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In Colony, both Colony and Crusader insured an apartment building in Los Angeles that became the subject of a tenant lawsuit. The apartment building was insured by Crusader from December 2003 to December 2004, after which Colony insured the building. Colony sought a declaration that Crusader improperly refused to defend the tenant lawsuit and share the costs incurred in defending the tenant litigation.

An application for coverage on the apartment building was submitted to Crusader in November 2003. In the application, the insured indicated that the building had been inspected by a governmental department in 1999 and 2000, but failed to disclose inspections occurring in 2002. The insured also failed disclose that in 2002 a governmental department found deficiencies and code violations. At the time it issued the policy, Crusader was unaware of the insured’s omissions, but denied coverage for the tenant lawsuit once it learned of the material misrepresentations and concealments in the application.

Colony sued Crusader, seeking a declaration that the misrepresentations and concealments in the application were not material and for payment from Crusader for a portion of the defense costs in the tenant litigation. At trial, the insured admitted that the 2002 citations should have been included in the application, and the evidence demonstrated that if the 2002 citations had been revealed, Crusader would not have insured the building. However, the evidence also demonstrated that Crusader failed to comply with its internal underwriting guidelines in issuing the policy. The trial court entered judgment in Crusader’s favor.

On appeal, Colony relied on principles of equitable estoppel and waiver to argue that Crusader was precluded from denying coverage for the underlying litigation because it failed to follow its internal underwriting guidelines. The Court of Appeal rejected these arguments on the grounds that Colony forfeited the arguments by failing to timely raise them in the trial court, but also found the contentions lacked merit.

First, the Court of Appeal found that there was no estoppel. The Court stated that Crusader’s internal guidelines, standing alone, did not create any rights enforceable by Colony. In so holding, it noted that the insurance agreement reinforced this conclusion: “By acceptance of this policy, the insured agrees ... that this policy embodies all agreements existing between the insured and the company or any of its agents relating to this insurance.” Further, there was no evidence that the insured detrimentally relied on the guidelines when applying for the policy. Thus, Crusader was not estopped from denying coverage for failing to comply with its own guidelines.

Similarly, the Court of Appeal held that Crusader had not waived its right to deny coverage based on the misrepresentations due to a failure to comply with its internal underwriting guidelines. In so doing, the Court cited to Insurance Code § 336, which provides:

The right to information of material facts may be waived, either (a) by the terms of insurance or (b) by neglect to make inquiries as to such facts, where they are distinctly implied in other facts of which information is communicated.”

The Court also noted that Colony failed to provide any explanation as to how Crusader’s internal guidelines could rewrite the provisions in the Insurance Code expressly permitting an insurer to rely on an insured’s representations in the application when issuing a policy.

Finally, Colony attempted to rely on Hailey v. California Physicians’ Service, 158 Cal. App. 4th 452 (2007), to contend that Crusader engaged in post-claims underwriting in violation of Health & Safety Code § 1389.3.

The Court of Appeal dismissed this argument, indicating that Colony’s

reliance on Hailey is misplaced because Hailey applied a specific statute applicable to health services plans. This case does not involve a health services plan and the prohibition on post-claims underwriting in section 1389.3 is inapplicable.”

Colony also attempted to rely on Barrera v. State Farm Mutual Automobile Insurance Co., 71 Cal. 2d 659 (1969), to support its argument that Crusader engaged in post-claims underwriting. The Court rejected this argument, relying in part on Nieto v. Blue Shield of California Life & Health Insurance Co., 181 Cal. App. 4th 60 (2010), because Barrera involved an automobile liability insurer and the public policy of protecting injured third parties, neither of which was a concern in the present case.

Thus, judgment in Crusader’s favor was affirmed.

