When insurance claims are denied based upon late notice, litigation frequently follows. Everybody in the insurance business knows this, but what is not as widely appreciated is the impact which the insurance company's handling of a claim, prior to issuing a denial, can have upon future litigation. As we all know, subpar claim handling leads to bad faith claims and allegations of unfair insurance practices. Poor claim handling can also lead to allegations that the insurance company has waived its rights to deny coverage, or else is otherwise precluded from asserting its policy defenses. This article addresses an important issue that often arises in insurance claims, particularly property claims: how an insurer can best handle a claim, prior to issuing a denial, so as to preserve the validity of a coverage defense based upon late notice.
Property insurance policies generally require the insured to give prompt notice to its insurance carrier in the event of a loss. The notice requirement exists in insurance policies because late notice "can deprive the insurer of the opportunity for prompt investigation and impede defense against fraudulent claims." Noon Realty, Inc. v. Aetna Insurance Company, 387 N.W.2d 465, 467 (Minn. App. 1986). "The purpose of a policy provision requiring the insured to give the company prompt notice of an accident or claim is to give the insurer an opportunity to make a timely and adequate investigation of all the circumstances." Aetna Cas. & Sur. Co. v. Murphy, 206 Conn. 409, 417, 538 A.2d 219 (1988). Thus, if an insured fails to give prompt notice after suffering a loss, then the failure to give notice may serve as a basis for denying the claim.
However, almost all jurisdictions hold that for a court to uphold an insurer's denial of coverage based on late notice, the court must first inquire as to whether the failure to provide prompt notice prejudiced the insurer. In many states, late notice is only a valid coverage defense if the insurer can prove it was prejudiced by the insured's failure to give prompt notice. See, e.g., Darcy v. Hartford Ins. Co., 554 N.E.2d 28, 407 Mass. 481 (1990); Noon Realty, supra at 467-68; Molyneaux v. Molyneaux, 553 A.2d 49, 53, 230 N.J. Super. 169 (1989). By contrast, other courts hold that where the insured gives late notice, the insured can only recover if it first proves that the insurer was not prejudiced by the failure to give prompt notice. See, e.g., Aetna Cas. & Sur., supra, at 419, (collecting cases). The difference as to who has the burden of proof, the insured or the insurer, will be critical in many cases because it is difficult to prove a negative. Indeed, many authorities have recognized that where the insured has the burden of proving that the insurer was not prejudiced by the failure to give prompt notice, the insured has a difficult legal burden. See, e.g., Taricani v. Nationwide, 77 Conn. App. 139 (2003).
Regardless of where the burden of proof lies under the law, however, before an insurer decides to deny coverage for a claim based upon late notice, it should take the important practical step of conducting a serious evaluation of whether it has been prejudiced. The cases that discuss the importance of giving timely notice repeatedly recognize that the purpose of the notice requirement is to give the insurer the opportunity to investigate the claim, to evaluate the potential for subrogation, to determine whether there is coverage and to compromise the claim at an early point in time. Thus, in a case which provides an excellent example of how prejudice accrues where notice is not timely given, an insurer which was not notified of a roofing damage claim until many months had passed was found to have been prejudiced, since the late notice stripped it of the opportunity to investigate whether the loss was caused by another roofer who had also been on the job near the time of the loss. Hartford Ins. Co. v. Colonia Ins. Co., 58 Conn. App. 39, 44, 750 A.2d 1158 (2000).
The Colonia decision shows how important it is that insurers be able to clearly articulate how late notice prejudiced a claim investigation. Assuming that the insured whose claim is denied for late notice brings suit on the policy against its insurance carrier, the insurer's representatives will have to answer questions in discovery, both through written interrogatories and at depositions, as to how they were prejudiced, if at all, by the late notice. They will then have to give testimony on these same issues at trial. Therefore, the insurer's representatives must be prepared to spell out exactly how the late notice resulted in prejudice.
Even if the burden of proof, depending upon the jurisdiction, is on the insured to show the absence of prejudice, the failure of an insurer to demonstrate any prejudice in such a case likely will be taken, practically speaking, as supporting an inference that there is no prejudice. To put it another way, if the insurer cannot clearly explain how it was prejudiced, the court will be tempted to think that it was not prejudiced – especially in jury cases where there may be latent hostility toward insurance companies or sympathy toward the insured. Therefore, in cases where late notice is given and the insurer considers denying the claim, it is essential that the insurer make a determination prior to issuing a denial of exactly what prejudice it has suffered.
