claim. The court of appeals affirmed the district court's judgment, holding that City's independent claims administrators owe no duty of good faith and fair dealing to parties, like Cary, who are not in contractual privity with the claims administrators.

IL.

We disagree with the court of appeals' strict application of a privity of contract analysis to this case. Here, the insurance administrators had primary control over benefit determinations, assumed some of the insurance risk of loss, undertook many of the obligations and risks of an insurer, and had the power, motive, and opportunity to act unserupulously in the investigation and servicing of the insurance claims. Under such cireumstances, we hold that a special relationship existed between the Administrators and the insured sufficient to establish in the Administrators a duty to act in good faith. In order for Cary to recover for a breach of that duty in tort on remand of this case, he must establish the facts and prove that the Administrators' conduct was unreasonable and the Administrators either knew their conduct was unreasonable or acted in reckless disregard of whether their conduct was unreasonable.

A.

Standard of Review

The trial court and court of appeals held that a third-party insurance claims administrator does not have a duty of good faith and fair dealing in the investigation and processing of the insured's claim, unless there is a contractual relationship between the insured and the administrator.

The existence and seope of a tort duty is a matter of law. E.g. HealthONE wv. Rodriguez, 50 P.3d 879, 888 (Colo.2002). Whether defendant owes a duty to plaintiff under tort law involves a number of factors.⁶ No single factor controls; "the question of whether a duty should be imposed in a particular case is essentially one of fairness under contemporary standards-whether reasonable people would recognize a duty and agree that it exists." Id. (quoting Greenberg v. Perkins, 845 P.2d 530, 536 (Colo.1993)). The determination that a duty does or does not exist is "an expression of the sum total of those considerations of policy which lead the law to say that the plaintiff is [or is not] entitled to protection." W. Page Keeton et al., Prosser and Keeton on the Law of Torts § 53, at 359 (5th ed.1984). We review, de novo, lower court determinations that a duty does or does not exist. E.g. Ryder v. Mitchell, 54 P.3d 885, 889 (Colo.2002)(reviewing, de novo, the question of whether the defendant owes a duty to the plaintiff).

The trial court granted summary judgment against Cary. But, summary judgment is appropriate only if there is no genuine issue as to any material fact and the moving party is entitled to judgment as a matter of law. HealthONE, 50 P.3d at 887. The non-moving party is entitled to the benefit of all favorable inferences that may be reasonably drawn from the undisputed facts, and all doubts must be resolved against the moving party. Id. A court must consider "the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any," in determining whether to grant a motion for summary judgment. Id. (quoting C.R.C.P. 56(c)).

Summary judgment is a drastic remedy, to be granted only when there is a clear showing that the applicable standards have been met. Id. at 887-88. We review a grant of summary judgment de novo. Id. at 888. Here, Cary was entitled to proceed on his bad faith tort claim.

We turn our discussion first to the court of appeals' strict application of a privity of contract analysis to this case. We then proceed to the special relationship that existed between the third-party Administrators and Cary.

B.

Exceptions to Privity Requirement

Every contract in Colorado contains an implied duty of good faith and fair dealing. Transamerica Premier Ins. Co. v. Brighton School Dist. 27J, 940 P.2d 348, 351 (Colo.1997); Amoco Oil Co. v. Ervin, 908 P.2d 493, 498 (Colo.1995) (citing § 4-1-2083, 2 C.R.S. (1992)). In typical commercial contracts, a breach of the duty merely results in damages for breach of contract, not independent tort liability. Wheeler v. Reese, 835 P.2d 572, 578 (Colo.App.1992).

But, insurance contracts are not ordinary commercial contracts. Every insurer owes its insured a non-delegable duty of good faith and fair dealing. Because of the "special nature of the insurance contract and the relationship which exists between the insurer and the insured," an insurer's breach of this duty gives rise to a separate cause of action sounding in tort. Farmers Group, Inc. v. Trimble, 691 P.2d 1138, 1141 (Colo.1984). The duty is non-delegable so that insurers cannot escape their duty of good faith and fair dealing by delegating tasks to third parties. Courts have a "heightened responsibility" to scrutinize insurance contracts and invalidate provisions that violate public policy or principles of fairness. Huizar v. Allstate Ins. Co., 952 P.2d 342, 344 (Colo.1998).

