Burnside v. State Farm Fire and Casualty Co.

Griffin, J.

Plaintiffs appeal as of right from an order of the circuit court denying their motion for an award of costs and attorney fees against defendant in this breach of contract action. Plaintiffs’ motion was based upon the jury’s determination that defendant breached its implied contractual duty as an insurer to act fairly and reasonably in investigating and refusing to pay plaintiffs’ claim. We affirm. In doing so, we hold that the application of the American rule precludes the recovery of attorney fees incurred as the result of an insurer’s bad-faith refusal to pay a claim.

i

On January 8, 1989, plaintiffs’ home was destroyed by fire. Plaintiffs’ residence and its contents were insured by defendant against loss caused by fire. On April 17, 1989, plaintiffs submitted a proof of loss to defendant totaling $229,627.04, plus additional living expenses. Following a lengthy investigation, defendant denied plaintiffs’ claim on September 13, 1989, citing the following reasons: (1) the fire was intentionally caused by plaintiffs, and (2) plaintiffs misrepresented and concealed material facts and falsely swore to the cause of the fire.

On October 5, 1989, plaintiffs brought the instant action against defendant. In their complaint, plaintiffs alleged the following claims: (1) breach of the insurance contract, including violations of MCL 500.2836; MSA 24.12836 and the Uniform Trade Practices Act (utpa), MCL 500.2001 et seq.; MSA 24.12001 et seq., (2) commission of the tort of bad-faith handling of an insurance claim, and (3) intentional infliction of emotional distress. Following defendant’s motion for summary disposition, the trial court dismissed plaintiffs’ bad-faith tort claim, but denied the motion with respect to plaintiffs’ claims of breach of contract and intentional infliction of emotional distress.

On June 17, 1991, a lengthy jury trial was commenced. At the close of proofs, the trial court gave the following jury instruction regarding the award of attorney fees:

Michigan law recognizes a contractual obligation on the part of an insurance company to act fairly and reasonably in the investigation of a claim and in denying payment of its insureds’ claim. You must make a determination whether State Farm Fire and Casualty Company acted fairly and reasonably in its investigation of the claim and in denying payment of its insureds’ claim.

Michigan law further permits an award of attorney fees to be determined by a judge as a proper measure of damages arising out of the breach of an insurer’s implied contractual duty to act fairly and reasonably in investigating and refusing to pay an insured’s claim.

The jury returned a verdict in favor of defendant with respect to plaintiffs’ claim of intentional infliction of emotional distress. With respect to the contract claim, the jury found that defendant had breached the insurance contract and assessed the maximum allowable damages. The jury also awarded plaintiffs penalty interest at the rate of twelve percent per annum under § 2006 of the utpa, MCL 500.2006; MSA 24.12006. Pursuant to a special verdict form, the jury also found that defendant acted in "bad faith” when it refused to pay plaintiffs’ claim.¹ A verdict in plaintiffs’ favor with respect to defendant’s counterclaim was also rendered.

On September 12, 1991, plaintiffs moved for attorney fees and actual costs on the basis of the jury’s determination that defendant acted in bad faith and for mediation sanctions pursuant to MCR 2.403(0). The trial court awarded plaintiffs $109,933.67 in mediation sanctions but ruled, contrary to its jury instruction at trial, that attorney fees and actual costs were not recoverable as the result of the bad-faith breach of an insurance contract. The trial court determined that under these circumstances the recovery of attorney fees and actual costs were not authorized by court rule, statute, or controlling case law.

ii

On appeal, plaintiffs contend that the trial court erred in denying their motion for attorney fees and actual costs in light of the jury’s finding that defendant refused in bad faith to pay their claim. Plaintiffs assert that under the common law of Michigan, an insurer found to have violated its duty to act "fairly and reasonably” must reimburse the insured party its full contract damages in enforcing the insurance contract. In response, defendant maintains that Michigan law does not allow a party to recover attorney fees and actual costs because of the bad-faith breach of an insurance contract. Further, defendant argues that an award of penalty interest under the utpa is the exclusive remedy when an insurance company acts in bad faith. After thorough review, we agree with defendant’s argument.

in

In Michigan, it is well-settled that the recovery of attorney fees is governed by the "American rule.” Matras v Amoco Oil Co, 424 Mich 675; 385 NW2d 586 (1986). Under the American rule, attorney fees are generally not allowed, as either costs or damages, unless recovery is expressly authorized by statute, court rule, or a recognized exception. Clute v General Accident Assurance Co of Canada, 177 Mich App 411, 417; 442 NW2d 689 (1989). See also Brooks v Rose, 191 Mich App 565, 575; 478 NW2d 731 (1991); State Farm Mutual Automobile Ins Co v Allen, 50 Mich App 71, 74; 212 NW2d 821 (1973). Exceptions to the general rule are construed narrowly. Rose, supra; Scott v Hurd-Corrigan Moving & Storage Co, Inc, 103 Mich App 322, 347; 302 NW2d 867 (1981).

