United States: Heckart V. A-1 Self Storage, Inc.

In Heckart v. A-1 Self Storage, Inc., 4 Cal. 5th 749 (2018), the California Supreme Court affirmed the judgment of the Court of Appeal sustaining the demurrer filed by defendants A-1 Self Storage, Inc. ("A-1") and Deans & Homer (collectively, "Defendants") to plaintiff Samuel Heckart's ("Heckart") complaint, alleging that an indemnity agreement sold by A-1 in connection with its storage rental agreements constituted a contract of insurance, and that such sale was in violation of the Insurance Code because A-1 is not licensed to sell insurance.

A-1 owns a self-storage facility where Heckart rented a unit in June 2012 for $55 per month. The rental agreement signed by Heckart ("Rental Agreement") released A-1 from liability for loss of or damage to property stored at the facility and required Heckart to maintain insurance for the value of his stored property. If Heckart elected to participate in the Customer Goods Protection Plan ("Protection Plan"), it would modify the provisions of the Rental Agreement pertaining to A-1's liability.

The Protection Plan provided:

In consideration of an additional payment of $10.00 monthly rent, the Owner retains liability for loss of or damage to Tenant's property, while stored within the enclosed storage unit ... , up to $2,500 for losses caused by the following: [¶] a. Fire, explosion or smoke. [¶] b. Theft, vandalism or malicious mischief ... . [¶] c. Roof leak or water damage. [¶] ... [¶] d. Windstorm that first causes damage to the building. [¶] e. Collapse of the building where your property is stored.

If a tenant declined to participate in the Protection Plan, he or she was required to provide proof of insurance within 30 days. If the tenant failed to provide such information within 30 days, the tenant would be automatically enrolled in the Protection Plan until proof of insurance was provided. Heckart was automatically enrolled in the Protection Plan after he declined to participate in the Protection Plan but failed to provide proof of insurance within 30 days. 

Deans & Homer, an underwriter, agent, and broker licensed to sell insurance in California, created the Protection Plan, providing the language and related forms, as well as policies and procedures related to implementing the Protection Plan. Deans & Homer also sold A-1 an insurance policy by which Deans & Homer assumed the liability for all losses under the Protection Plan in excess of $250,000 per year.

In April 2013, Heckart filed a putative class action lawsuit against Defendants, alleging violations of Unfair Competition Law ("UCL") (Business & Professions Code section 17200, et seq.) and the Consumers Legal Remedies Act ("CLRA") (Civil Code section 1750, et seq.), as well as misrepresentation and civil conspiracy. Heckart's claims were predicated on the allegation that the Protection Plan constituted a contract of insurance which A-1 was not licensed to sell, and that Defendants failed to comply with insurance regulations.

The trial court sustained Defendants' demurrer to the first amended complaint, finding that the Protection Plan was not an insurance policy, and the Court of Appeal affirmed, both courts concluding that the Protection Plan was merely incidental to the "principal object and purpose" of the transaction between Heckart and A-1, the rental of storage space. The California Supreme Court affirmed, holding that the challenged transaction did not involve the sale of insurance.

The Supreme Court first analyzed Article 16.3 of the Insurance Code, pertaining to "Self-Service Storage Agents", finding that the procedures and regulations applicable to self-service storage agents pursuant to Article 16.3 did not apply to the challenged transaction because Article 16.3 "addresses the licensing of self-storage facilities to act as agents to sell insurance on behalf of licensed insurers," and Heckart's pleading did not allege that A-1 was acting as an agent of an insurance company. (Emphasis added).

Article 16.3 provides that "[a] self-service storage facility ... shall not offer or sell insurance unless it has complied with the requirements of this article and has been issued a license by the commissioner as provided in this article." (§ 1758.7, subd. (a); see § 12900 et seq. [regarding Insurance Commissioner].) The referenced license allows a self-storage facility to "act as a[n] ... agent for an authorized insurer only with respect to the following types of insurance and only in connection with, and incidental to, self-service storage rental agreements: [¶] (a) Insurance that provides hazard insurance coverage to renters for the loss of, or damage to, tangible personal property in storage or in transit during the rental period. [¶] (b) Any other coverage the commissioner may approve as meaningful and appropriate in connection with the rental of storage space." (§ 1758.75, italics added.) An application for such a license must include "[a] certificate by the insurer that is to be named in the self-service storage agent license stating that the insurer has satisfied itself that the named applicant is trustworthy and competent to act as its agent for the limited purpose of offering or selling the types of insurance specified in Section 1758.75 in connection with, and incidental to, self-service storage rental agreements and that the insurer will appoint the applicant to act as its agent in reference to offering or selling those types of insurance if the applicant is licensed by the commissioner." (§ 1758.71, subd. (a)(2), italics added.)

These provisions reflect that Article 16.3 addresses the licensing of self-storage facilities to act as agents to sell insurance on behalf of licensed insurers. The same focus is reflected in the rest of the article, which imposes various requirements and restrictions in connection with a storage facility's actions as an insurance sales agent. (See §§ 1758.72[training requirements for agent's employees], 1758.73 [employee's conduct shall be deemed conduct of the agent], 1758.74 [penalties for licensee's violations or for acting as an agent without a license], 1758.76[agent must provide specified information and disclosures], 1758.77 [the insurer represented by the licensee may relieve licensee from requirement that funds be segregated], 1758.78 [prohibited activities of an agent], 1758.79 [insurer that provides insurance through an agent shall file a copy of the policy with the commissioner].)