On May 17, 2005, Ghazaryan gave birth prematurely to twin girls, which were conceived as a result of in vitro fertilization (“IVF”). On or about November 11, 2005, the Plaintiffs’ case was referred to Blue Shield’s eligibility review unit (“ERU”), which was responsible for investigating potential material misrepresentations or nondisclosure of medical history by Blue Shield subscribers. In the course of its investigation, the ERU obtained medical records revealing that Ghazaryan had begun IVF treatments in 2004 and also had undergone a “D & C procedure” for spontaneous abortions in October 2002 and October 2004. The records also showed that on October 12, 2004, Ghazaryan was seen for an infertility evaluation and was scheduled for the various steps of the IVF procedure. During discovery, Blue Shield also learned that in 2002, the Plaintiffs had undergone fertility treatment including IVF, and that their second round of IVF treatment began on August 17, 2004, before they first applied to Blue Shield.

There were several places on the application to Blue Shield where the Plaintiffs should have disclosed their previous and ongoing infertility treatments, but they failed to do so. Had the Plaintiffs disclosed that they were being treated for infertility, Blue Shield would not have issued coverage to them. On March 24, 2006, Blue Shield sent the Plaintiffs a letter advising them that their coverage had been rescinded, effective November 1, 2004. The Plaintiffs filed suit against Blue Shield in July 2006, and on October 29, 2005, the trial court entered judgment in favor of Blue Shield following its motion for summary judgment. The Plaintiffs appealed.

The Court of Appeal first acknowledged the leading decisions of Hailey v. California Physicians’ Service, 158 Cal. App. 4th 452 (2007), and Nieto v. Blue Shield of California Life & Health Ins. Co., 181 Cal. App. 4th 60 (2010), which also dealt with rescission of a member’s coverage by a health care service plan. (See summary of Nieto here.)

The Court noted that, as discussed in Hailey, a health care service plan is entitled to rescind a plan contract on the basis of material misrepresentations in the application if either of the following two conditions is satisfied: (1) The plan completed medical underwriting before issuing the plan contract; or (2) the subscribers willfully made material misrepresentations in their application. According to the Hailey court, to complete medical underwriting the plan must “make reasonable efforts to ensure a potential subscriber’s application is accurate and complete.”

Thus, the Court of Appeal in Nazaretyan first examined whether Blue Shield provided sufficient facts to demonstrate as a matter of law that it had completed medical underwriting. It determined that Blue Shield had not, for purposes of summary judgment, provided sufficient facts in that regard with respect to the Plaintiffs’ coverage.

In reaching this conclusion, the Court of Appeal specifically noted that Blue Shield did not identify what efforts it undertook, beyond making sure that no required fields in the application were left blank and checking its own systems, to otherwise confirm that the Plaintiffs’ application was accurate and complete.

The Court next examined whether the Plaintiffs willfully misrepresented information in their application to Blue Shield. According to the Plaintiffs, their broker filled out the applications, and they merely signed the applications without reading them. Their broker, Yusop, testified that, apart from the signatures, all of the handwriting on the applications was his. The Plaintiffs further asserted that because of both their limited education and English language skills (both were immigrants) and Yusop’s expertise, they trusted and relied on him to ask them for any necessary information and to record the information accurately on the application (as well as to copy certain information from a previous application in his files). Because the Court of Appeal had to accept these facts as true in ascertaining whether summary judgment was appropriate (and specifically noted that it did not hold the Plaintiffs’ version of the facts as true), it found that as a matter of law it could not conclude that the Plaintiffs willfully misrepresented information in their application.

In addition, the Court of Appeal rejected Blue Shield’s argument that the rescission did not constitute unlawful postclaims underwriting because it was not “due to” any underwriting failure on the part of Blue Shield, as required by Health & Safety Code § 1389.3. Blue Shield contended that the Plaintiffs introduced no evidence that “had any further inquiry of some sort been made [by Blue Shield,] it would have revealed the concealed information.” The Court of Appeal rejected this argument, concluding that Blue Shield failed to carry its initial burden on the argument for purposes of summary judgment; thus, the burden never shifted to the Plaintiffs to introduce evidence of their own.

Finally, the Court of Appeal affirmed the grant of summary adjudication on the Plaintiffs’ bad faith and punitive damage claims against Blue Shield. In so doing, the Court specifically distinguished Hailey, where the appellate court reversed summary adjudication on bad faith and punitive damages, noting that unlike Hailey, there was no evidence of any delay on Blue Shield’s part in investigating and rescinding the agreement.