The relationship between an insurance company and a policyholder is one of dependence and inequality. Insurance policies generally represent contracts of adhesion, a term which refers to a standardized contract drafted by the dominant party (the insurer)—to meet its own needs—for acceptance by the subordinate party (the insured), and which, due to the disparity in bargaining power between the parties, must be accepted or rejected by the insured on a ‘take it or leave it’ basis, without opportunity for bargaining and under such conditions that the insured cannot obtain the desired protection except by acquiescing in the form agreement.”[1]
The insurer enters many such transactions, and the insured enters only a few. The entire policy is never presented when the insured first purchases it. The document typically is not read by the insured and, even if read, is likely unintelligible to a layperson. The terms are not subject to negotiation; the insured may be offered varying policy limits, endorsements, and amendments, but those alternatives do not alter the dependence and inequality that permeates the relationship.
A quintessential example of the adhesive nature of insurance policies is the ISO HO-3 standard form homeowner’s policy.[2] The HO-3 form is an all-risk policy (aka open perils) that covers any direct damage to the house or other structures on the property unless specifically excluded. Coverage for personal property under the HO-3 form is limited to the named perils only. While reviewed and approved by state regulators, a cursory review of the policy reveals that the form is drafted entirely for the benefit of insurers.
The insurance policy specifies a premium the insured pays to obtain coverage on the declarations page. That premium reflects the insured’s principal promise under the policy and the sole benefit of the bargain that the insurer seeks in issuing into the policy. The insured has additional duties under the policy, reflecting various subordinate promises to protect the insurer during the claims process, including the following eight enumerated duties after loss:
- Give prompt notice to the insurer of a loss
- Protect the property from further damage
- Cooperate with the insurer in the investigation of the claim
- Prepare an inventory of damaged personal property (with specific details on quantity, cash value, and amount of loss)
- Show the property upon request
- Provide upon request all records and documents relating to the damaged property
- Submit to an examination under oath
- Submit detailed proof of loss upon request (including time, cause of loss, and detailed repair estimates).
The insured’s specific obligations following a claim are expressly and precisely captured in the policy’s terms and conditions.[3]
The ISO HO-3 standard policy further provides that the insurer’s performance is conditioned on the insured’s compliance with their duties under the policy. An insured may not institute suit against an insurer to recover under the policy unless they have complied with each of the preceding duties.[4] A violation of these duties without good cause often gives rise to forfeiture of benefits and the right to sue, particularly where the insurer has suffered substantial prejudice in its investigation of the claim.[5]
In exchange, the insurer promises to pay a covered loss if one occurs.[6] That is the entirety of the insurer’s express obligations on the benefit of the bargain to the insured. The policy does not explicitly require the insurer to:
- Conduct thorough, fair, or objective claim investigations
- Honestly assess coverage
- Communicate truthfully with the policyholder
- Provide accurate or complete information
- Pay covered claims promptly
The policy has no provisions requiring the insurer to perform to the insured’s reasonable expectations or to treat the insured genuinely or fairly. This disparity in contractual obligations highlights the adhesive nature of insurance policies. The insurer’s performance is conditioned on the policyholder’s compliance, yet the policy lacks provisions requiring the insurer to meet the policyholder’s reasonable expectations or to treat them fairly and honestly.
The current state of homeowner’s insurance policies reveals a systemic imbalance that has existed for 70 years—one that favors insurers at the expense of policyholders. This inequity undermines the fundamental purpose of insurance: to serve the public’s interest and provide protection and peace of mind in times of loss.
[1] Steven v. Fidelity & Casualty Co., 58 Cal.2d 862, 882 [377 P.2d 284] (1962); see also, Gray v. Zurich Insurance Co., 65 Cal.2d 263, 168 [419 P.2d 168] (1966). See also, generally, Friedrich Kessler, The Contracts of Adhesion — Some Thoughts about Freedom of Contract Role of Compulsion in Economic Transactions Contract Role of Compulsion in Economic Transactions, 43 Columbia L. Rev. 629 (1943). Courts typically address the adhesion issues in the context of onerous or unconscionable terms, evaluating the presence of both procedural and substantive elements, with the former focusing on “oppression” or “surprise” due to unequal bargaining power and the latter focusing on the “one-sided” or “overly harsh” results. In recent years, the adhesion issue has often arisen in the context of an attempt to vitiate an arbitration provision as unconscionable. See, e.g., Higgins v Superior Court, 140 Cal.App.4th 1238 [45 Cal.Rptr.3d 293] (2006) (mandatory arbitration provision in television appearance agreement held procedurally and substantively unconscionable and unenforceable); Elite Logistics Corp. v. Hanjin Shipping Co., 589 Fed. Appx. 817 (9th Cir. 2014) (mandatory arbitration provision held procedurally and substantively unconscionable and unenforceable).