The Supreme Court then determined that the Protection Plan met the two required elements to constitute "insurance" within the meaning of Insurance Code section 22: (1) the Protection Plan shifted the risk of losses up to $2,500 from the renter to A-1; and (2) the Protection Plan distributed that risk among all renters who purchase the Plan. The Supreme Court noted that "not every contract that meets these criteria is an insurance contract for purposes of regulation by the Insurance Code." 

To determine whether a contract is subject to insurance regulation, we consider "whether, looking at the plan of operation as a whole, 'service' rather than 'indemnity' is its principal object and purpose." (California Physicians' Service v. Garrison (1946) 28 Cal.2d 790, 809 [172 P.2d 4] (California Physicians' Service).) "[E]ach contract must be tested by its own terms as they are written, as they are understood by the parties, and as they are applied under the particular circumstances involved." (Jellins, supra, 29 Cal.2d at p. 248.)

The Supreme Court referred to prior cases in which the Court had applied the "principal object and purpose" test to find that the transaction at issue was not an insurance contract, including an underwriting agreement which required the underwritten title company to carefully and diligently perform a title search and examination as well as carry out the formalities involved in the issuance of a title insurance policy, which included indemnification provisions (Title Ins. Co. v. State Bd. of Equalization, 4 Cal. 4th 715 (1992)), and a "collision damage waiver" ("CDW") included in a rental car company's rental agreement which provided that for an additional $6 per day, the renter would not be liable for any damage to the car (Truta v. Avis Rent a Car Sys., 193 Cal. App. 3d 802 (1987)). In contrast, in Sweatman v. Dep't of Veterans Affairs, 25 Cal. 4th 62 (2001), the Supreme Court held that a home protection plan providing coverage for loss of life and disability that a veteran was required to purchase when purchasing a home through the Cal-Vet program pursuant to a contract that required the veteran make installment payments to the Department of Veterans Affairs, was not merely incidental to the principal object and purpose of the loan contract.

In applying the "principal object and purpose" test to the transaction between Heckart and A-1, the Supreme Court found that "the rental of storage space was the principal object and purpose of the parties' transaction, and the Protection Plan was incidental to that purpose" for the following reasons:

  • The Protection Plan adjusted the risks between the parties to Rental Agreement. It was A-1, not a third party, that indemnified Heckart. "Although a third party's agreement to provide indemnity with respect to risks arising from a transaction might be viewed as incidental to the transaction, a third party's indemnity agreement is not incidental to a different object or purpose of the third party indemnitor." 
  • A-1 assumed risks that arose directly from the rental relationship and did not provide indemnification beyond damages that might occur to property while it was stored in the rented space.
  • The Protection Plan was optional.
  • The Protection Plan extended only to risks over which A-1 had some control, such as fires, roof leaks, criminal activity, and damage to the building, "[t]herefore, the Protection Plan serve[d] an additional purpose of providing an incentive to minimize the risks to stored property."
  • The monthly charge for the Protection Plan ($10) was significantly less than the monthly charge for renting the storage space ($55). The fact that A-1 maintained separate accounts for payments related to the Rental Agreement and the Protection Plan was irrelevant: 

How A-1 chooses to track the funds does not affect whether the rental aspect is the principal object and purpose or whether the indemnification is incidental to that purpose. Nor does the allegation that A-1 obtains its own insurance with respect to some of the risk it has assumed tend to establish that the Protection Plan is insurance. The contract between Deans & Homer is independent of the Protection Plan and the Rental Agreement, and does not affect what constitutes the principal object and purpose of plaintiff's transaction with A-1.

The Court rejected Heckart's argument that the Court should "also consider whether the business involves evils with which insurance regulation is concerned." 

More generally, the contention that the principal object and purpose test should consider whether insurance regulation is warranted to address the evils with which the insurance laws are concerned is an argument for courts to extend insurance regulation by judicial construction. The principal object and purpose test is a means to delineate between the business of insurance, which the Legislature has regulated under the Insurance Code, and transactions that include only an incidental element of insurance. The Legislature is free to extend insurance regulation beyond the historical limits recognized by the principal object and purpose test, but that is a policy decision for the Legislature to make. As discussed below, the legislative history of Article 16.3 does not reflect an intent to subject to insurance regulation contracts that are outside the reach of insurance regulation based on the principal object and purpose test.

The Court also rejected Heckart's argument that Article 16.3's narrow concern with the sale of hazard insurance by a self-storage facility for loss of or damage to stored property reflected an intent by the Legislature to apply insurance regulation to any indemnification agreement that was incidental to a self-storage rental agreement.

Because the principal object and purpose test applies where a transfer of risk satisfies the elements of insurance, an insurance policy from a third party may be an alternative to an indemnification agreement between the parties. However, there is no principle that precludes parties to a transaction from choosing to adjust risks and provide for indemnification between themselves despite the fact that insurance is available from a third party. Moreover, if the availability of insurance precluded parties to a transaction from adjusting risks between themselves without subjecting their agreement to insurance regulation, insurers could foreclose application of the principal object and purpose test simply by obtaining the approval of the Department of Insurance to market a particular type of insurance policy. Finally, the two alternatives are not the same; as explained above, the adjustment of risk between parties to a transaction may provide an incentive to mitigate the risks and may forestall litigation. For these reasons, whether indemnification with respect to a particular risk constitutes "insurance" may vary depending on whether the indemnitor is a third party insurer or a party to the transaction that gives rise to the risk.

Nevertheless, the Court acknowledged that the narrow focus of Article 16.3 might suggest the Legislature was particularly concerned with risk-shifting agreements related to hazards to property in self-storage facilities, and so considered additional indicia of the Legislature's intent, finding the legislative history of Article 16.3 did not support Heckart's argument.

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