Arson Investigations and the Pursuit of Bad Faith Claims

Arson is a criminal act, but since the advent of insurance, arson has been used to “extort money from insurance companies.”

Arson for profit schemes grew exponentially in the 1970s, according to the House Committee on Governmental Affairs—and as a result, the U.S. Congress began investigating how to address the role of the insurance industry in dealing with arson.

Back then, arson was considered to be a $1.6 billion dollar industry. The recommendations that came out of the congressional investigation included a focus on underwriting practices, increasing special investigative units and modifying privacy laws and fair claims practices laws

Most of those suggestions have been put into play; however, the impact of arson on the industry remains significant. Insurance fraud is now considered to be the second costliest white-collar crime in America after tax evasion, costing consumers an estimated $308.6 billion each year, National Insurance Crime Bureau figures show. Insurance fraud remains pervasive, and combatting fraud is a challenge for all involved.

In Georgia, an insurance company asserting an arson defense must provide evidence that: (1) the fire was of incendiary origin, (2) the insured had the motive to have the fire set and (3) either the insured had the opportunity to have the fire set or unexplained surrounding circumstantial evidence implicates the insured. Essentially, “evidence of incendiary origin and motive by themselves are not sufficient to establish an arson defense; there must be in addition some evidence which would link the suspect to the arson.”

Therefore, key elements for success in an arson fraud case include a prompt and thorough on-site investigation to establish that the fire was the result of an intentional human act, detailed witness interviews and gathering admissible evidence to establish motive and opportunity. Insurers should not rely on the responding firefighters to establish the first element. Instead, once red flags are identified, insurers should retain a qualified and independent origin and cause investigator to conduct a scene inspection and be prepared to testify and present evidence in court of their findings.

In addition to prompt witness interviews, continuing a thorough investigation with an examination under oath of the insured(s) is critical because an EUO, unlike a recorded statement, can be useful as impeachment evidence should the matter go to trial. An EUO also provides insurance carriers with earlier and broader access to information than a deposition. One example of the benefits of an EUO is that an insured may not invoke legal privileges, even the Fifth Amendment right against self-incrimination. Finally, utilizing the resources of the policy’s cooperation requirements, insurers should also demand that the insured fully cooperate and produce critical and relevant records and documents. This evidence can then be used to establish that the insured had both the motive and the opportunity to set the fire. Items to collect should include activity records such as phone records and social media posts, financial records showing income and expenditures and documentation to support ownership of the items claimed.

If a claim is denied and the insured files suit, pretrial discovery also plays a critical role in uncovering fraud since the determination of whether an insurer’s decision was made in bad faith depends upon the sufficiency of its evidence in court.

Your legal counsel should be seeking legally credible and reliable copies of all documents relied upon for the arson and fraud defense to ensure the records will be admissible in litigation. This includes getting certified copies of those phone records and bank statements secured in the preliminary investigation. It is important to document the claim file thoroughly with as much information as possible but also to understand that certain information may require a subpoena to be obtained from other sources if the claim progresses into litigation.

Additionally, and to avoid bad faith and potential extracontractual penalties in the current litigious environment, claims professionals must conduct their investigations while considering regulatory requirements, case law and industry standards, along with the potential legal ramifications of failing to adequately investigate suspicious claims. Most states have an Unfair Claims Practices Act or similar statute that penalizes insurers that unreasonably fail to settle covered claims.

It is important to stay up to date on your state’s laws, both statutory and common law, to ensure you are complying with the processes and time limits set forth by the governing body of your state. Keep in mind that most states require an insurer to satisfy not only the procedural requirements of a state’s bad-faith statute but also the substantive requirements of the statute. For example, under Georgia law, there can be no finding of bad faith under O.C.G.A. § 33-4-6 if “it can be said as a matter of law that there was a reasonable defense which vindicates the good faith of the insurer” and that “the insurer had reasonable and probable cause for making a defense to the claim.”

Finally, insurance carriers also must consider the potential exposure for failing to investigate claims, whether failing to investigate based upon a cost-benefit analysis or based upon some urgency in processing claims such as in a catastrophe setting.

Arson and insurance fraud is a crime in every state. Many states have insurance fraud bureaus or departments that investigate illegal insurance activities (whether by carriers or by policyholders). Several states require insurers to have mandatory fraud plans and to report insurance fraud when discovered. Several states also have immunity laws designed to enable insurance companies to report their fraud without limited risk of criminal or civil prosecution. Investigating arson and fraud is, in many states, an insurer’s obligation. “An insurance company has a ‘responsibility to marshal all … facts’ necessary to make a determination as to coverage ‘before its refusal to pay.'”

Although certainly not a new problem, arson continues to be an ongoing problem for insurance companies. Diligent claim handling is using all resources that the policy and applicable law provides you while allowing your inherent curiosity to lead you to the proper legal and ethical conclusion.

Segel is a partner at the law firm Swift Currie. She represents insurance carriers and businesses in commercial litigation and insurance coverage matters with an emphasis on defending against bad faith and fraudulent claims. Email: melissa.segel@swiftcurrie.com.