Plaintiffs, relying on the decisions of the Sixth Circuit Court of Appeals in Murphy v Cincinnati Ins Co, 772 F2d 273 (CA 6, 1985), argue that they are entitled to attorney fees as damages arising from defendant’s bad-faith refusal to provide coverage. In Murphy, the insureds were awarded the proceeds of their fire insurance policy and $16,637.59 in attorney fees incurred as a result of the insurance company’s bad-faith refusal to pay their claim. In upholding the lower court’s award of attorney fees, the Sixth Circuit Court of Appeals interpreted Michigan case law to permit the recovery of attorney fees as an item of damages arising out of an insurer’s breach of its implied contractual duty to act fairly and reasonably in investigating and refusing to pay an insured’s claim. In reaching this decision, the Sixth Circuit noted that Michigan follows the rule in Hadley v Baxendale, 9 Exch 341; 156 Eng Rep 145 (1854),² that a party who fails to perform its contractual obligations becomes liable for all foreseeable damages flowing from the breach.

Underlying the Sixth Circuit’s decision in Murphy was our Supreme Court’s holding in Kewin v Massachusetts Mutual Life Ins Co, 409 Mich 401; 295 NW2d 50 (1980). In Kewin, the Supreme Court addressed the issues whether, and under what circumstances, mental distress and exemplary damages are recoverable as a result of a bad-faith breach of a commercial contract. The instant issue was noted but not addressed by the Kewin Court. Id. at 421, n 2. In holding that mental anguish damages are not recoverable unless contemplated by the parties at the time of the contract, the Supreme Court reaffirmed the application of the Hadley v Baxendale rule in the context of commercial contracts. Moreover, the Supreme Court noted that application of the rule "in the commercial contract situation generally results in a limitation of damages to the monetary value of the contract had the breaching party fully performed under it.” Id. at 414-415.

Implicit in the holding in Kewin, and reaffirmed in Valentine v General American Credit, Inc, 420 Mich 256; 362 NW2d 628 (1984), however, was the willingness of our Supreme Court to apply less than scrupulously the foreseeability test stated in Hadley v Baxendale in the face of another controlling point of law. In Valentine, the Supreme Court held that although mental distress damages are foreseeable within the rule of Hadley v Baxendale for virtually all breach of contract actions, the general rule in most jurisdictions is to deny recovery. As a rationale for its decision to deny recovery, the Court explained that the rule barring the recovery of mental distress damages is "a gloss on the generality of the rule stated in Hadley v Baxendale [and] is fully applicable to an action for breach of an employment contract.” 420 Mich 260-261.

Similarly, other jurisdictions have recognized the American rule’s limitation upon the recovery of attorney fees incurred as a foreseeable result of an insurer’s breach of a contract to provide coverage:

These contentions lay bare the underlying conflict between the principle that breach of contract damages will be awarded to protect the promisee’s expectation interest and the principle, known as the American rule, that costs awarded to a prevailing party ordinarily do not include the counsel fees of the prevailing party.

Where a liability insurer has promised to defend the insured against a covered claim and fails to do so, where a health insurer has promised to pay certain benefits for the insured to a third-party provider and fails to do so, and, indeed, where any promisor breaches the contract and causes loss to the promisee, expense incurred by the promisee in engaging counsel to press the breach of contract claim "may fairly and reasonably be considered [as] arising naturally, i.e., according to the usual course of things, from such breach of contract itself.” Hadley v Baxendale, 9 Ex 341, 354; 156 Eng Rep 145, 151 (1854).

The American rule stands as a barrier to the recovery, as consequential damages, of foreseeable counsel fees incurred in enforcing remedies for the breach. The rule has been part of the jurisprudence of this country for nearly 200 years.

"During the late colonial period, legislation provided for fee recovery as an aspect of comprehensive fee regulation. But this regulatory scheme did not long survive the Revolution. During the first half of the nineteenth century, lawyers freed themselves from fee regulation and gained the right to charge clients what the market would bear. As a result, the right to recover attorney fees from an opposing party became an unimportant vestige. This triumph of fee contracts between lawyer and client as the financial basis of litigation prepared the way for legislators and judges to proclaim the principle that one party should not be liable for an opponent’s legal expenses.” [Collier v MD-Individual Practice Ass’n, Inc, 327 Md 1, 13-14; 607 A2d 537 (1992), citing Leubsdorf, Toward a History of the American Rule on Attorney Fee Recovery, 47 Law & Contemp Probs 9 (1984).]