In the typical insurance case, only the insurer owes the duty of good faith to its insured; agents of the insurance company-even agents involved in claims processing-do not owe a duty, since they do not have the requisite special relationship with the insured. See, e.g., Martinez v. Lewis, 969 P.2d 213, 214 (Colo.1998)(declining to impose a duty of good faith on physicians performing independent medical examinations as part of the claims adjustment process); Gorab v. Equity General Agents, 661 P.2d 1196, 1198 (Colo.App.1983) (rejecting an attempt to hold an insurance agent liable for breach of the duty of good faith by an insurance company).

In the typical case, the insured is adequately protected by the non-delegable duty the law imposes on the insurer. However, the existence of this non-delegable duty does not mean that a third-party claims administrator never has an independent duty to investigate and process the insured's claim in good faith. When the actions of a defendant are similar enough to those typically performed by an insurance company in claim administration and disposition, we have found the existence of a special relationship sufficient for imposition of a duty of good faith and tort liability for its breach-even when there is no contractual privity between the defendant and the plaintiff.⁷

We first recognized an exception to the privity requirement in Travelers Ins. Co. v. Savio, 706 P.2d 1258 (Colo.1985), where we held that the provider of workers' compensation insurance owes a duty of good faith and fair dealing to an insured employer's employee. Id. at 1272. Although that case relies in part on the Workers' Compensation Act, section 840-101, 3 C.R.S. (2002) et seq., which makes every worker a third-party beneficiary of his employer's workers' compensation insurance, our decision placed heavy reliance on two other aspects of the case.

First, we relied on the "special nature" of the relationship that exists between an insured and his insurer, holding that this relationship also exists between the insurer and a beneficiary of quasi-insurance benefits:

The basis for liability in tort for the breach of an insurer's implied duty of good faith and fair dealing is grounded upon the special nature of the insurance contract and the relationship which exists between the insurer and the insured. The motivation of the insured when entering into an insurance contract differs from that of parties entering into an ordinary commercial contract. By obtaining insurance, an insured seeks to obtain some measure of financial security and protection against calamity, rather than to secure commercial advantage.

Id. at 1272. Since this statement is true of workers' compensation insurance, we held that the provider of workers' compensation insurance has a duty to deal fairly and in good faith with an injured employee. Id. at 12783.

Second, we relied on the fact that a workers' compensation provider, like an insurer in contractual privity with an insured, has a financial incentive to use its leverage to limit claims:

[OJnee a calamity has befallen an employee covered by workers compensation or an insured covered under a private insurance contract, the injured party is particularly vulnerable because of the injury or loss.... Insurers, backed by sufficient financial resources, are encouraged to delay payment of claims to their insureds with an eye toward settling for a lesser amount than due under the policy. The inequity of this situation becomes particularly apparent in the area of disability insurance in which the insured, often pursued by creditors and devoid of bargaining power, may easily be persuaded to settle for an amount substantially lower than that provided for in the insurance contract.

Id. at 1278 (internal quotations and citations omitted).

We extended Savio in Scott Wetzel Servs. Inc. v. Johnson, 821 P.2d 804 (Colo.1991), where we held that an independent claims adjusting company acting on behalf of a self-insured employer owes a duty of good faith and fair dealing to injured employees when it investigates and processes their claims. Id. at 808. Like Savio, Wetzel is based in part on the Workers' Compensation Act. However, Wetzel makes clear that our departure from the privity requirement is also premised on the fact that the adjuster "effectively delivered the workers' compensation benefits and took many of the steps necessary to perform the employer's duty of good faith and fair dealing owed to the claimants." Id. at 812.

It is the statutory and regulatory structure and the adjuster's participation in the investigation and processing of claims that give rise to the duty and not the contract between the employer and claims adjusting service, or the law of principal and agent.

