What to Look for in Subcontractor Warranty Endorsements

David McLain | Colorado Construction Litigation

With increasing frequency in the construction defect cases we defend, we are seeing commercial general liability insurance policies with “subcontractor warranty” endorsements.  Also known as contractor or subcontractor special conditions, these endorsements could have severe and negative consequences for builders that do not comply with their requirements.  In researching for this article, I reviewed six different endorsements used by six different carriers, all of which contained some or all of the following requirements:

  • The builder must have signed subcontract agreements with its subcontractors that require subcontractors to hold harmless, i.e., defend and indemnify, the builder for “bodily injury” or “property damage” claims caused by their negligence.
  • The subcontractors must maintain their own insurance with limits equal to or greater than the limits in the builder’s own policy, with limits of at least $1 million per occurrence.
  • The subcontractors’ insurance must not exclude the work being performed for the builder, e.g., the excavator’s policy cannot exclude earth movement claims, the subcontractor’s policy cannot exclude residential construction.
  • The subcontractors must maintain their own workers’ compensation and/or employer’s liability insurance.
  • The subcontractors must provide the builder with an endorsement or a certificate of insurance indicating that the builder has been added to the subcontractors’ insurance as an additional insured.
  • The subcontractors must provide the builder with an endorsement or a certificate of insurance indicating that their insurance carriers have agreed to provide waivers of subrogation in favor of the builder.
  • The builder must maintain records evidencing compliance with these requirements through the applicable statute of repose.
  • The builder must obtain proof that the subcontractors have all licenses as required by local or state statute, regulation or ordinance, and that such licenses are up to date.

Failure to comply with one or more of these requirements can have disastrous implications for the builder.  Depending on the wording of the actual endorsement, these consequences could include complete nullification of coverage relative to a loss caused by the subcontractors’ work, the imposition of a higher deductible or retained limit being applied to a loss caused by subcontractors, a lower limit of liability being applied to a loss caused by subcontractors, or the carrier increasing the premium for insurance after an audit of the records provided by the builder.
While the severity of the consequences may be lessened for builders using wrap insurance programs for their projects, this should be of serious concern for builders insuring themselves through annual renewable insurance programs.  My recommendation is for builders to work with their insurance agents or brokers to determine if it is possible to obtain insurance without the subcontractor warranty endorsement.  If not, it is imperative that builders understand the requirements of the subcontractor warranty endorsements and that they comply with those requirements.  This absolutely a situation in which an ounce of prevention is worth a pound of cure, assuming that any cure is even possible.     

No Coverage to Builder for Beetle-Infested Logs

Larry P. Schiffer | Squire Patton Boggs

Nearly all construction jobs require that the contractor purchase insurance. Commercial general liability insurance (“CGL”) is often what is purchased. CGL policies also typically have an exclusion for property damage to “your work.” In a recent case, the Ninth Circuit Court of Appeals addressed this exclusion in a case of damage caused by beetle-infested logs used to build a log home. What would Abe Lincoln say?

In Northland Casualty Co. v. Mulroy, No. 19-35085 (9th Cir. Dec. 27, 2019) (Not for Publication), the appellate court affirmed the district court’s grant of summary judgment in favor of the insurance company and against the policyholder (actually the property owner as assignee of the contractor’s rights after settlement) based on the exclusion for property damage to “your work.” The coverage dispute started after a property owner contracted with a builder to build a log home and renovate a guest log home. The contractor purchased logs from a log broker, but did not treat the logs for insects. Several years later, the owner noticed signs of a beetle infestation (powderpost beetles), which caused substantial damage to both homes.

The owner asserted a claim against the builder and the builder tendered the claim to its insurer. The insurer notified the builder that the CGL insurance policy did not cover the damages. The owner sued the builder in state court and, without the insurance company’s consent, the owner and builder settled. The builder assigned all rights under the CGL insurance policy to the owner.

The insurance company brought a coverage action and the parties moved for summary judgment. The district court granted summary judgment to the insurance company.

In affirming the district court, the appellate court held that the district court correctly applied the exclusion because there was property damage to the builder’s work. By failing to treat the logs, the builder installed untreated, beetle-infested logs. According the court, the damage arose from those acts, even if the damage also arose partly because the log supplier selected beetle-infested longs.

The exclusion barred coverage for “`property damage’ to `your work’ arising out of it or any part of it and included in the `products-completed operations hazard.” It “does not apply if the damaged work or the work out of which the damage arises was performed on your behalf by a sub-contractor.” The court held that the subcontractor exemption did not apply because under any reasonable interpretation of the term, the log supplier was merely a materials supplier and not a subcontractor.

Finally, the court rejected the “reasonable expectations” doctrine argument, holding that the policy clearly excluded coverage and no other factor suggested that the policyholder reasonably expected coverage. As simply put by the court, “[c]overage is unavailable in this case only because the damages were to the work itself (rather than to a bystander), the project had been completed, and the log supplier was not a subcontractor.

PA Superior Court Provides Clarification on Definition of CGL “Occurrence” When Property Damage Is Caused by Faulty Building Conditions

Konrad Krebs and Anthony Miscioscia | White and Williams | July 25, 2019

The standard for an “occurrence” under a commercial general liability (CGL) insurance policy has been addressed on several occasions by Pennsylvania courts when an insured has allegedly performed faulty workmanship on a construction project. Specifically, in Pennsylvania, a claim for damages arising from an insured’s performance of faulty workmanship pursuant to a construction contract, where the only damage is to property supplied by the insured or worked on by the insured, does not constitute an “occurrence” under the standard commercial general liability insurance policy definition. But what about the circumstance when the insured has failed to perform contractual duties where the claim is for property damage to property not supplied by the insured or unrelated to the service the insured contracted to provide? The Pennsylvania Superior Court recently addressed this question in Pennsylvania Manufacturers Indemnity Co. v. Pottstown Industrial Complex LP, No. 3489 EDA 2018, 2019 Pa. Super. 223, 2019 Pa. Super. LEXIS 729* (Pa. Super. 2019).

