What are the Most Commonly Claimed Issues in Construction Defect Litigation?

David M. McLain | Colorado Construction Litigation | March 14, 2019

As a lawyer that has spent his career defending against construction defect claims, one of the most common questions I get when counseling clients regarding risk management is: “What are the most commonly claimed issues in construction defect litigation?” Until very recently, my answer to this question has been based on my own experience and knowledge on the subject, and only vaguely reliant on empirical data.

Recently, two engineers, Elizabeth Brogan and William McConnell, along with Caroline Clevenger, an associate professor at the University of Colorado, Denver, wrote a paper entitled “Emerging Patterns in Construction Defect Litigation: A Survey of Construction Cases.” The authors analyzed 41 multifamily construction defect cases litigated in 2015, 2016 and 2017, mostly in the Denver metro area.

The authors classified the 55 most prevalent alleged defects into the following categories: structural issues; civil issues; building envelope issues; roof issues; deck, balcony and porch issues; fire protection issues; and miscellaneous issues. The authors then identified the 10 most commonly claimed construction defects, which occurred in over half of all of the cases analyzed. These defects included:

Civil Issues:

  • Inadequate grade adjacent to foundation (68%)
  • Inadequate slope grading (improper management of concentrated flows) (61%)
  • Flatwork or structures inhibiting drainage (59%)

Building Envelope Issues:

  • Non-compliant clearance between siding, stone veneer or stucco and hard surfaces or grade (73%)
  • Non-compliant weep mechanism in stone or stucco at horizontal terminations (71%)
  • Non-compliant flashing (base, head, sill, clearance, blocked or improperly sloped) (68%)
  • Improper water table construction (rowlock, stone, stucco, EIFS, precast or other) (71%)
  • Non-compliant moisture management integration (weather resistive barrier, self-adhered membrane or other) (71%)
  • Non-compliant isolation to penetration and dissimilar materials (76%)

Roof Issues:

  • Non-compliant roof flashing (diverter, rake, head, chimney, air handling units, jacks, etc.) (54%)

The authors further investigated each of these issues to describe specifically what the homeowners associations claimed to be non-compliant; the potential damage, issue or concern with the non-compliance; the code allegedly violated; and the repair proposed by the homeowners associations’ experts. Needless to say, this paper is full of valuable information for any home builder, developer, contractor, architect or subcontractor who is interested in improving its risk management program.

To the extent that you are already working with a third-party QA/QC provider during the design and construction phase of your projects, or are considering doing so, I think it would make sense to review this with those inspecting your projects to ensure that there is a high correlation between the items for which they are inspecting and those things that appear with the most frequency in construction defect litigation.

Important New Reporting Requirement for Some Construction Defect Settlements

Ian Williamson | Construction Law Blog | March 5, 2019

In response to a tragic balcony collapse incident where the public later learned the contractor had paid millions to settlement defect cases in the preceding years, the California legislature passed, the state contractor’s license board is now implementing, a public disclosure requirement for certain construction defect claims. The disclosure requirement is triggered by a judgment (which is not a new requirement), an arbitration award, or a settlement of certain construction defect claims. These requirements are codified at California Business & Professions Code sections 7071.20-22.

What types of Projects: This requirement applies only if all of the following apply:

A) Residential
B) Multi-Family; and
C) Rental property

Limitations on Claims – The reporting requirement only applies if all of the following are true:

A) The claim is against a CSLB licensee (not a design professional) acting in the capacity of a contractor;
B) The claim is for a structural defect;
C) The total claim is valued at $1 million (not including investigation costs);
D) SB800 does not apply;
E) The action was filed after January 1, 2019; and
F) If a lawsuit, the case was designated complex by the courts (which may not apply if only contractor is sued).

Who has to report: Any licensee (general or sub-contractor) and any insurer for a licensee is required to report the settlement, in writing. If any particular licensee is found to owe $15,000 or less, they are not required to individually report.

When to report: Within 90 days of judgment or arbitration award or within 30 days of payment of a settlement.

