The Debate Over Punitive Damages Continues!

Some things never change. Just last August in this column I wrote about important developments in the decade-long Texas debate over the insurability of punitive damages in, “Punishing Who? The Debate Over Insuring Punitive Damages,” Insurance Journal-Texas/South Central, Aug. 18, 2003. At that time, after years of arguments over the issue, two key court decisions confronted the issue and found, to the dismay of carriers, that punitive damages are insurable. Still, both cases were from intermediate courts, so the issue remained open, or at least not finally decided, until the high court weighed in.

Things became even more interesting when, shortly after the column, an en banc review was granted in one of those cases. (An en banc review is when a decision by a small judge panel—usually three judges—is taken up for consideration by the entire court—usually nine judges—because the decision has caught the eye of the whole group, often because it was wrongly decided.) Even so, it could be years, if ever, before an en banc decision reaches the Texas Supreme Court. So the debate is on hold, right?

Wrong.

Less than a month ago, in Fairfield Insurance Co. v. Stephens Martin Paving, L.P., No. 03-10982, Fifth Cir., (Aug. 11, 2004), the Fifth Circuit certified the question of whether the insurability of punitive damages is against public policy, to the Texas Supreme Court. A certified question is where a federal court asks the highest court of a state to decide a state law issue for it. Now we may have a final decision on the issue before yearend. Once again, the debate rages.

The importance of the issue
To understand why this issue is so important, let’s review the landscape before Fairfield. In Texas, the debate over insurability of punitive damages began with the landmark decision in Transportation Ins. Co. v. Moriel, 879 S.W.2d 10 (Tex. 1994) where the Texas Supreme Court redefined the standards for awarding punitive damages in Texas. In a moment of great clarity, Moriel told us that “the legal justification for punitive damages is similar to that for criminal punishment” and that “punitive damages are levied for the public purpose of punishment and deterrence.” Id. at 16-17. It would seem that if the rationale for punitive damages in Texas is solely punishment and deterrence, the question of insurability is simple.

Why? Because, if punitive damages are designed to punish and prevent the bad behavior of tortfeasor’s, the insured’s ability to get insurance coverage to cover punitive damages would defeat that purpose. The paradigm case is where a criminal purchases jail insurance so that someone else would serve his time or pay his fine if he gets caught (which courts have rejected as against public policy). Sure, the criminal would have to pay a very high premium if such insurance was available, but what prudent criminal would not pay a heavy premium in order to avoid jail time. Likewise, if a corporation, in buying insurance, knows that it will not be “punished” for its gross negligence if punitive damages are awarded (since insurance will pay), then the normal function of punishment and deterrence are gone.

Prior to Moriel, Texas courts had uniformly held that punitive damages were insurable. After Moriel, the debate became furious, with some courts finding that punitive damages were uninsurable, such as in Milligan v. State Farm Mut. Auto. Ins. Co., 940 S.W.2d 228, 232 (Tex. App.—Houston [14th Dist.] 1997, writ denied); Hartford Cas. Ins. Co. v. Powell, 19 F. Supp.2d 678, 696 (N.D. Tex. 1998). Others, however, disagreed.

When the Fort Worth Court of Appeals last year held that it is not against public policy to insure punitive damages in Westchester Fire Ins. Co. v. Admiral Ins. Co., __ S.W.3d ___, 2003 Tex. App. LEXIS 5468 (Tex. App.—Fort Worth 2003), the dispute appeared bound for the Texas Supreme Court. But an unexpected detour occurred when the attorney for Admiral sought an en banc review (actually, it was a very good idea) to challenge the decision. To the surprise of many, including me, the Court of Appeals granted the review. This is usually a very good sign that the ruling may be reversed or at least significantly altered. Still, even if the decision were reversed, it might be years before a decision by the Court of Appeals and then, if the appeal was even accepted, a final ruling by the Texas Supreme Court. In other words, it looked as if it may be years before this thorny issue would be decided.

Now along comes Fairfield. The case involves a gross negligence claim by a wife for the death of her husband. She only seeks punitive damages consequently the ability to recover punitive damages from the carrier is the primary issue in the case.

The Fifth Circuit, recognizing a clear state interest in an accurate application of Texas law, certified a clear, precise issue to the Texas Supreme Court. And by common practice, the issue goes straight to the head of the list for quick determination. The Fifth Circuit defined the issue as this:

Does Texas public policy prohibit a liability insurance provider from indemnifying an award for punitive damages imposed on its insured because of gross negligence?

The answer provided by the Supreme Court of Texas will determine this issue on appeal in this case.

Indeed, it will decide many other cases as well. Stay tuned.

Brian S. Martin is a partner in the Insurance and Coverage Section of the Houston office of Thompson, Coe, Cousins & Irons L.L.P. He has extensive experience in insurance coverage and defense matters, specializing in environmental, toxic tort and products cases. Martin is a frequent author and CLE speaker on insurance topics, including coverage and bad faith issues.

Topics Texas