Pottstown Industrial Complex arose out of an underlying dispute between a landlord and a commercial tenant who had leased space to store its product inventory. The tenant alleged that the landlord was responsible under the lease for keeping the roof “in serviceable condition in repair.” Notwithstanding this responsibility, the tenant alleged that the landlord failed to properly maintain and repair the roof, resulting in leaks and flooding during four separate rainstorms, destroying over $700,000 in inventory. The tenant specifically alleged that the floods were caused by poor caulking of the roof, gaps and separations in the roofing membrane, undersized drain openings, and accumulated debris and clogged drains.

The insurer filed a declaratory judgment action, seeking a determination that there was no coverage under a commercial general liability policy issued to the landlord. Following a motion for judgment on the pleadings, the trial court entered an order in favor of the insurer, holding that allegations of inadequate roof repairs were claims for faulty workmanship and were not covered under Kvaerner Metals Division of Kvaerner U.S., Inc. v. Commercial Union Insurance Co., 908 A.2d 888 (Pa. 2006) and Millers Capital Insurance Co. v. Gambone Brothers Development Co., 941 A.2d 706 (Pa. Super. 2007).

In its opinion, the Superior Court reversed the decision of the trial court, holding that the tenant had alleged a covered “occurrence” under the commercial general liability policy.[1] The Superior Court noted that Kvaerner and Gambone only precluded the finding of an “occurrence” where a claim is for damage to property supplied by the insured, where the only property damage is the product or property that the insured supplied or on which it worked, or where the damages sought are for the insured’s failure to deliver the product or perform the service it contracted to provide. The Superior Court distinguished Pottstown Industrial Complex from Kvaerner and Gambone on the grounds that those cases only alleged damage to the property that the insured had worked on or supplied, while the Pottstown Industrial Complex underlying plaintiffs sought to recover for damage to their own property, stored on the ground of the insured’s facility, rather than damage to the insured’s faulty roof. The Superior Court held that this interpretation of the term “occurrence” was consistent with Kvaerner’s rationale that the term “occurrence” was not to be construed to “convert [a commercial and general liability policy] into a performance bond,” but rather, to provide insurance for the risk of “damage the insured causes to another person’s property.”

“That Particular Part” – Yet More

David Smith | Policyholder Perspective | April 30, 2019

Massachusetts Appeals Court Gets It Right – Mostly

Hot on the heels of the Federal Tenth Circuit Court of Appeals’ decision in MTI, Inc. v. Employers Insurance Company of Wausau, __ F.3d __, 2019 WL 321423 (10th Cir. 2019) (about which I wrote earlier this month), the Appeals Court of Massachusetts also found that the phrase “that particular part” as used in exclusions j(5) and j(6) in the CGL policy must be applied narrowly. In All America Ins. Co. v. Lampasona Concrete Corp., 95 Mass. App. Ct. 79 (2019), the court held that damage caused to an underlying vapor barrier and a tile and carpet finish applied on top of the concrete floor slab poured by Lampasona was not excluded from coverage by the j(6) exclusion in the Lampasona’s policy. The court found that Lampasona did not install the vapor barrier or the tile/carpet, so they were not “that particular part” on which Lampasona was working.

The underlying trial court had held that the three elements of the floor (the vapor barrier, the concrete and the tile/carpet finish) were integral and inseparable parts of the flooring system. Thus, the court held that damage caused by Lampasona’s pouring of the concrete slab (which pierced the vapor barrier which consequently let moisture pass through the concrete and damage the finish) was all to the same work product.

The appellate court did not disagree that the flooring could be described as a single system. It did, however, rule that such a description was irrelevant to coverage. Lampasona did not install the vapor barrier or the tiles or carpet, and thus those elements were not the “particular part” of the property that Lampasona worked on. Therefore, the exclusion did not apply to the costs of repairing the damage to those elements of the floor.

In some ways, this is a better reasoned opinion than that of MTI, Inc. The MTI court found the exclusion to be ambiguous, and thus construed it against the insurer. In Lampasona, the court found that, although the contractor’s work was closely connected with other parts of the overall project, the exclusion by its own terms did not apply to work not performed by the insured. The vapor barrier and the floor tiles and carpet were not “that particular part” of the property on which the insured performed work.

The one point the Massachusetts court got wrong was dicta in which it distinguished certain cases cited by the insurer on the ground that they dealt with coverage for general contractors, not subcontractors. This comment gives the impression that CGL coverage for subcontractors is somehow different than it is for general contractors. However, insurance industry materials have been clear for a very longtime that, in these circumstances, general contractors and subcontractors were to be provided the same coverage – the exclusion only applies to the property upon which the general contractor or subcontractor were actually working.

We have noticed an unfortunate trend in these cases. Many attorneys don’t seem to offer evidence of the insurance industry’s intent regarding the scope of this coverage. At least in California, industry materials regarding the meaning of insurance policy terms is admissible under California Civil Code §1645. As I have described in earlier posts [1] [2] [3], there is ample evidence of the insurance industry’s intent to provide broad coverage in this area by using the phrase “that particular part” to narrow exclusions j(5) and j(6).