Most people do not understand that there are two main kinds of law. The first, most people are familiar with, and we will call statutory law. This is the law that is written down by the legislative branch of government. For purposes of Insurance Law, it is the Sections, Chapters, and Subchapters of the Insurance Code.
The other kind of law, which most people are not aware of, is called the “common law”. The common law is the law that applies to situations even though the law is not specifically written down in a book somewhere.
Under Texas law, there is a “common law” duty for an insurance company to deal with one of its insureds in certain ways. This is called the the duty of good faith and fair dealing. When an insurance company does not honor its common law duty of dealing with one of its insureds in good faith, it is called “bad faith”. This concept was discussed by the Texas Supreme Court in 1987, in the case Arnold v. Nat. County Mut. Fire Ins. Co.
In July 1997, the Texas Supreme Court, more or less redefined bad faith in a trio of cases; The Universal Life Ins. Co. v. Giles, United States Fire Ins. Co. v. Williams, and State Farm Lloyds v. Nicolau. After these cases the new standard said the insured must show that the insurance company denied the claim after liability became reasonable clear. For an insured to show that liability had become reasonably clear he must show the insurance company had no reasonable basis for denial of the claim. Taking this a step further, the insured must also show the insurance company knew or should have known there was no reasonable basis for denial of the claim.
The bottom line is an experienced Insurance Law Attorney will tell you that the end result of these cases is that there is a lot of litigation over clarifying what “lack of reasonable basis” means. One thing it means is that just looking in hindsight is not good enough. The Courts will look at, what were the facts existing at the time the claim was denied.