Id. at 812 n. 10 (emphasis added).

We also held that the privity requirement was inapplicable in the domain of surety contracts in Transamerica, 940 P.2d at 348. In Transamerica, we recognized a cause of action in tort for a commercial surety's breach of its duty to act in good faith. Two factors led us to this conclusion. First, we noted that though there are differences in form between an insurance contract and a suretyship agreement, the substance of the two types of obligations are the same. Id. at 353. As in an insurance contract, the purpose of a suretyship agreement is not to obtain a commercial advantage, but to shield the beneficiary of the agreement from potentially catastrophic logses in the event that the principal defaults. Id. at 352. As a result, unless the surety handles claims in good faith, the "core purpose" of the suretyship agreement is defeated. Id. at 358.

Second, we noted that when the time comes to enforce a suretyship agreement, there is a disparity in bargaining power between the surety and the beneficiary. Absent the prospect of damages for bad faith breach, the surety has no incentive to pay in good faith:

Contract damages "offer no motivation whatsoever for the insurer not to breach. If the only damages an insurer will have to pay upon a judgment of breach are the amounts that it would have owed under the policy plus interest, it has every interest in retaining the money, earning the higher rates of interest on the outside market, and hoping eventually to force the insured into a settlement for less than the policy amount."

Id. (quoting Dodge v. Fidelity & Deposit Co., 161 Ariz, 344, 778 P.2d 1240, 1242-43 (1989))(emphasis in Dodge).

C.

Special Relationship in This Case

A sufficient special relationship existed between the Administrators and Cary to impose a duty of good faith and fair dealing on the Administrators, in light of their central role in claims administration and their financial liability for claims.

Confronted with a situation that is nearly identical to that before us, the Tenth Cireuit imposed a duty of good faith and fair dealing on a third-party insurance administrator. Wolf v. Prudential Ins. Co., 50 F.3d 793, 798 (10th Cir.1995). The defendant administrator in Wolf is much like the Administrators in the instant case: the administrator had primary control over benefit determinations (including some intermediate benefit appeals) and provided excess lability insurance to the sponsor of the self-funded insurance plan. Id. at 797-98.

Given these facts, the Tenth Circuit declined to apply the privity requirement. Rather, it focused "on the factual question of whether the administrator acts like an insurer such that there is a 'special relationship' between the administrator and the insured that could give rise to a duty of good faith." Id. at 797. In light of the facts that the defendant administrator performed nearly all of the functions of an insurance company and bore the risk of losses by the insureds, the court held that the administrator had a duty of good faith and fair dealing: "[OIn the facts presented by plaintiffs, Prudential had the power, motive, and opportunity to act unscrupulously. We believe that the Oklahoma Supreme Court would impose & duty on an entity in Prudential's position for the same reasons it imposed the duty on 'true' insurers." Id. at 798.

The Tenth Circuit's Wolf holding accords with our precedent. In the case before us, the Administrators fulfilled virtually all of the functions normally performed by an insurance company in processing claims and determining whether to deliver insurance benefits. The Trust's only involvement in the operation of the Plan was funding the claims account and hearing final appeals when the Administrators denied benefits. As in other cases where we found an exception to the privity requirement, the Administrators had a significant financial incentive to delay payment of benefits or coerce Cary into a diminished settlement. Cary settled his insurance claim with the City and the Trust for $800,000 after the trial court determined that Cary's medical expenses are covered by the policy. United's reinsurance contract with the City obligates it to reimburse the City for payments in excess of $75,000, but less than $1 million, for any one Arvada employee. In such cireumstances, United had a powerful financial incentive to deny or limit claims.⁸

Colorado's statutory policy, stated in seetion 10-1-101, 8 C.R.S. (2002), is that all persons providing insurance services to the public must "be at all times actuated by good faith in everything pertaining thereto." Ballow v. PHICO Ins. Co., 875 P.2d 1354, 1363 (Colo.1993)(quoting § 10-1-101, 4A C.R.S. (1987)). The application of a strict privity of contract requirement to the case before us would allow agents like the Administrators to act with impunity in the service of their own self-interest, in disregard of this underlying statutory policy and common law principles upon which the special relationship exception to the privity requirement exists.

