How Surplus Lines Insurers Can Beat Illinois Bad Faith Claims

Surplus lines insurers, your Illinois policies are exempt from all statutory bad faith claims. Or at least they’re arguably exempt. But whether arguable or actual, you should be moving to dismiss these claims at the outset.

Illinois’ bad faith statute for insurers is codified at Section 155 of the Illinois Insurance Code. Among other things, the statute allows insureds to recover their legal fees if the insurer handled the insured’s claim unreasonably.

This bad faith statute should not apply to surplus lines insurers. Section 445 of the Illinois Insurance Code provides that “[s]urplus lines insurance . . . is not subject to the provisions of the Illinois Insurance Code other than Sections 123, 123.1, 401, 401.1, 402, 403, 403A, 408, 412, 445, 445.1, 445.2, 445.3, 445.4, and all of the provisions of Article XXXI to the extent that the provisions of Article XXXI are not inconsistent with the terms of this Act.”

The statute seems clear. With the exception of the enumerated provisions, the Illinois Insurance Code does not apply to surplus lines insurers.

The bad faith statute is part of the Illinois Insurance Code and is not one of the enumerated provisions. So, there shouldn’t be a cause of action for statutory bad faith against surplus lines insurers.

What have the courts said on this? Not much. Only one has addressed the question. That decision — Great Lakes Dredge & Dock Co. v. Commercial Union Assur. Co., 2000 WL 1898533, 2000 U.S. Dist. LEXIS 18893 (N.D. Ill.) — appears to recognize that the bad faith statute does not apply to surplus lines insurers. But the decision isn’t conclusive. Great Lakes involved an insurer who wasn’t actually a surplus lines insurer. The bad faith statute therefore applied. And any suggestion that the bad faith statute would not apply to surplus lines insurers is dicta.

Beyond Great Lakes, there’s a possible argument that Illinois broadly construes all statutory protections provided to surplus lines insurers. Consider Section 121 of the Illinois Insurance Code. Subsection 1 of that statute declares it unlawful for an insurer to transact insurance business in Illinois without a certificate of authority. Yet surplus lines insurers are exempt from that subsection, allowing them to transact business without a certificate.

Enter subsection 4 of Section 121. That subsection bars insurers that transacted business in Illinois without a certificate from filing an action relating to the policy. Unlike subsection 1, there is no exemption for surplus lines insurers.

Yet an Illinois court still found one. In Cork v. Associated International Insurance Managers, 58 Ill. App. 2d 331, the court broadly construed subsection 1’s exemption to apply it to subsection 4. Cork essentially says that Illinois takes its statutory protections for surplus lines insurers seriously — so seriously that courts will extend a statutory protection in one section to apply to a different section. If Illinois courts will create statutory exemptions for surplus lines insurers where they don’t exist, they sure should enforce the plain text of Section 445.

We can even throw public policy into the mix. Surplus lines insurers should be exempt from Illinois bad faith laws. Surplus lines insurers serve an important role in Illinois: they insure the risks that others won’t. And “it is better that a citizen of Illinois be able to insure a risk at less than standard coverage, than that he not be able to secure any protection at all.” Corday’s Dept. Store, Inc. v. New York Fire & Marine Underwriters, Inc., 442 F.2d 100 (7th Cir.).

Bottom line: Surplus lines insurers have a great shot at wiping out bad faith claims on a motion for judgment on the pleadings. While it is not an absolute thing, it’s certainly worth taking the shot.