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.”

When is a Mistake an ‘Accident’?

Jason R. Potter | Claims Magazine | June 2019

Commercial General Liability (CGL) policies, like all insurance products, are intended to protect the insured from unexpected claims or suits by third parties. A CGL policy covers bodily injury, property, personal and advertising liability, products and completed operations and fire liability unless they are excluded by a specific endorsement. CGL coverage can provide important protections to a business owner for a variety of losses, but they are most ubiquitous in the construction setting.

Perhaps no issue is as litigated and disputed within the CGL context as whether faulty construction work comes within a typical CGL policy’s initial grant of coverage. Pundits, professors and law professionals have all offered starkly differing views, but recent cases appear to be coalescing in favor of coverage, albeit for a specifically delineated subset of damages. This article will briefly summarize the positions and arguments in favor and in opposition to such coverage and offer a glimpse of what the future may hold. This article is limited to analyzing the CGL’s initial grant of coverage and does not delve into how, if at all, the policy’s 20 or so exclusions would affect that grant. The case for CGL coverage CGL insurance was first developed in 1941 as a way to purchase separately insured risks in one, unified policy. The Insurance Services Office, Inc. last modified the current standard form CGL policy in 1986. Its initial grant of coverage provides: “We will pay those sums that the insured becomes obligated to pay as damages because of ‘bodily injury’ or ‘property damages’ to which this insurance applies.” It clarifies that “This insurance applies to ‘bodily injury’ and ‘property damage’ only if: 1. The ‘property damage’ is caused by an ‘occurrence’ that takes place in the ‘coverage territory’

The case for CGL coverage

CGL insurance was first developed in 1941 as a way to purchase separately insured risks in one, unified policy. The Insurance Services Office, Inc. last modified the current standard form CGL policy in 1986. Its initial grant of coverage provides: “We will pay those sums that the insured becomes obligated to pay as damages because of ‘bodily injury’ or ‘property damages’ to which this insurance applies.” It clarifies that “This insurance applies to ‘bodily injury’ and ‘property damage’ only if: 1. The ‘property damage’ is caused by an ‘occurrence’ that takes place in the ‘coverage territory’ 2. The ‘bodily injury’ or ‘property damage’ occurs during the policy period.” It defines “occurrence” as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” The term “accident,” however, is undefined. That lack of definition bears responsibility for much of the current dispute.

Consider the following example. A university contracted with a general contractor (GC) to build a new hotel on its campus. GC has a CGL policy. GC subcontracted most of the work to subcontractors. After construction was complete, the university discovered extensive water damage from hidden leaks, as well as other structural problems, all of which, it contended, arose from defective workmanship. The repair cost was estimated at $6 million.

The university sued the GC for the defective construction, and the GC turned to its CGL carrier for a defense of the case and indemnity for any judgment rendered against it. The CGL carrier argued there was no coverage because no accident (and thus no occurrence) had taken place. The court agreed with the insurer, leaving the GC with the $6 million repair bill.

In this scenario, if the GC is relatively solvent, it will file suit against its subcontractor or subcontractors seeking some or all of those repair costs. If the subcontractor has no insurance coverage and no surety performance bond, the GC and/ or the subcontractors will bear the risk of loss. If, however, the GC and/or the subcontractors has insufficient capital or credit, then some or all of the repair costs will be passed onto the owner. Regardless of who bears that cost, all of the parties are likely to complain that they believe the GC’s CGL carrier should bear such a burden because, for contractors, defective workmanship is by far the largest claim risk they face. In fact, for that reason, they are likely to say that CGL policies are purchased specifically to protect against such risks. Who is right? It will come as no surprise that the answer depends on whom you ask, or, in this case, what court you ask.

Courts’ treatment of CGL coverage for faulty workmanship

Courts throughout the country hold disparate views regarding whether defective construction is an occurrence within the confines of a CGL policy’s initial grant of coverage. By definition, an occurrence must be an accident; thereby raising the question as to whether the failure to properly construct something is an “accident.” As courts have repeatedly demonstrated, the answer to that question is not an easy one.

A minority of jurisdictions holds that defective construction is not an accident. Pointing to the everyday meaning of the term accident, these courts say that construction defects are not unexpected, because, they argue, it is foreseeable that a contractor that does faulty work would cause damages for which it would be obligated to pay the costs of repair. Because an accident must be, by its nature, unexpected, defective construction is no accident.

These jurisdictions often state that if a CGL policy provided coverage for defective workmanship, it would be converted into a warranty or guaranty of the contractor’s performance, which is more properly the province of a surety performance bond, whose sole purpose is to guaranty the contractor’s performance on the construction project. Courts in Ohio, Arkansas, Kentucky, and Pennsylvania adhere to this view and typically deny CGL coverage for construction defects, regardless of the types of damages caused by the defective work.