When a third-party administrator performs many of the tasks of an insurance company and bears some of the financial risk of loss for the claim, the administrator has a duty of good faith and fair dealing to the insured in the investigation and servicing of the insurance claim.

D.

Standard for Assessing Bad Faith Tort Claim

In "first party" bad faith insurance cases-cases in which an insured sues his insurance company directly-the plaintiff must prove that the conduct of the insurer was unreasonable, and that the insurer either knew that its conduct was unreasonable or acted in reckless disregard of whether it was unreasonable. E.g. Transamerica, 940 P.2d at 353-54; Wetzel, 821 P.2d at 810; Savio, 706 P.2d at 1276. The same standard applies to this bad faith case. On remand, Cary must establish the facts and prove that the Administrators' conduct was unreasonable and the Administrators either knew that their conduct was unreasonable or acted in reckless disregard of whether their conduct was unreasonable.

IIL

Accordingly, we reverse the judgment of the court of appeals and reinstate Cary's tort cause of action against the Administrators for breach of their duty to act in good faith when investigating and servicing the insurance claims. We. remand this -case to the court of appeals for consideration of any other issues remaining on appeal, and further proceedings consistent with this opinion.

Justice COATS dissents and Justice KOURLIS joins in the dissent.

1 . We granted certiorari on the following issues:

1) Whether third-party administrators of health insurance plans owe the insureds any duty to process claims and determine coverage in a reasonable or good faith manner, and hence, whether they can be liable for either bad faith or negligence in the handling of those claims.

2) Whether the court of appeals' decision to affirm the district court's award of costs must be reversed because the respondents are not the prevailing parties in this case.

In light of our holding, we vacate the award of costs to the Administrators.

2 . We consolidated this case with an appeal from an unpublished court of appeals opinion in case number 00CA2127. The two appeals involve the same parties and the same underlying case.

3 . Mutual of Omaha of Colorado does business as Antero Health Plans. It is a wholly owned subsidiary of respondent United of Omaha Life Insurance Company.

4 . Apparently United assigned some of these functions, including the appellate function, to its wholly owned subsidiary, respondent Mutual of Omaha of Colorado.

5 . Although the Plan expressly excluded coverage for self-inflicted injuries, the district court found the scope of coverage under the Plan to be ambiguous, largely because the Plan defined the term "injury" in terms of accidental injuries, independent of illness and because the 1994 summary of the Plan sent to policyholders did not include self-inflicted injuries among the enumerated exclusions. The district court's order granting Cary's motion for summary judgment with regard to coverage of his daughter's medical treatment is not before us in this appeal.

6 . For instance, courts consider (1) the risk involved, (2) the foreseeability and likelihood of injury as weighed against the social utility of the actor's conduct, (3) the magnitude of the burden of guarding against injury or harm, and (4) the consequences of placing the burden on the actor. E.g. HealthONE, 50 P.3d at 888.

7 . We have applied a similar approach outside the domain of insurance contracts. For example, in Greenberg, 845 P.2d at 537, we observed that a duty of care "may arise independent of a contractual relationship even though such relationships often provide the basis for tort actions." In that case, we imposed a duty of care on a physician rendering an independent medical examination, although there was no contractual or physician/patient relationship between the examinee and the defendant doctor. Likewise, in Cosmopolitan Homes v. Weller, 663 P.2d 1041 (Colo.1983), we determined that a homebuilder owed a duty of care to a subsequent purchaser even though there was no privity of contract between the builder and the purchaser.

8 . This case stands in contrast to cases like Martinez, 969 P.2d at 213, which hold that individuals who are merely involved in claims processing do not have a special relationship with the insured sufficient to create a duty of good faith and fair dealing. The physician in Martinez did not perform many of the functions of an insurance company, and had no direct financial incentive to deny the insured's claim. Our holding does not affect these cases.