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July 2011

Behnke v. State Farm General Insurance Company ? Insurer Not liable for Failure to Pay Full Amount of Cumis Counsel Fees

Insurer's Agreement to Defend Subject to Reservation of Rights to Arbitrate Cumis Counsel Fees Does Not Support Insured's Fraud, Breach of Contract, Estoppel, or Bad Faith Claims

(May 31, 2011)____Cal.App.4th____; 11 C.D.O.S. 8127

The California Court of Appeal, Fourth Appellate District, affirmed the trial court's judgment dismissing an insured's claim against State Farm in connection with a dispute over independent ("Cumis") counsel's fees.  The Court of Appeal concluded the trial court properly sustained State Farm's demurrer without leave to amend because estoppel is not a stand-alone claim under California law, and the insured's factual allegations failed to support a fraud claim.  As to the remaining claims for breach of contract, bad faith, and punitive damages, the trial court properly granted summary judgment because it was undisputed State Farm paid the Cumis fees awarded after arbitration and, thus, did not breach any contractual obligations to the insured.  Absent such a breach the bad faith and punitive damages claims failed as a matter of law.

State Farm issued a rental dwelling policy to Behnke for a condominium Behnke later sold to a third party, Castaneda.  Castaneda discovered mold in the condominium and sued Behnke.  Behnke tendered defense of the action to State Farm and retained English & Gloven as defense counsel.  In the retainer agreement Behnke agreed to be personally liable for English & Gloven's fees if State Farm denied a defense, but Behnke would not be responsible if State Farm accepted the defense and promptly paid English & Gloven's fees in full.

State Farm accepted Behnke's tender subject to a reservation of rights which triggered an obligation to provide independent counsel.  State Farm accepted Behnke's choice of English & Gloven as defense counsel, but conditioned this acceptance on Insurance Code section 2860 ("Section 2860").  Section 2860 obligates insurers to pay only reasonable costs necessary to a defense and mandates binding arbitration of any Cumis fee disputes.

While the underlying action was pending, State Farm objected to English & Gloven's bills as excessive. State Farm also revised its reservation of rights in an effort to eliminate the basis for Cumis counsel.  English & Gloven objected and asserted Cumis counsel was required even under State Farm's amended reservation of rights.

In January 2004 a State Farm representative met with attorneys from English & Gloven.  Behnke alleged that at that meeting State Farm agreed that English & Gloven would continue to defend Behnke as Cumis counsel and State Farm would "arrange for payment of English & Gloven's fees and costs which had not been paid as of that date." 

The underlying lawsuit settled in March, 2004.  State Farm then paid $140,000 of English & Glover's fees and costs, but declined to pay any more.  English & Gloven objected and claimed an additional $45,000.  After this fee dispute arose, Behnke executed a promissory note in English & Gloven's favor secured by a deed of trust on his home. Behnke subsequently filed for bankruptcy, and English & Gloven foreclosed on the deed of trust.

English & Gloven filed a breach of contract and tort action against State Farm on Behnke's behalf.  The court granted State Farm's motion to compel arbitration of the fee dispute, which ultimately resulted in an award to English & Gloven of $43,000 of the $59,000 it had claimed.  State Farm paid this amount. 

After State Farm's demurrer to Behnke's first amended complaint was sustained, Behnke filed a second amended complaint that included claims for breach of contract, bad faith, fraud, equitable estoppel, and punitive damages.  Behnke alleged, inter alia, that State Farm made the representations at the January 2004 meeting without any intention to perform and with intent to mislead Behnke.  The trial court granted State Farm's demurrer to the fraud and equitable estoppel causes of action, without leave to amend.  It subsequently granted State Farm's motion for summary judgment on the remaining breach of contract, bad faith, and punitive damage claims.  Behnke appealed.

The Court of Appeal held the trial court had correctly sustained State Farm's demurrer without leave to amend.  The Court found the core dispute between Behnke and State Farm revolved entirely around "an ordinary Cumis counsel fee dispute" between English & Gloven and State Farm.  State Farm expressly reserved the right to submit such disputes to arbitration under section 2860.  Thus State Farm agreed in the event of a dispute to pay only those fees that an arbitrator determined to be both necessary and reasonable.  Moreover, nothing in State Farm's amendment to its reservation of rights letter provided a basis for a fraud claim.  Behnke thus failed to allege an actionable misrepresentation of a material fact, a necessary element to the fraud claims. 

Similarly, the Court of Appeal concluded the trial court did not err in sustaining State Farm's demurrer to Behnke's equitable estoppel claim.  Equitable estoppel must be pleaded either as part of a cause of action or as a defense; no stand-alone cause of action for equitable estoppel exists as a matter of law.

The trial court's grant of summary judgment was also proper. The Court of Appeal rejected Behnke's argument that, as a result of State Farm's failure to pay the full amount of English & Gloven's claimed fees and costs, Behnke suffered foreseeable harm because he became personally obligated under his retainer agreement to pay these amounts. Even if State Farm had been contractually obligated to pay the full amount of English & Gloven's fees, Behnke failed to show the existence of a triable issue of material fact as to whether his claimed consequential damages were reasonably foreseeable to State Farm because State Farm was not a party to Behnke's agreement with English & Gloven and there was no evidence the insurer knew of Behnke's promise to be personally liable for these fees.

In the absence of a breach of contract, the bad faith claim was also properly dismissed.  Summary judgment on the bad faith claim was also appropriate under the "genuine dispute" rule because State Farm's decision to submit the fee dispute to arbitration was objectively reasonable as a matter of law.  Similarly, there was no triable issue of material fact on Behnke's punitive damages claim because without tort liability there can be no liability for punitive damages.

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This opinion is not final. It may be withdrawn from publication, modified on rehearing, or review may be granted by the California Supreme Court. These events would render the opinion unavailable for use as legal authority.
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