An insurer that unjustly denies a disability claim is now more likely to be hit with damages for causing mental distress to the insured person.

This follows a Supreme Court of Canada decision, Fidler v. Sun Life Assurance Co. of Canada, released June 29, in which the country’s top court has ruled that damages for mental distress caused by denying a disability claim should be recoverable when evidence shows that the claim should have been paid.

“Mental distress is an effect which parties to a disability insurance contract may reasonably contemplate may flow from a failure to pay the required benefits,” the SCC says in the Fidler decision.

“This is perhaps the clearest statement in law for compensatory damages for breaching ‘peace of mind’ contracts,” says Harold Geller, a partner with Milton Geller LLP in Ottawa and a member of the Ontario Trial Lawyers Association.

The ruling is good news for advisors as well as clients, Geller says. Advisors believe they are providing peace of mind when they sell disability policies — and their clients believe the same thing, he says. So when a client has properly filled out an application form and paid all the premiums, there is an expectation that benefits will be paid.

“If disability occurs,” the SCC says in Fidler, “and the insurer does not pay when it ought to have done so in accordance with the terms of the policy, the insurer has breached this ‘reasonable expectation of security’.”

If this expectation is not fulfilled, says Geller, advisors and insurers can become the target of lawsuits: “This decision helps the advisor by making it more difficult for insurers to ignore the commitments to the advisors’ clients.”

The court case involved Connie Fidler, who worked as a receptionist at a Royal Bank of Canada branch in Burnaby, B.C., where she was covered by a Sun Life group policy that included long-term disability benefits. For more than five years, Sun Life denied Fidler the long-term disability benefits to which she was entitled.

The trial judge awarded Fidler $20,000 in aggravated damages. This decision was based on the 1996 B.C. Court of Appeal decision in Warrington v. Great-West Life Assurance Co., which held that aggravated damages can be awarded if the contract is one for “peace of mind.” In the judge’s view, a long-term disability insurance contract is such a contract.

The B.C. Appeal Court upheld this award but also ordered Sun Life to pay $100,000 in punitive damages for acting in bad faith when assessing Fidler’s claim. It focused on the fact that Sun Life decided to terminate benefits in the absence of any medical evidence indicating Fidler was able to return to work.

Although the SCC upheld the award for mental distress, it overturned the BCSC’s award for punitive damages. The SCC reasoned: “An insurer will not necessarily be in breach of the duty of good faith by incorrectly denying a claim that is eventually conceded, or judicially determined, to be legitimate.”

Despite that, says Geller, speaking on behalf of the OTLA, the case “reinforces the insurer’s obligation of good faith to the insured person, confirming that the failure to meet that duty can result in an award of punitive damages, though the insurer in Fidler was not found to be in bad faith.”

Steven Muller, an associate with David Share Associates, a Toronto law firm that specializes in disability and personal injury claims, says he hopes this decision will make insurers more cautious when assessing disability claims.

Muller predicts that claims for mental distress damages will become more common and will be a factor in negotiations to settle claims before they get to trial. The bar for mental distress damages has now been lowered in disability cases.

He notes that, although the award in this case was $20,000, it could have been higher. Geller agrees, noting that had this case been heard by a jury, the award could have been much bigger.

Sun Life’s vice president of public and corporate affairs, Michel Leduc, is cautious in his reaction to the SCC decision: “We continue to study the Supreme Court’s decision and we anticipate all disability insurers are assessing the implications of the judgment on the industry as a whole.”

Leduc adds: “Disability claims are often complicated and highly subjective. Importantly, the court agreed with the trial judge’s finding of no improper purpose on the part of the company and dismissed the claim for punitive damages. Still, we will continue to review our practices with a view to the best interests of policyholders, while considering evolving standards set by the courts.”

@page_break@Fidler’s case began in 1990, when at age 36, she became ill with an acute kidney infection, resulting in hospitalization for several days. Afterward, she continued to suffer from fatigue and was eventually diagnosed with chronic fatigue syndrome and fibromyalgia.

She began receiving long-term disability benefits in January 1991. Her benefits continued until May 1997, when Sun Life informed her that “as a result of a non-medical investigation revealing that your activities are incompatible with your alleged disability,” benefit payments would be terminated.

The non-medical investigation consisted of video surveillance and a “lifestyle questionnaire” Fidler completed at Sun Life’s request. Fidler described her activities as “rarely going shopping … no hobbies … no entertainment … recreation limited to occasional camping.” She expressed a preference not to drive “because of fatigue and pain.”

Sun Life’s denial of benefits was followed by almost two years of correspondence with Fidler, involving medical professionals, investigators and claims examiners.

Sun Life did not pursue a suggestion made as a result of an independent medical examination that Fidler “embark upon a graduated training program.” Instead, Sun Life’s internal medical consultant, who did not communicate with Fidler, concluded that there was no evidence to support that “this lady cannot perform at a light physical, clerical or sedentary job on a regular basis.”

In February 1999, Fidler launched her lawsuit. In April 2002, a week before the trial was to begin, Sun Life offered to reinstate her benefits and to pay all outstanding amounts along with pre-judgment interest: $52,516.10. As a result, the trial dealt only with Fidler’s entitlement to aggravated and punitive damages.

Settling at the courtroom door is a common insurance litigation tactic, Geller says. It leaves aggravated and punitive damages as the only issues to be litigated — and they’re harder to prove.

This case, however, went forward. In assessing damages, the SCC has said that insurance contracts are different from regular commercial contracts: “It is not unusual that a breach of contract will leave the wronged party feeling frustrated or angry. The law does not award damages for such incidental frustration. The matter is otherwise, however, when the parties enter into a contract, an object of which is to secure a particular psychological benefit.”

The SCC went on to make a definitive statement about mental distress damage awards for breaches of insurance contracts: “The first question is whether an object of this disability insurance contract was to secure a psychological benefit that brought the prospect of mental distress upon breach within the reasonable contemplation of the parties at the time the contract was made. In our view, it was. The bargain was that, in return for the payment of premiums, the insurer would pay the plaintiff benefits in the case of disability.”

The court has also distinguished mental distress damages from a separate claim for aggravated damages, says Muller. The SCC points out that mental distress damages are based completely on the parties’ expectations at the time of contract formation, he notes. IE