When you pay for insurance, you expect your insurer to protect you when something goes wrong. Unfortunately, insurers sometimes put profits before policyholders — and that’s where bad faith law comes into play. While most people are familiar with first-party bad faith (where an insurer mistreats its own policyholder), third-party bad faith involves the insurer’s handling of claims against the insured by someone else.
What Is Third-Party Bad Faith?
Third-party bad faith occurs when an insurer fails to act in good faith while defending or settling a claim brought againstits insured. In other words, the insurer is hired to protect the policyholder from liability — but then fails to do so fairly or prudently.
For example, if an insurer refuses to settle a lawsuit within policy limits when it clearly should, and the insured is later hit with a large excess judgment, the insurer may be liable for bad faith. The insurer’s duty of good faith and fair dealing includes:
- Defending the insured against covered claims;
- Conducting a reasonable investigation of the claim;
- Considering settlement offers in good faith;
- Protecting the insured from excess exposure; and
- Avoiding conflicts of interest between its own financial interests and the insured’s legal risk.
Legal Standard and Duties
In Texas, as in most jurisdictions, insurers owe a duty to exercise ordinary care and good faith in the settlement of third-party claims. This means they must give at least equal consideration to the insured’s interests as they give to their own. Failure to do so may give rise to a Stowers claim, named after the seminal case G.A. Stowers Furniture Co. v. American Indemnity Co., 15 S.W.2d 544 (Tex. Comm’n App. 1929).
Under the Stowers Doctrine, an insurer can be liable for the entire amount of a judgment—even beyond policy limits—if it unreasonably refuses a proper settlement demand within those limits.
Common Examples of Third-Party Bad Faith
- Refusing to settle a clear liability case within policy limits
- Failing to investigate or evaluate the claim adequately
- Ignoring time-limited settlement demands
- Prioritizing the insurer’s bottom line over the insured’s protection
- Mishandling defense counsel or withholding settlement authority
Remedies and Legal Action
If an insurer is found to have acted in bad faith in a third-party context, the insured (or in some cases, an assignee or judgment creditor) may recover:
- The excess judgment amount above policy limits
- Consequential damages for financial or reputational harm
- Attorney’s fees and interest
- In egregious cases, punitive damages
Final Thoughts
Third-party insurance bad faith strikes at the heart of the trust between insurer and insured. Insurers must balance risk and cost, but when they gamble with their policyholder’s exposure, they cross a legal and ethical line. If you suspect your insurer has acted in bad faith, consult an attorney experienced in insurance coverage and bad faith litigation to assess your rights and potential remedies.
At David C. Barsalou, Attorney at Law, PLLC, we help clients navigate business, family, tax, estate planning, and real estate matters ranging from document drafting to litigation with clarity and confidence. If you’d like guidance on your situation, schedule a consultation today. Call us at (713) 397-4678, email barsalou.law@gmail.com, or reach us through our Contact Page. We’re here to help you take the next step.