Consequences of Reporting: The CSLB will automatically open an investigation into the licensee’s license utilizing their existing complaint process. The license board may take further action but it also has the option of determining that the civil case resolution was sufficient to protect the public and take no further action.

Consequences of Not Reporting: The licensee is in violation of their license requirements and is subject to licensure discipline.

Unanswered Questions:

If the gross settlement for a licensee exceeds $1 million but no individual insurer’s share exceeds $1 million, are the insurers still obligated to report? Section 7071.21 can be read to require that an insurer is obligated to report if they pay any portion of a reportable settlement. [Notably the licensee has to report the settlement either way.]

The CSLB is still developing its implementation protocols. Exactly how to report is not clear but at this time, it would appear that a minimum requirement would be written notice to the CSLB’s complaint intake processing office.

Arizona Legislature Makes Significant Revisions to Shape of Construction Defect Claims

John Gregory | Jones, Skelton & Hochuli | April 18, 2019

On April 10, 2019, Governor Doug Ducey signed SB 1271 into law. The product of over two years of lobbying and interest group meetings, this bill makes significant changes to the existing the laws relating to residential construction in myriad ways.

REVERSING AMBERWOOD – PROPORTIONAL LIABILITY ONLY

One of the main ways this bill immediately impacts the contractor-subcontractor relationship is by limiting an indemnitor’s potential obligations only to the extent of its own negligence. The 2017 Arizona Court of Appeals case Amberwood Development, Inc. v. Swann’s Grading, Inc., No. 1 CA–CV 15–0786, 2017 WL 712269 found that a subcontractor could be responsible for indemnity broader than its own scope of work and without a finding of fault if the contract did not expressly limit its risk that narrowly. SB1271 creates a new statute, A.R.S. § 32-1159.01, to reverse that (non-binding) decision.

Section A of the new statute voids such broad indemnification agreements in construction or architect-engineer contracts as against public policy. It voids any such provision “to the extent that it purports to insure, to indemnify or to hold harmless the promisee from or against liability for loss or damage resulting from the negligence of the promisee or the promisee’s indemnitees, employees, subcontractors, consultants or agents other than the promisor.” Thus, a subcontractor’s indemnity is now limited only to the extent of its own negligent workmanship.

Section D of the new statute notes that the duty to defend can still apply to claims “arising out of or relating to” the contracting party’s work. Because this does not require a finding of fault to limit the duty to defend, it appears unchanged by the new statute.

Of note to insurers is Section C, which states that an insurer is not required to indemnify an additional insured for the proportion of fault allocated to it. This does not limit the duty to defend, however, so the policy should still be the first place to look when determining any defense obligation owed to an additional insured.

The statute’s scope is limited to construction and architect-engineer contracts between private parties for residential dwellings. A.R.S. § 32-1159.01(E). These terms are given specific definitions that are broad enough to cover the work of virtually all engineers, architects, design professionals, contractors and subcontractors. A.R.S. § 32-1159.01(G). The new statute does not apply to contracts with the state or a municipality (A.R.S. § 32-1159.01(F)(1); agricultural improvement districts (§ 32-1159.01(F)(2)); surety or performance bonds by its principal or indemnitors (§ 32-1159.01 (F)(3)); an insurance agreement between the insurer and named insureds (§ 32-1159.01(F)(4)); and public service corporation’s rules, regulations or tariffs that are approved by the Corporation Commission (§ 32-1159.01(F)(7)). It is likewise not intended to affect insurance policies as between a carrier and its additional insureds (§ 32-1159.01 (F)(5)) or the multiple insureds of a single policy other than the proportionally limits any insured may have to the other insureds imposed by the newly instituted Sections A, B, and C. (§ 32-1159.01 (F)(6)).

REVISIONS TO THE PURCHASER DWELLING ACT

Attorneys’ Fees Reinstituted

The Legislature reinstated A.R.S. § 12-1364 to allow for recovery of attorneys’ fees. A Court now may award reasonable attorneys’ fees to the prevailing party. (§ 12-1364(A)). The homeowner is deemed the prevailing party “if the relief obtained by the purchaser for that contested issue, exclusive of any fees and taxable costs, is more favorable than the repairs or replacements and offers made by the seller….” Id. If it is not, the seller is considered the prevailing party.