[2] The Insurance Services Office (ISO)—a national insurance industry trade group formed in 1971—drafts and promulgates standard form insurance policies for use by the industry. These forms are submitted for approval to state regulators and generally become the basis for issued policies. Some insurers use unaltered ISO forms, while others use modified versions or draft their versions. ISO currently offers nine standard homeowner policies: HO-1 through HO-8 and HO-14. Five of the policies (HO-1, HO-2, HO-3, HO-5, and HO-8) are for homeowners; HO-4 and HO-14 are for renters; HO-6 is for condominium unit owners; and HO-7 is for mobile homeowners. The HO-3 homeowners’ policy is the most purchased. The current version (HO 00 03 03 22), released in March 2022, reflects the same terms, conditions, and eight duties for insureds on claims adjustment that were present in the 2011 version (HO 00 03 05 11), the 2000 version (HO 00 03 10 00), and the 1991 version (HO 00 03 04 91), with the exception that the insured’s catch-all duty to “[c]ooperate with [the insurer] in the investigation of a claim” was added to the 2000 and later versions. Insurers’ terms, conditions, and duties on claims adjustment are conspicuously absent from the current and predecessor ISO forms.
[3] California Insurance Code § 2071, first enacted in 1950, sets forth the standard form of fire insurance policy for use in California. The form applies to all homeowner policies covering residential structures of not more than four dwelling units, such that the policy terms must be no less favorable to the insured than those found in the statute. See Cal. Ins. Code §§ 10082.3 and 10087. The form includes the insured’s duties after loss and an appraisal process, and they reflect the same duties for the insured as the ISO HO-3 standard form policy, except that the California terms and conditions have not yet been updated to incorporate the insured’s catch-all duty to cooperate that was added to the ISO HO-3 form in 2000. California law also requires that the insurer notify the insured that the insured may obtain certain claim-related documents upon request. Like the ISO HO-3 policy, the insurer’s duties for evaluating and processing claims are not reflected in the form. California law also requires that neither party misrepresent nor conceal information from the other, yet the HO-3 policy only captures the insured’s duty.
[4] See ISO HO-3 form, which provides that “[n]o action can be brought against [the insurer] unless there has been full compliance with all of the [insured’s duties under] the policy …” See also Cal. Ins. Code § 2071, requiring the insured’s full compliance with the policy terms as a condition precedent to filing suit.
[5] A clause in an insurance policy authorized by statute is valid, enforceable, and deemed consistent with public policy established by the Legislature. Prudential-LMI Commercial Ins. v. Superior Court, 51 Cal.3d 674, 684 [798 P. 2d 1230] (1990). Courts have uniformly upheld the limitations and compliance provision of Insurance Code 2071 for suits on claims, albeit often with due consideration of other legal principles and caselaw, such as the delayed discovery rule, estoppel, and equitable tolling. See, e.g., Marselis v. Allstate Ins. Co., 121 Cal.App.4th 122, 125 [16 Cal.Rptr.3d 668] (2004); Kapsimallis v. Allstate Ins. Co., 104 Cal.App.4th 667, 672-673 [128 Cal.Rptr.2d 358] (2002); Vu v. Prudential Property & Casualty Ins. Co., 26 Cal.4th 1142, 1147-1149 [113 Cal.Rptr.2d 70] (2001); Aliberti v. Allstate Ins. Co., 74 Cal.App.4th 138 [87 Cal.Rptr.2d 645] (1999), 142-148; Prieto v. State Farm Fire & Casualty Co., 225 Cal.App.3d 1188, 1192-1997 [275 Cal. Rptr. 362] (1990). Similarly, courts have upheld the insured’s forfeiture of rights for failing to comply with the duties after loss provision in the policy. See e.g., Abdelhamid v. Fire Ins. Exchange, 182 Cal.App.4th 990, 999-1001 [106 Cal.Rptr.3d 26] (2010) (failure to submit proof of loss); Brizuela v. CalFarm Ins. Co., 116 Cal.App.4th 578, 587 [10 Cal.Rptr.3d 661] (2004) (failure to submit to examination under oath ) (Brizuela); Robinson v. National Auto. Etc. Ins. Co., 132 Cal.App.2d 709, 714-716 (1955) (failure to answer questions at an examination under oath). However, the court upheld forfeiture in each instance because the insurance company was prejudiced in performing its investigation. Courts have held an insured’s lack of compliance, absent prejudice, or, if reasonable, not fatal to a claim. See, e.g., Campbell v. Allstate Ins. Co., 60 Cal.2d 303, 305-307 [384 P.2d 155] (1963) (failure to provide notice must substantially prejudice insurer); Brizuela, supra, at 587.
[6] The insurer’s obligations are so amorphous that the standard homeowner’s policy never states that the insurer will pay for the losses arising from a covered claim, let alone timely pay. The policy merely states the insurer “will provide the insurance described in this policy in return for the premium and compliance with all applicable provisions of this policy,” and the insurer will “insure against direct physical loss to property described in Coverages A and B.” See, e.g., ISO form HO-3, AGREEMENT, and SECTION I – PERILS INSURANCE AGAINST, respectively.