A song and dance: Why a claims department is no Broadway show
Insurers are in the business of risk transfer, so they should know better than most the risk involved with attorneys performing the same business function as that of a typical insurance adjuster.
For the vast majority of policyholders, insurance coverage litigation is a rare event. With limited exception, commercial policyholders are not in the business of insurance, and as such, their internal policies and procedures are not developed with insurance litigation in mind.
For insurers, however, insurance coverage litigation is routine. When insurance coverage litigation reaches the discovery phase, the disparate nature of the parties’ businesses (insured v. insurer) can make all the difference.
At its core, insurance is about risk transfer, and the business of risk transfer is, for lack of a better term, risky. When insurers deny coverage to policyholders who believe they are entitled to it, litigation is all but inevitable.
Because litigation is part and parcel of an insurer’s business, insurers are arguably incentivized to structure their internal operations in a manner that limits the likelihood of policyholder success in litigation. One way that some insurers have attempted to do so is to staff their claims departments with attorneys, have those attorneys engage in “claims handling,” and then refuse to produce communications with those attorneys or documents created by those attorneys in litigation on the basis of the attorney-client privilege or work product doctrine.
Of course, it is axiomatic that policyholders engaged in insurance coverage litigation are entitled to discovery of nonprivileged documents and communications concerning the insurer’s handling of the claim. But where attorneys are engaged in that claims-handling process, a policyholder’s right to discovery is endangered. “Because insurance companies are required to evaluate claims made by their insureds in the ordinary course of their business, ‘discovery disputes involving an insurance company’s claims file often present problems for the parties.’” See Borgia v. State Farm Mutual Automobile Insurance, 2014 U.S. Dist. LEXIS 123180, at *8 (E.D. Pa. Sept. 3, 2014).
In 2019, Judge Philip A. Ingelzi of the Allegheny County Common Pleas Court had the opportunity to address this issue. In Mathers v. FirstEnergy, 2019 Pa. Dist. & Cnty. Dec. LEXIS 6029, the family of a decedent brought suit against FirstEnergy and West Penn Power after the decedent was electrocuted by a high voltage power line.
FirstEnergy had an internal claims department that analyzed and investigated the plaintiffs’ initial claim. In discovery, FirstEnergy’s internal claims department proved to be a sticking point. The plaintiffs requested a copy of FirstEnergy’s internal claims file related to the loss, but FirstEnergy withheld as privileged a host of documents from their claims file on the basis that their claims handlers were all licensed attorneys and, therefore, documents in their claims file were privileged. The plaintiffs filed a motion to compel the claims file and deposition testimony from FirstEnergy’s former director of claims, who had been identified by FirstEnergy during discovery as a person with knowledge of the claims-handling process. FirstEnergy opposed both motions.
In ruling on the plaintiffs’ motion to compel, Ignelzi analogized to insurance coverage cases, stating: “In the insurance context, to the extent that an attorney acts as a claims adjuster, claims process supervisor, or a claims investigation monitor, and not as a legal adviser, the attorney-client privilege does not apply.” Although FirstEnergy “attempted to paint its claims department as something wholly different from a claims department in the context of an insurance company,” the court was “not persuaded.” Essentially, the only difference was that “an insurance adjuster has a policy to protect, while FirstEnergy’s internal claims department was supposed to protect the company.”
In response to plaintiffs’ motion to compel, FirstEnergy argued that “its claims department and its adjusters … are lawyers and therefore the information is protected by the attorney-client privilege and/or the work product doctrine.” FirstEnergy attempted to further support its position by arguing that its claims department was “under the control of the ‘legal department.’” However, Ignelzi recognized that the operative question is not whether a particular employee is an attorney, but rather whether an employee with a law license is functioning as an attorney. As to FirstEnergy’s claims handlers, Ignelzi answered that question in the negative, concluding that the record “makes very clear the attempt of FirstEnergy to engage in a beneficial reclassification of its employees as attorneys after the fact.” This was true even though certain claims handlers did engage in legal work on occasion and notwithstanding that the claims department reported to the legal department. Essentially, the claims handlers were not acting as attorneys because “the job was not one that required a law degree” and the claims handlers were not functioning as attorneys in their “day-to-day work.”
As explained by Ignelzi, claims handling documents do not become privileged simply because the claims department is staffed with licensed attorneys:
By this logic staffing a claims department with professional singers, dancers, and actors and having them do “claims representative work” would also result in a Broadway musical.
Other Pennsylvania trial courts have reached similar conclusions. For example, in General Refractories Co. v. Fireman’s Fund Insurance, 2000 Pa. Dist. & Cnty. Dec. LEXIS 319 (Pa. Com. Pl. Apr. 20, 2000), the court rejected an insurer’s attempt to shield its claims file from discovery by involving its captive counsel “as an integral part of its claims department.” In that case, the insurer “attempted to use counsel to construct a ‘privilege’ wall against discovery of the true nature of their decision-making,” which the policyholder argued was in bad faith. The court rejected the insurer’s argument, noting the “counsel” at issue was “an employee of the defendant acting not as counsel but as an adjuster with a law degree.” In such circumstances, “there is no privileged relationship.”
Other jurisdictions are in accord—even where an insurer’s outside counsel is engaged in the adjustment of a claim. See, e.g., National Union Fire Insurance Co. of Pittsburgh v. TransCanada Energy USA, 119 A.D.3d 492 (N.Y. App. Div. 2014) (concluding that where outside “counsel are primarily engaged in claims handling—an ordinary business activity for an insurance company,” claims handling documents “do not become privileged merely because the investigation was conducted by an attorney”); Mission National Insurance v. Lilly, 112 F.R.D. 160, 163 (D. Minn. 1986) (“To the extent that outside counsel Cozen & O’Connor acted as claims adjusters, then, their work-product communications to client, and impressions about the facts will be treated herein as the ordinary business of plaintiff insurer, outside the scope of the asserted privilege.”).
As the foregoing discussion suggests, policyholders should keep their guard up when engaged in discovery with their insurers. Policyholders should be mindful of the potential for insurers to attempt to shield ordinary claims-handling documents from discovery by engaging in-house or outside counsel to adjust a claim. Unquestionably, policyholders are entitled to discovery of claims-handling documents to support their claims and defenses in litigation, and where documents typically found an insurer’s claims file are redacted or withheld from discovery altogether, additional scrutiny is warranted.
Insurers are in the business of risk transfer, so they should know better than most the risk involved with attorneys performing the same business function as that of a typical insurance adjuster. See Harper v. Auto-Owners Insurance, 138 F.R.D. 655, 671 (S.D. Ind. 1991) (“To the extent that the attorney acted as a claims adjuster, claims process supervisor, or claim investigation monitor, and not as a legal advisor, the attorney-client privilege would not apply.”). Accordingly, policyholders and their counsel should flag and challenge any broad assertions of attorney-client privilege and work product protection over its insurer’s claims file and related communications—chances are good that, in the end, no such privilege will be found.
Max J. Louik, a partner in Reed Smith’s insurance recovery group, represents policyholders in complex litigation. He can be reached at mlouik@reedsmith.com.
Elizabeth L. Taylor is an associate in the firm’s insurance recovery group. She can be reached at etaylor@reedsmith.com.
Katie Rose Kenawell is an associate in the firm’s global commercial disputes group. She can be reached at kkenawell@reedsmith.com.
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