Home Protection Contracts are not Insurance

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Bad Faith Tort Claims Only Available Against Insurers

Plaintiffs Gina Chu, et al, appealed the trial court’s order dismissing with prejudice their claims against defendant for breach of the implied covenant of good faith and fair dealing (bad faith claim) and violation of the Unfair Competition Law. According to plaintiffs, because the contract on which they sued, a Home Protection Contract, is regulated under the Insurance Code, including the Unfair Insurance Practices Act (§ 790 et seq.), it should be considered insurance for purposes of tort liability and their complaint thus adequately stated a bad faith claim. In Gina Chu et al. v. Old Republic Home Protection Company, Inc., B302792, Court Of Appeal Of The State Of California Second Appellate District Division Five (January 29, 2021) the Court of Appeal considered the difference between insurance and home protection contracts.

FACTUAL BACKGROUND

Plaintiffs owned a condominium in Los Angeles. On an unspecified date, defendant issued to plaintiffs a “Home Protection Plan” pursuant to which defendant agreed to “provide service for covered systems and appliances [within the condominium] reported as malfunctioning during the term of the [contract]. . . .”

During the effective period of the contract, the condominium’s heating, ventilation, and air-conditioning (HVAC) system became inoperable. The repairs were inadequate and resulted in leaks of Freon that the home protection company failed to properly repair.

After plaintiffs first made a claim under their homeowner’s insurance policy for the breakdown of their HVAC system, they retained their own contractor who confirmed that there was a leak in the HVAC system. In July 2019, plaintiffs retained a second contractor who agreed that the system had a leak and further advised that the entire system needed to be replaced. The replacement cost of the HVAC system was $8,984.

On the fifth cause of action, the bad faith claim, the court concluded that a home protection contract is not an insurance policy and thus sustained the demurrer without leave to amend.

Statutory Scheme Regulating Home Protection Companies

In the mid-1970s, companies in California began marketing contracts to service and repair certain components or systems of residential structures, usually in conjunction with real estate brokers. The vast majority of such contracts had not been executed as insurance contracts and the overwhelming majority of companies offering such contracts had been doing business in a capacity other than, and had been qualified other than, as admitted insurers. But no specific form of state regulation of this evolving industry existed in California.

The Legislature, stating concern, enacted  Part 7 to Division 2 of the Insurance Code, commencing with section 12740. That new section defined a home protection contract as:

any contract or agreement whereby, for a predetermined fee, a person undertakes for a specified period of time, to repair or replace all or any part of any component, system or appliance of a home necessitated by wear and tear, deterioration or inherent defect, or by the failure of any inspection to detect the likelihood of any such loss. [¶] Such contract shall provide for a system of service for effectuating such repair or replacement and shall not include protection against consequential damage from the failure of any component, system or appliance. (§ 12740.)

The section also defined a “home protection company” as “any person licensed pursuant to this part which issues home protection contracts.”

Bad Faith Claim

It is well established that a covenant of good faith and fair dealing is implicit in every contract. The essence of the implied covenant is that neither party to a contract will do anything to injure the right of the other to receive the benefits of the contract.

Because the covenant of good faith and fair dealing essentially is a contract term that aims to effectuate the contractual intentions of the parties, compensation for its breach has almost always been limited to contract rather than tort remedies.

At present, California recognizes only one exception to that general rule: tort remedies are available for a breach of the covenant in cases involving insurance policies.

Analogy to Insurance

Plaintiffs contend that because home protection contracts fall within the Insurance Code’s definition of insurance, and companies that issue insurance can be liable in tort for breach of the implied covenant, their fifth cause of action stated a claim for insurance bad faith.

Moreover, whether a contract qualifies as insurance under the Insurance Code for regulatory purposes is not dispositive of the tort liability issue. Instead, when analyzing whether a given type of contract constitutes insurance for purposes of tort liability, courts must evaluate whether policy considerations recognized in common law support the availability of tort remedies in the context of that type of contract. Tort recovery is considered appropriate in the insurance policy setting because such contracts are characterized by elements of adhesion and unequal bargaining power, public interest and fiduciary responsibility.

Here, an evaluation of the policy considerations underlying tort liability in the traditional insurance context demonstrates that home protection contracts are not sufficiently analogous to insurance to support the imposition of tort liability.

Unlike insurance policies that protect against calamity or catastrophe, the home protection contracts at issue promise to repair or replace covered home systems, such as plaintiffs’ HVAC system, or appliances, such as refrigerators, ovens, or water heaters. Although, by obtaining the benefits of such a contract as part of a home purchase, a homeowner may procure a degree of economic protection against repair or replacement costs, it is not the same protection against the economic dilemma an insured faces after a catastrophic loss or accident.

In the latter scenario, California courts impose tort remedies to induce the insurer’s performance of its defense and indemnity obligations or to compensate fully the insured for an insurer’s bad faith breach of the implied covenant. By contrast, if a home protection company breaches its contractual duty to repair or replace a covered system or appliance that malfunctions, contract damages would seem to compensate the homeowner adequately for the type of damages contemplated by the parties at the time of contracting—in other words—repair or replacement costs.

However, the fact that the Insurance Code may regulate a company is not dispositive of whether that company should be subject to the same tort liability as traditional insurance companies.

A policy that does not include any of the perils insured against in a standard fire policy shall not be included in the definition of policy of residential property insurance. [California Insurance Code Section 2071 sets forth the standard form for fire insurance, and provides that the policy shall insure “against all LOSS BY FIRE, LIGHTNING AND BY REMOVAL FROM PREMISES ENDANGERED BY THE PERILS INSURED AGAINST IN THIS POLICY, EXCEPT AS HEREINAFTER PROVIDED….”

Because a home protection contract is not a “property insurance policy,” regulation 2695.9 does not apply to defendant. Further, because plaintiffs’ UCL claim is premised on their contention that defendant violated various subparts of regulation 2695.9, that claim fails as a matter of law.

ZALMA OPINON

Since it does not contain the language of the standard fire policy a Home Protection Contract does not qualify as insurance. For example, California Insurance Code Section 22 provides “Insurance is a contract whereby one undertakes to indemnify another against loss, damage, or liability arising from a contingent or unknown event.” That seems to be exactly what a Home Protection contract does but the court disagreed. It seems to me that the court’s argument is sufficient to do away with the tort of bad faith because insurance  would seem to compensate the homeowner adequately for the type of damages contemplated by the parties at the time of contracting—in other words—repair or replacement costs, exactly what is promised by an insurance contract.


© 2021 – Barry Zalma

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 52 years in the insurance business. He is available at http://www.zalma.com and zalma@zalma.com.

Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.

Over the last 53 years Barry Zalma has dedicated his life to insurance, insurance claims and the need to defeat insurance fraud. He has created the following library of books and other materials to make it possible for insurers and their claims staff to become insurance claims professionals.

Go to the podcast Zalma On Insurance at https://anchor.fm/barry-zalma;  Follow Mr. Zalma on Twitter at https://twitter.com/bzalma; Go to Barry Zalma videos at Rumble.com at https://rumble.com/c/c-262921; Go to Barry Zalma on YouTube- https://www.youtube.com/channel/UCysiZklEtxZsSF9DfC0Expg; Go to the Insurance Claims Library – https://zalma.com/blog/insurance-claims-library/ Read posts from Barry Zalma at https://parler.com/profile/Zalma/posts; and Read last two issues of ZIFL here.

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