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Village Northridge Homeowners Association v. State Farm Fire and Casualty Co.

August 30, 2010


Ct. App. No. B188718 Los Angeles County Super. Ct. No. BC265328. Judge: Wendell Mortimer, Jr.

The opinion of the court was delivered by: Chin, J.

We granted review to determine whether an insured who suffered property damage in the 1994 Northridge, California, earthquake may settle a disputed insurance claim with its first party insurer, execute a full and complete release of the claim, keep the money the insurer paid in the claim settlement without rescinding the release, and then sue the same insurer for allegedly fraudulently inducing the insured to settle the claim for less than it was worth under the policy. Although the insured here signed a release and waiver of all future claims, it seeks to bypass the statutory and common law rules governing rescission of a release, and instead to take advantage of a more general contract rule that a party to a contract may elect to affirm the contract and sue for fraud damages. (See 5 Witkin, Summary of Cal. Law (10th ed. 2005) Torts §§ 827-828, pp. 1200-1201.) Consistent with long-settled case law and the relevant state statutory scheme that specifically governs rescission of contracts, including releases, under Civil Code sections 1691 through 1693, we conclude that a release of a disputed claim, like the one here, does not permit a party to elect the remedy of a suit for damages when the release itself bars that option.*fn1 Instead, the insured party to the release must follow the rules governing rescission of that release before suing the insurer for damages.


The 1994 Northridge earthquake caused considerable damage to property that plaintiff Village Northridge Homeowners Association (Village Northridge) owned. Village Northridge filed a timely property damage claim with its insurer, State Farm Fire and Casualty Company (State Farm). According to declarations filed in the trial court, State Farm's policy limits for earthquake damage were $4,979,900, with a 10 percent deductible. State Farm made several payments to Village Northridge on the earthquake loss, totaling about $2,068,000, which included the deductible calculation. In 1996, and again in 1998, Village Northridge sought additional policy benefits based on the opinion of a public adjuster who recalculated the deductible amount under the State Farm policy after the insured found a different declarations page in storage. State Farm reinspected the property and concluded that some of the additional damage was earthquake related, while other damage was not. State Farm initially paid Village Northridge an additional $7,466.34.

In November 1999, although both parties continued to dispute the policy limits and the amount of money owed, they negotiated a compromise settlement of the claim, with State Farm paying an additional $1.5 million. Under the settlement, Village Northridge released State Farm from all known or unknown claims related in any way to Village Northridge's earthquake claim. In the release's first paragraph, Village Northridge specifically agreed to "refrain and forbear from commencing, instituting, or prosecuting any lawsuit, action, or any other proceeding against [State Farm] based on, arising out of, or in connection with any claims, actions, causes of action, charges, demands, contracts, covenants, liabilities, obligations, expenses . . . and damages that are released and discharged." Paragraph one also unconditionally released State Farm from "damages of every nature, kind, and description whatsoever" that "arise out of or are in any way related to the Earthquake Claim." In addition, Village Northridge waived any benefit it might derive under section 1542 (stating principally that a general release does not extend to unknown claims), including the right to assert those claims, "if any, which they do not know about or suspect that they may have and even those, if any, which they may not learn about or discover until after they sign" the release.*fn2

The pertinent insurance regulations (Cal. Code Regs., tit. 10, §§ 2695.4, subd. (e)(2), 2695.7, subd. (h)) specifically permit an insurer to include a provision in release agreements requiring insureds to waive section 1542 claims, or those unknown to them at the time of settlement and release. Such waiver allows an insured to assume the risk that it may discover new damage claims in the future. In exchange, the insured receives consideration and settlement of the claims known at the time of the release. (See San Diego Hospice v. County of San Diego (1995) 31 Cal.App.4th 1048, 1053-1054 [parties may expressly waive future § 1542 claims].) In late 2000, Village Northridge asked State Farm to reopen the claim. The insurer declined to do so.

In December 2001, after the Legislature revived insurance claims that the statute of limitations otherwise barred, Village Northridge sued State Farm for breach of contract and breach of the implied covenant of good faith and fair dealing.*fn3 The complaint alleged that State Farm had undervalued the earthquake loss to Village Northridge's property and had induced Village Northridge to forgo proper repairs and payment of sums owed under the policy. Village Northridge also alleged that it "was required to sign a release and did so under compulsion and with no other option afforded to secure partial benefits owed," and that it did not agree "that the partial payments provided fully compensated [Village Northridge] for the actual damages and loss sustained at Village Northridge's property. . . ." Throughout the litigation, Village Northridge insisted that it did not seek to rescind the settlement agreement and that it did not intend to do so. Instead, as noted, it wanted to bypass the rescission requirements to affirm the release and to seek additional damages.

State Farm filed a motion for summary judgment, contending that the release Village Northridge executed barred its lawsuit for additional coverage. In its opposition to the motion, Village Northridge claimed that its insurance policy provided coverage limits of $11,905,500, with a 10 percent deductible. Village Northridge alleged that in the course of adjusting its claim and inducing it to execute the release, State Farm misrepresented the policy limits to be only $4,979,900, with the same deductible. The trial court granted State Farm's summary judgment motion. The court concluded that State Farm had not procured the release agreement through undue influence or fraud, and that the release was therefore binding on the parties.

The Court of Appeal reversed the judgment, concluding there were triable issues of fact as to whether the release contained in the settlement agreement was enforceable. The Court of Appeal remanded the matter to the trial court, which granted State Farm's motion for judgment on the pleadings with leave to amend. The trial court observed that the complaint did not allege fraud in the inducement or rescission and that, under California law, Village Northridge "need[ed] to either rescind the agreement or affirm the agreement and sue for damages."*fn4

Village Northridge then filed a second amended complaint that was substantially similar to the first. The complaint alleged that the $1.5 million additional settlement State Farm paid was grossly deficient and represented only a partial payment of an alleged total loss of $8 million. The complaint also stated that the court had the inherent power to set aside a release procured by fraud. Again, State Farm demurred to the complaint, asserting that Village Northridge "could not affirm the settlement agreement and simultaneously assert claims that were explicitly released in it." The trial court sustained the demurrer without leave to amend. The court observed that Village Northridge sought to affirm the settlement agreement and keep the money paid in the settlement without releasing its additional claims, and that it "can't have it both ways."

Village Northridge appealed, and the Court of Appeal again reversed the trial court judgment. The court distinguished the case from Garcia v. California Truck Co. (1920) 183 Cal. 767 (Garcia) and Taylor v. Hopper (1929) 207 Cal. 102 (Taylor), which hold that a plaintiff cannot avoid an allegedly fraudulently induced contract of release unless it rescinds the contract and restores the money it received as consideration. The court limited application of both cases to the personal injury context, concluding that neither applies in the insurance or contract contexts.

As we explain in greater detail below, the rules governing rescission of settlement release agreements require the parties to follow the statutory and common law rescission procedures before suing for damages.


" 'On review of the judgment of the Court of Appeal reversing the superior court's orders sustaining defendants' demurrers, we examine the complaint de novo to determine whether it alleges facts sufficient to state a cause of action under any legal theory, such facts being assumed true for this purpose.' " (Betancourt v. Storke Housing Investors (2003) 31 Cal.4th 1157, 1162-1163, quoting McCall v. PacifiCare of Cal., Inc. (2001) 25 ...

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