The new statute sets guidelines to consider when calculating whether attorneys’ fees are reasonable. The Court should weigh:

  1. The repairs, replacements or offers made by the seller, if any, before the purchaser filed the dwelling action pursuant to section 12-1363.
  2. The purchaser’s response to the seller’s repairs, replacements or offers made or proposed, if any, before the purchaser filed the dwelling action pursuant to section 12-1363.
  3. The relation between the fees incurred over the duration of the dwelling action and the value of the relief obtained with respect to the contested issue.
  4. The amount of fees incurred in responding to any unsuccessful motions, claims and defenses during the duration of the dwelling action.

Id. A “contested issue” is “an issue that relates to an alleged construction defect and that is contested by a purchaser following the conclusion of the repair and replacement procedures prescribed in section 12-1363.” The new statute does not replace contractual fee provisions (§ 12-1364(C)).

Subcontractor Participation in the PDA

The changes now require the general contractor to promptly forward any PDA notice to the subcontractors that worked on the house, and specifically allows electronic service. (§ 12-1363 (A)). The subcontractor is now provided the right to inspect, test, and repair the property that was previously provided to the general contractor in the 2015 revisions (§ 12-1363 (B)-(C)).

Homeowner Affidavits

A homeowner who brings a dwelling action must now submit an affidavit along with their complaint, affirming they have “read the entire complaint, agree[] with all of the allegations and facts contained in the complaint and, unless authorized by statute or rule, is not receiving and has not been promised anything of value in exchange for filing the dwelling action.” (§ 12-1363(N)).

IMPACT ON THIRD-PARTY PROCEDURE

Changes are also made to the procedure of bringing third-party claims. The statutes of limitation and repose (e.g. A.R.S. 12-552) are now tolled from the date that the general contractor receives the PDA notice until nine months after a civil suit or arbitration demand is served on it. (§ 12-1363 (G)). Once suit is commenced, subcontractors must be joined as third-party defendants if feasible and subject to the Rules of Civil Procedure (§ 12-1362(D)). The finder of fact must determine:

  1. if a construction defect exists AND
  2. the amount of damages caused by the defect AND
  3. each subcontractor whose conduct “whether by action or omission, may have caused, in whole or in part, any construction defect.” (§ 12-1362(D)).

The homeowner specifically has the burden of proof as to steps 1.a. and 1.b., but the statute is silent as to who is tasked to proving item 1.c.. The finder of fact must then allocate pro rata shares of fault to the subcontractors whose work is implicated. Id. The general contractor has the burden of proving each subcontractor’s fault in step 2. Subject to the Rules of Civil Procedure, the new bill requires Steps 1 and 2 to be bifurcated. (§ 12-1362(E)).

STATUTE RETROACTIVITY

The statute expressly applies retroactively “to from and after June 30, 2019.” It therefore stands to reason that these statutes apply to all construction defect claims made from June 30, 2019 onward.

NEXT STEPS

As with any new law, the contours have not been fleshed out. Parties have yet to explore the outer confines of what is and is not enforceable about this bill and its changes to the construction statutes. Our firm will continue to monitor the litigation trends and any subsequent action by the Legislature to further revise the way defect cases are handled.

This alert is only a broad summary of the changes made by this new bill. Please look for more detailed analysis from us in the weeks and months ahead.


Illinois Supreme Court Limits Reach of Implied Warranty Claims Against Contractors

Thomas Cronin | Construction Law Blog | February 25, 2019

In a recent decision, the Illinois Supreme Court held that a purchaser of a newly constructed home could not assert a claim for breach of the implied warranty of habitability against a subcontractor where the subcontractor had no contractual relationship with the purchaser. Sienna Court Condo. Ass’n v. Champion Aluminum Corp., 2018 IL 122022, ¶ 1. The decision overruled Minton v. The Richards Group of Chicago, which held that a purchaser who “has no recourse to the builder-vendor and has sustained loss due to the faulty and latent defect in their new home caused by the subcontractor” could assert a claim of a breach of the warranty of habitability against the subcontractor. 116 Ill. App. 3d 852, 855 (1983).