See also Rhodes v COPIC Ins Co, 819 P2d 1060, 1062 (Colo App, 1991).

IV

After applying these principles in the present case, we reject the Sixth Circuit’s decision in Murphy and hold that the recovery of attorney fees incurred as a result of an insurer’s bad-faith refusal to pay an insured’s claim is governed by the American rule. Like the Court in Valentine, we conclude that the American rule is a "gloss on the generality” of the foreseeability test stated in Hadley v Baxendale.

We find unavailing plaintiffs’ argument that the American rule is inapplicable when an insurer acts in bad faith. In general, breach of contract damages are not awarded to punish a wrongdoer. We see no reason to carve out an exception in this instance when none exists.³ An insured’s right to recover attorney fees as an element of damages is not triggered by the foreseeability of loss. Instead, attorney fees are recoverable only when expressly authorized by statute, court rule, or a recognized exception.

In this case, plaintiffs concede that the recovery of attorney fees and actual costs are not authorized by statute or court rule. Furthermore, plaintiffs’ public policy arguments have already been addressed by the Legislature by the enactment of the utpa. As stated by defendant in its brief:

The insurer which acts in bad faith, however, does not do so with impunity. The Legislature has provided in the Uniform Trade Practices Act, MCL 500.2001 et seq.; MSA 24.12001 et seq., that an insurer is liable for penalty interest if it fails to timely pay a claim not reasonably in dispute. McCahill v Commercial Union Ins Co, 179 Mich App 761, 778-778 [sic]; 446 NW2d 579 (1989). The statute is intended to provide a penalty to be assessed against recalcitrant insurers who procrastinate or are dilatory in paying meritorious claims in bad faith. Commercial Union Ins Co v Liberty Mut Ins Co, 426 Mich 127, 136, n 5; 393 NW2d 161 (1986). This statute evinces an intent to compensate a plaintiff for the delay in recovering funds rightfully his or hers. Medley v Canady, 126 Mich App 739, 744; 337 NW2d 909 (1983). The utpa provides other consequences enforceable by the Insurance Commissioner in what has been described as "a comprehensive, exclusive scheme of enforcement of the rights and duties it creates.” Crossley v Allstate Ins Co, 155 Mich App 694, 697; 400 NW2d 625 (1986).

Finally, we disagree with plaintiffs’ argument that their right to recover attorney fees and actual costs is controlled by Pollock v Fire Ins Exchange, 167 Mich App 415; 423 NW2d 234 (1988), and Wendt v Auto-Owners Ins Co, 156 Mich App 19; 401 NW2d 375 (1986). Neither case dealt with the precise issue of the recovery of attorney fees by an insured or addressed the interplay between the American rule and the rule stated in Hadley v Baxendale. In any event, we are not persuaded by these decisions and decline to follow them.

Our resolution of this issue renders it unnecessary to address plaintiffs’ remaining issue on appeal.

Affirmed.

1 Defendant has not filed a cross appeal. We note, however, that the tort of bad-faith breach of an insurance contract does not exist in Michigan. Runions v Auto-Owners Ins Co, 197 Mich App 105; 495 NW2d 166 (1992).

2 In Huler v Nassar, 322 Mich 1, 8; 33 NW2d 637 (1948), quoting 15 Am Jur, Damages, § 52, p 454, our Supreme Court set forth the two parts of the rule stated in Hadley v Baxendale:

"(1) Where there are no special circumstances to distinguish the contract involved from the great mass of contracts of the same kind, the damages recoverable are such as would naturally and generally result from the breach according to the usual course of things, and (2) where there are special circumstances in the contract and its observance would take the contract out of the natural or usual course of things, damages which result in consequence of those special circumstances are recoverable if, and only if, those special circumstances were communicated or known to the party breaching the contract at the time he entered into the contract.”

3 We share the sentiments of the Maryland Court of Appeals in Collier v MD-Individual Practice Ass’n, Inc, 327 MD 1, 17; 607 A2d 537 (1992), that from the standpoint of a strict application of the American rule, there is no logical reason why attorney fees should be recoverable as damages in some instances "when successful plaintiffs’ actions for other breaches of insurance contracts, or for breaches of other contracts, do not ordinarily include those counsel fees.”