Following the Michigan Supreme Court’s 2018 decision in Bazzi v Sentinel Ins Co, lower courts were given the vague mandate to “balance the equities” between innocent defrauded insurance companies and innocent injured third-party claimants when a policy is rescinded.
Some courts responded by preparing their own lists of equitable considerations, while others borrowed from the “nonexclusive list of factors” proffered by Justice Stephen Markman in Farm Bureau Gen Ins Co of Mich v ACE American Ins Co, 503 Mich 903 (2018) (Markman, J., concurring). Because the factors appeared in a non-binding concurrence from an order denying leave to appeal that was not joined by a majority of the Court, they were not binding upon lower courts.
However, in a published opinion adopting the Markman factors as a “workable framework,” the Court of Appeals appears to have settled the question of whether all courts should use the factors to balance the equities. Pioneer State Mut Ins Co v Wright, — Mich App — (February 11, 2020) (Docket No. 347072). While the decision takes the guesswork out of what equitable considerations are relevant, the factors seem to weigh against defrauded insurers in most cases. The five factors are:
- The extent to which the insurer could have uncovered the subject matter of the fraud before the innocent third party was injured;
- The innocent third party’s knowledge of the fraud;
- The nature of the innocent third party’s conduct, whether reckless or negligent, in the injury-causing event;
- The availability of an alternate avenue of recovering PIP benefits;
- Whether policy enforcement would relieve the fraudulent insured of his or her personal liability to the innocent third party.
So what do these five factors mean for insurers pursuing rescission defenses in cases involving innocent third parties?
While denying that the first factor represents a return to the “easily ascertainable” defense to rescission rejected by the Supreme Court in Titan Ins Co v Hyten, 491 Mich 547 (2012), the Court of Appeals in Wright admits that the factor examines whether there could have been “a more diligent effort on [the insurer’s] part to discover contradictions or omissions in [the insured’s] application any earlier” than after the accident. Wright, slip op at 7-8.
The second factor seems self-evident, as an “innocent” third party would not have been aware of, or a party to, the fraud on the insurer.
The third factor could potentially tip the scales in the insurer’s favor, but only if the claimant caused the accident or was operating a vehicle despite not being disclosed on the policy. A passive but undisclosed claimant, like the innocent third party in Wright (an undisclosed adult son of the named insured who was injured while a passenger) would get the benefit of the equities despite increasing the risk on the policy.
The fourth factor—an alternate source of benefits—also appears promising, but in practice is frequently dependent upon the claimant’s own diligence. In Wright, the Court rejected the insurer’s argument that the claimant could have sought benefits from the MACP or another insurer because, by the time the appeal was litigated, the claims would have been barred by the one-year-back rule. “[T]he fourth factor considers the present situation, not whether an injured party could have done something different to have more options in the future.” Id.
The fifth factor appears to apply only in situations where the fraudulent insured was the negligent driver who injured the innocent third party, and would be liable in tort if the policy was rescinded. At first blush, this factor appears to favor the insurer; however, if actual recovery were unavailable from the fraudulent insured (due to immunity or lack of assets), then courts might still bar rescission under the fourth factor if no alternate source of benefits actually exists.
Generally speaking, the five equitable factors endorsed by the Court in Wright will impose liability on an insurer for benefits to an innocent third-party claimant, despite valid rescission of the policy. In particular, liability is likely where the claimant did not know about the insured’s fraud in procuring the policy, and where the claimant was not driving as an undisclosed driver or otherwise at fault for the accident, unless an alternate source of benefits is actually available.
Moving forward, insurers should make rescission determinations as soon as reasonably possible and identify other sources of benefits for injured third-party claimants. This will lessen the risk that when the equities are weighed, the insurer is the only potential source of benefits for the claimant.