In Sienna Court Condo. Ass’n, the plaintiff alleged that the condo building had several latent defects which made individual units and common areas unfit for habitation. 2008 IL 122022 at ¶ 3. The Court rejected the plaintiff’s argument that privity should not be a factor in determining whether a claim for a breach of the warranty of habitability can be asserted. Id. at ¶ 19. The Court also rejected the plaintiff’s argument that claims for a breach warranty of habitability should not be governed by contract law but should instead be governed by tort law analogous to application of strict liability. Id.

The Court reasoned that the economic loss rule, as articulated in Moorman Manufacturing Co. v. National Tank Co., 91 Ill. 2d 69, 91 (1982), refuted the plaintiff’s argument that the implied warranty of habitability should be covered by tort law. 2008 IL 122022 at ¶ 20. Under the economic loss rule, a plaintiff “cannot recover for solely economic loss under the tort theories of strict liability, negligence, and innocent misrepresentation.” National Tank Co., 91 Ill. 2d at 91. The Court explained that the rule prevented plaintiffs from turning a contractual claim into a tort claim. 2008 IL 122022 at ¶ 21. The Court further noted that contractual privity is required for a claim of economic loss, and an economic loss claim is not limited to strict liability claims. Id. Because the plaintiff’s claim was solely for an economic loss, it was a contractual claim in nature; therefore, the Court concluded that “the implied warranty of habitability cannot be characterized as a tort.” Id. at ¶ 22.

The Court also rejected the plaintiff’s argument that warranty of habitability should be governed by tort law because it involves a duty imposed by the courts. Id. at ¶ 23. It reasoned that “an implied term in a contract is no less contractual in nature simply because it is implied by the courts . . . .” Id. The Court noted that the warranty of habitability can be waived under Illinois law, but individuals are not able to waive duties imposed upon them by the courts. Id. If the warranty of habitability was a tort claim, it would “raise[] significant practical problems, particularly for subcontractors” given that they “depend upon contract law and contracts with the general contractor to protect and define their risks and economic expectations.” Id. at ¶ 24. Because a subcontractor’s fees, costs, and liability are controlled by his contracts, turning an implied warranty of habitability claim into a tort would make those contracts pointless. Id.

The Court’s decision to overrule Minton rested on three primary reasons: (1) Minton failed to discuss why the economic loss rule did not apply; (2) Minton did not address what effect its holding would have on the contractual relationships of subcontractors and general contractors; and (3) there is “no authority for the idea that a tort duty comes into and out of existence depending on whether another entity is bankrupt.” Id. at ¶ 25. In light of the opinion, a home purchaser’s remedy where there is economic loss is now limited to those parties with whom it has a direct contractual relationship.

When Do Defects Prevent Practical Completion?

Julian Bailey, Emma Knight and Helena Payne | White & Case | April 4, 2019

Practical completion represents the physical completion of works on construction projects. Despite its importance, it is not a legal term of art, and whether or not practical completion has been achieved requires determination on a case-by-case basis.

The recent judgment in Mears Ltd v Costplan Services (S.E.) Ltd [2019] EWCA Civ 502 provides an important analysis of the interplay between patent defects and practical completion. In this case, the Court of Appeal confirmed that a material defect does not necessarily prevent practical completion from being achieved.

Key facts

In Mears v Costplan, the Court of Appeal considered the meaning of ‘practical completion’ in the context of the construction of student accommodation and a related agreement for lease.

PNSL, the employer, contracted with Pickstock, the contractor, for the design and build of student accommodation. Separately, Mears, the tenant, entered into an agreement for lease (“AFL“) with PNSL and Pickstock to take a long lease of the property following completion.

The AFL contained a longstop provision that permitted the tenant to terminate the AFL if the practical completion certificate had not been issued by the longstop date.