In considering the extent of prejudice when deciding whether to deny a property claim for late notice, insurers should look long and hard at how thorough their claim investigation has been. In recent years, there has been a growing trend in the case law for insureds faced with a late notice defense to respond by blaming the insurance company. In other words, insureds who have had their claims denied for late notice have aggressively asserted that there is no prejudice to the insurer because the insurer conducted a sloppy investigation or handled the claim poorly, and thus cannot be said to have been prejudiced since it was not undertaking a serious investigation. See, e.g., Darcy v. Hartford Ins. Co., supra; Molyneaux, supra at 53; Hamilton Mut. Ins. Co. v. Perry, 1997 Ohio App. Lexis 5824 (Ohio Ct. App. 1997); Nat'l Publ'g Co., Inc. v. Hartford Fire Ins. Co., 94 Conn. App. 234, 892 A.2d 261, cert. granted, 278 Conn. 903, 896 A.2d 105 (2006). In some of these cases, courts were swayed by the insured's argument that there was no prejudice to the insurer as a result of late notice because the insurer's investigation was not thorough or diligent, meaning that the insurer was not prejudiced since it was apparently not going to conduct a full fledged investigation in any event. For example, in the Molyneaux case, the New Jersey Superior Court rejected a late notice defense because of "the inadequacy of the investigation conducted by" the insurer. The court concluded that the insurance company engaged in "only peripheral investigation" which "mitigates against [the insurer's] claim of prejudice." Molyneaux, supra, at 53. Similarly, in Darcy the court found that the insurer's efforts to investigate a claim after late notice had been given were "torpid" and were made "without any corresponding effort to investigate the incident itself." Darcy, supra, at 32. Consequently, the court concluded that the insurance company "had not demonstrated at all that it had been placed in a substantially less favorable position than it would have been had it received earlier notice." Id. "Any prejudice which resulted . . . in this case is directly due to [the insurer's] inaction in its investigation rather than to [the insured's] failure to provide prompt notice." Id. at 487 n.5
It is important for an insurer to understand and be aware of this clever tactic of attacking an insurer's claim investigation. When a policyholder's lawyer makes this argument, it means that the insurer who denies a claim for late notice will not only have to articulate to the court how it was prejudiced, but will also have to respond to a fusillade of accusations that its claim handling was poor or sloppy. As an intended consequence of this tactic, the policyholder's lawyer completely reframes the discussion, to the insured's advantage. No longer is the question whether and how the insurer's investigation was interfered with by the insured's breach of a policy condition. Instead, the insurer's conduct is placed under the microscope. In a sense, what the policyholder is really doing is asserting a de facto bad faith claim against the insurer. And, since it is offered as a response to the late notice defense, rather than an affirmative claim, the insured who makes this argument will not be held to the demanding standard that is ordinarily required to prove bad faith. Thus, the insured gets to have it both ways: it gets to attack the insurer's claim handling, its motives, and its integrity, all without having to meet the high burden that would apply to an actual bad faith claim. The decisions in Darcy and Molyneaux, supra, show how eager some courts will be to reward this tactic and to excuse late notice by condemning the insurer's conduct.
To anticipate this attack and successfully resist it, an insurer which denies a claim for late notice must make sure that it has scrupulously investigated that claim. The insurer should ensure that it has followed-up on all leads in the case, contacting and interviewing potential witnesses who have relevant information. If the insurance company has a special investigation unit, then involving that unit may be useful in showing that the insurer was diligent in its investigation. The insurer should also give thought to retaining an independent engineer or consultant to review the loss, so as to try and gain more information about the loss itself, such as cause of loss, subrogation potential, and applicability of potential exclusions. This demonstrates that the insurer is investigating the claim seriously, rather than trying to quickly close its file based on late notice; and if the engineer or consultant is unable to render definitive opinions regarding the loss because of the passage of time between the loss and notice, that will be further evidence of prejudice. The insurer also should see that higher level employees, such as unit managers or other supervisors, are involved in the claim decision so as to establish that the claim was fully investigated. Consulting with either in-house or outside counsel is also a good idea. Finally, the insurer should make certain that the results of its investigation, including any evidence of prejudice, are well documented in the claim file, so as to provide contemporaneous proof of a thorough investigation.
If these things are done, the insurance carrier should then be able to successfully articulate in any subsequent litigation that its investigation was sound, thorough and complete, thereby shielding the insurer from an attack on its claim handling and preserving the viability of its late notice defense. Further, this will prove that the insurer was not only prejudiced, but that the prejudice was due to the insured's breach of the notice condition, rather than an insurer's failure to adequately investigate a claim.