HONOLULU-Some insurers worry that a recent Hawaii Supreme Court decision allowing employees to sue workers compensation insurers could generate new lawsuits and increase their costs.

Employers, though, are not as alarmed and say that proper claims handling should avoid such a exposure.

In addition, in a soft workers comp market, such an exposure is unlikely to force rates higher, one risk manager says.

"Our overall concern is that this ability to sue insurance companies for bad faith is probably going to drive the cost of claims up," said Sam Sorich, assistant vp of the National Assn. of Independent Insurers in Sacramento, Calif.

With allegations being made, claims handlers "are going to have a Sword of Damocles hanging over their heads" when they try to settle workers comp claims, he said. The threat of a lawsuit could pressure some insurers to decide cases more liberally in favor of the worker, rather than risk a lawsuit over a claims denial.

The Hawaii Supreme Court ruled in Hough vs. Pacific Insurance Co. Ltd. that an injured worker is not barred from suing his employer's workers compensation insurer where the third-party claim is based on allegations that the insurer committed intentional torts and acted in bad faith in processing the claim, resulting in separate and additional injury to the employee.

The high court said courts in other states support its reasoning, including Montana, Iowa and Minnesota, which have considered the same issue under similar statutes.

The Hawaii case stems from the treatment of workers compensation claims filed by Jeffrey J. Hough, who injured his back in 1985 while working for a construction company.

He suffered a recurrence while working for another company in 1987 and a filed the second claim. Both employers denied responsibility for the injury.

However, both employers were insured by Pacific Insurance Co. Ltd., a unit of ITT Hartford Group Inc. Pacific first made payments to Mr. Hough under protest and then terminated them, according to the court papers.

Mr. Hough's doctor wrote to the insurer, saying that stress related to the denial of benefits was diminishing his ability to recover.

A psychiatrist also examined Mr. Hough and found him to be depressed and suicidal, in addition to gaining 25 pounds.

Hawaii's Department of Labor and Industrial Relation's Disability Compensation Division found the stop of benefits was unlawful and that Pacific, as the insurer for both employers, should have paid the claims despite the employers' dispute over who was responsible, according to the court papers. The court said it was clear liability would attach to one of Pacific's insured employers.

Mr. Hough then sued Pacific in circuit court over the insurer's claims handling, alleging intentional infliction of emotional distress and breach of fiduciary duty. The trial court granted Pacific's motion for summary judgment, agreeing that the exclusive remedy for an injured worker protects workers comp insurers, not just employers.

Hawaii's high court disagreed, ruling Mr. Hough may sue for breach of contract and bad faith. However, the Supreme Court agreed with a lower court on the grounds of breach of fiduciary duty.

"No fiduciary relationship exists between the employee and the insurer in such a situation," the Hawaii Supreme Court said.

The court also found that Mr. Hough's alleged emotional distress occurred during Hough's attempt as a claimant to receive compensation from the insurer, not from functions in the scope of his employment as a construction worker.

Therefore, this injury was a tort not subject to the exclusive remedy doctrine. The Supreme Court remanded the case to the lower court, and a trial is scheduled for next year.

Pacific did not improperly handle Mr. Hough's claims, said Calvin E. Young, a partner in the Honolulu firm of Ayabe, Chong, Nishimoto, Sia & Nakamura, which is representing Pacific.

But given the Supreme Court's decision, there are already a few similar cases that will be heard in lower courts, Mr. Young said. Those cases are actually "companion suits" filed before the Supreme Court decided Hough. So far, Mr. Young said he has not seen new any new complaints filed with similar allegations.

"But usually these things take a little time to develop," he said. "Usually you don't have a case sitting in your lap where you suspect alleged unreasonable (claims) handling took place."

"Whether it's going to result in more claims being filed against insurers, I don't know," said Jeoff Komeya, a Honolulu plaintiff's attorney with Cronin, Fried, Kekina, Sekiya & Fairbanks. "But the fact that you can certainly establishes the possibility. So from the business insurance perspective, I would be worried because a cause of action does exist now."

Even if a suit is not filed, the court's decision gives plaintiff's attorney's a bargaining chip, Mr. Komeya added.

Ultimately, judgments in such bad-faith cases do not fall under a workers comp policy, but instead would likely hit an insurance company's own general liability policy, noted Carolyn Pearl, general manager for the Honolulu office of the National Council on Compensation Insurance.

Ms. Pearl said she is uncertain at this point whether insurers would then pass those expenses on to employers as workers comp costs.

The issue should be of some concern to insured employers because it could result in increased costs, said H. Robert Hoy, manager of security, safety and risk management for Wailea Resort Co. Ltd. in Wailea, Hawaii.

But so far it is too early to determine the impact of the ruling, he added.

Wailea Resort's broker, David Morikawa, vp at Noguchi & Associates in Honolulu, said many employers think the Supreme Court's decision is merely a wake-up call for insurers to pay claims when warranted.

In a soft workers comp market, the risk of being hit by bad faith claims may not be enough to prompt insurers to raise rates, said Russell Harris, director of risk management for Hawaiian Electric Co. Inc. in Honolulu, which self-insures its comp exposures.

The Hough ruling was handed down in November, amid a favorable workers compensation market for Hawaiian employers. Statutory workers comp reforms, a downturn in construction activity, improved employer experience and overall softening of market conditions are all credited for lowering workers comp rates in Hawaii (BI, May 22, 1995).

"The (workers comp) claims experience in Hawaii has been showing improvements," the NCCI's Ms. Pearl said.

"We filed and received approval for over 20% in loss-cost decreases (effective Nov. 1, 1996), and things are getting better," she said.

But the decision in Hough could be a step backward, the NAII warns.

Jeffrey J. Hough and Terry Medeiros Hough vs. Pacific Insurance Co. Ltd., a Hawaii corporation, Hawaii Supreme Court, No. 16019.