Further, the AFL prohibited variations to the works that materially affected the size of the accommodation rooms. It considered a reduction in size by more than 3% from the relevant drawings as material. In the event, of the intended 348 bedrooms plus kitchens and certain other rooms, 56 rooms were built more than 3% smaller than the relevant drawings. These breaches were irremediable: there was no prospect of the building being torn down and re-built.

The tenant alleged that any breach of the 3% tolerance was a material and substantial breach of the AFL, meaning that (i) it was entitled to terminate the AFL and (ii) practical completion could not be certified. At first instance, the judge ruled in favour of the employer / landlord, noting that it would be ‘commercially absurd’ if the breach of the 3% tolerance made practical completion impossible and allowed the tenant to terminate the AFL and walk away.

The tenant’s appeal was dismissed by the Court of Appeal, which held that:

  • The failure to meet the 3% tolerance was a breach of contract, but not automatically a material breach of contract allowing the tenant to terminate. The question of materiality related to room size and not to the resulting breach of contract. If the parties were to be taken to have agreed that any failure (no matter how trivial) to meet the 3% tolerance amounted to a material breach of contract, it would lead to a very uncommercial result.
  • Practical completion is a question for the certifier. Whether a derogation / breach is so material as to preclude practical completion is a matter of fact and degree in each case. Patent defects regarded as ‘trifling’ cannot prevent the certification of practical completion, whether the defect is capable of economic remedy or not. Whether the 3% tolerance breach was trifling was not a matter for the court here. The issue of economic remedy goes to the proper measure of loss, and not to the issue of practical completion.

The meaning of ‘practical completion’

The Court of Appeal reviewed the current state of the law on practical completion, making the following observations:

  • Practical completion is easier to recognise than define, and there are no hard and fast rules as to when practical completion is (or is not) achieved;
  • The existence of latent (i.e. unknown) defects cannot prevent practical completion (as they are unknown to the certifier);
  • In relation to patent (i.e. known) defects, there is no difference between uncompleted items of work and an item of defective work that requires to be remedied;
  • Some authorities suggest the existence of patent defects prevents practical completion, however the preferred view (which has been adopted in almost all cases) is that the existence of ‘trifling’ patent defects does not preclude practical completion;
  • Whether an item is ‘trifling’ is a matter of fact and degree to be measured against the intended purpose of the works; and
  • The mere fact that a defect is irremediable does not mean that works are not practically complete.

Comment

The achievement of practical completion is primarily a question of fact and judgment, which is to be determined having regard to what the contractor promised to supply, the definition (if any) of “practical completion” in the relevant contract, and whether what the contractor has supplied substantially corresponds with what the contract required so as to constitute “practical completion”. The intents and purposes of the project will be important to consider when addressing the question of whether practical completion has been achieved.

However, the Court of Appeal made clear that, in this particular case, the mere fact that the accommodation was habitable did not mean the works were practically complete. It is a question of whether any patent defects could accurately be described as trifling. If parties intend for practical completion to be dependent on certain aspects of the work being completed in accordance with the letter of the contract, they should draft carefully for this.

In contrast, a more precise approach to completion is often taken in contracts for mechanical plant or similar facilities, such as power stations. On these projects, ‘completion’ is only taken to occur if, amongst other things, certain testing and commissioning is completed satisfactorily, based on defined benchmarks. Liquidated damages may also be payable if the plant does not function according to a performance specification. Furthermore, completion may also be dependent upon the provision of “as built” documents, operation and maintenance manuals and other documents.

Exactly when practical completion will have occurred is dependent on the nature of the asset, its intended purpose and any relevant contractual provisions. Certainty on exactly when completion is achieved is important given its consequences: the commencement of the defects liability period, the potential end of liquidated damages, the possible impact on retention monies, and the movement of risk to the Employer, to name a few.

Mears v Costplan helpfully clarifies the approach that the English courts will take to determining controversies over the achievement of practical completion. But ultimately, if the contractual criteria for ‘practical completion’ are defined in only general terms, what this will mean is that disputes over the achievement of practicalcompletion will continue to arise in practice.