Can a policyholder sue its insurance company for negligently settling a claim when there is no judgment or settlement in excess of the policy limit? The short answer, based on the Supreme Court of Texas’s ruling in In Re Farmers Texas County Mutual Insurance Company, Realtor on April 23, 2021, is no.

In In Re Farmers, Gary Gibson sued Cassandra Longoria, the policyholder, for personal injury and property damages resulting from a car accident that Longoria caused. Longoria’s insurance company, Farmers, hired an attorney to defend her in the lawsuit. Before trial, the case settled for $350,000, an amount within Farmer’s $500,000 policy limit. The settlement amount, however, was not entirely funded by Farmers.  Instead, Farmers paid $250,000 and Longoria paid $100,000 out-of-pocket.  Longoria contributed her own money after Farmers allegedly advised her that she faced exposure for gross negligence, a claim that Gibson had never made.

Longoria filed suit against Farmers, alleging that Farmer’s violated its Stowers duty by negligently failing to settle Gibson’s claim.  She also alleged that Farmers breach its insurance contract by not fully indemnifying her against Gibson’s damages. Farmers sought to dismiss the lawsuit on the basis that Longoria failed to state a legally recognized cause of action (negligent failure to settle) against the insurance company.  After the trial court and appellate court refused to dismiss the case, Farmers sought mandamus relief from the Texas Supreme Court.

The Court found that Longoria’s Stowers claim for negligent failure to settle had no basis in law, but her claim for breach of contract did. Under the Stowers doctrine, an insurance company owes a duty to settle third-party claims against its policyholder when it is reasonably prudent to do so. The duty arises when a third party asserts a demand within the scope of coverage and within policy limits, and the terms of the demand are such that an ordinarily prudent insurer would accept it considering the likelihood and degree of the policy holder’s potential exposure to an excess judgment.

An essential element of the Stowers duty is that the policyholder be liable “in excess of policy limits”. In declining to extend Stowers to cases in which the policyholder has no liability in excess of the policy limit, the Court reasoned that the policyholder can still sue the insurance company in those instances for breach of contract.  The Court held that Longoria’s claim against Farmers for negligently failing to settle Gibson’s claim should have been dismissed.

The Court then turned its focus on whether the Stowers doctrine prevented Longoria from filing suit against Farmers for breach of the insurance contract.  The Court held that Longoria’s breach of contract claim, arising from Farmer’s duty to indemnify her, was not precluded by the Stowers doctrine and should proceed to trial.

In reaching this decision, the Court carefully reviewed the requirement in the insurance policy that Farmers “pay damages for bodily injury or property damage for which any covered person becomes legally responsiblebecause of an auto accident.” Farmers took the position that Longoria was not “legally responsible” for the amount paid because it was a settlement and not a judgment. The Court rejected Farmers’ argument, instead holding that a policyholder can become “legally responsible” due to a judgment or a settlement.

While the Court refused to extend Stowers to cases in which the policyholder has liability within the insurance policy limit, it also clarified that a policyholder’s contribution towards settlement may trigger and potentially breach the insurance company’s duty to indemnify. By clarifying how the insurance company’s duty to indemnify may be triggered and keeping alive Longoria’s claim against Farmer’s for breach of that duty, the Court gave weight to its comment that it is, “troubling for obvious reasons when a liability insurer solicits a contribution from its insured without committing its own policy limits”.

The attorneys in our Dallas and Austin offices are available to answer any questions you may have.  You may contact us at info@gstexlaw.com.

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