The majority position says that construction defects may be accidents, and thus occurrences that are eligible for CGL coverage. They are accidental because the contractor performing the work does not intend for the resulting damages to occur. Further, they argue, if CGL policies did not cover construction defects, no contractor would ever purchase them because they would provide no coverage for their single largest category of claim risk – construction defects. These majority -view jurisdictions often look at whether the damages were intended, expected or foreseeable. The focus, therefore, is on whether the results (the damages resulting from the defective work) would have been expected or foreseeable had the contractor performed correctly. If so, then it was not an accident for purposes of the CGL policy; if not, then it was.

Granting coverage for construction defects does not render as insured all such damages, however. Within these majority -view jurisdictions, there is a further split of authority as to whether the CGL policy covers only damages to a third party’s work or whether it also covers the repair and/or replacement cost of the defective work itself.

Most hold that a construction defect may be an occurrence (i.e., an “accident”) but only to the extent that the faulty work damaged property other than the insured’s defective work. These jurisdictions, which include Oregon, Illinois, Iowa, South Carolina, and Nebraska, believe that faulty workmanship itself is not an accident because the damages (the defective work) were within the insured’s control. They further justify their position on policy grounds, believing that the ultimate liability for such defective work should fall on the party that performed it, not the insurance carrier.

Other courts say that there is no basis for distinguishing between damages to the work itself and damages to other property. As the Supreme Court of Florida stated, “the definition of ‘property damage’ in the CGL policies does not differentiate between damage to the [insured] contractor’s work and damage to other property. [W]e reject a definition of occurrence that renders damage to the insured’s own work as a result of a subcontractor’s faulty workmanship expected, but renders damage to property of a third party caused by the same workmanship unexpected.” These jurisdictions, which include Florida, Kansas, Minnesota, Tennessee, Texas, and Wisconsin, find property damage to the work itself, as well as damage to the work of third parties, to be an occurrence that triggers CGL coverage.

What does the future hold?

In 2004, the Supreme Court of Nebraska stated, “the majority of courts have determined that faulty workmanship is not an accident and, therefore, not an occurrence.” [Auto-Owners Insurance Co. v. Home Pride Companies, Inc., 268 Neb. 528 (2004).] Since that case, however, courts in Florida, Kansas, Iowa, New Jersey, Georgia, West Virginia, Montana, Missouri, South Dakota, Tennessee, and South Carolina have reversed that majority, and it appears that a strong consensus has emerged that construction defects are occurrences that come within the initial grant of CGL coverage. The Ohio Supreme Court stemmed the unanimity of these authorities favoring coverage with its 2018 opinion in Ohio Northern University v. Charles Construction Services, Inc., from which the above example was taken.

Despite Ohio Northern, the clear trend favors initial coverage for defective workmanship. And, at least four state legislatures (Colorado, Hawaii, South Carolina, and Arkansas) have enacted statutes that define occurrences in the CGL context to include construction defects. Although such decisions are state-specific, they often rely on policy interpretations from other jurisdictions, a fact which suggests the majority view may continue to grow with support from new jurisdictions that have yet to consider the matter.

What does all this mean for the insurance industry and its insureds? This greater trend toward uniformity in construction defect coverage should provide optimism in the goal toward greater understanding and therefore fewer disputes among all parties (and fewer lawsuits against carriers) regarding the question of CGL coverage of damages arising from

Construction Defect Dispute Governed by Contract Disputes Act not yet Suited to being a “Suit”

William S. Bennett | SDV Insights | May 14, 2019

The Southern District of California recently held that a series of demands for a general contractor to investigate and repair several construction defects at a U.S. Army facility did not constitute a “suit” within the meaning of the general contractor’s commercial general liability (“CGL”) policy.

In Harper Construction Co., Inc. v. Nat’l Union Fire Ins. Co. of Pittsburgh, Pa., the U.S. Government hired Harper Construction Company (“Harper”) to construct a U.S. Army training facility for the Patriot Missile System in Fort Sill, Oklahoma. No. 18-cv-00471-BAS-NLS (S.D. Cal. Mar. 28, 2019). During the project, Harper hired Harper Mechanical Contractors (“Harper Mechanical”), an independent company, as a subcontractor “to perform demolition, grading, and other work at the Project.”

After Harper completed the project, the government informed Harper of property damage at the project, “including, but not limited to, gypsum wallboard cracks and binding doors.” Harper attempted to repair the issues, but the problems continued. The issues were apparently the result of Harper Mechanical’s grading work. Subsequently, the government sent two letters requesting an investigation and asking Harper to “propose a plan to correct the issues.” As Harper undertook an investigation spanning multiple years, the government became increasingly frustrated with the delays. The government threatened to initiate “formal administrative recourse” and to demolish the project, forcing Harper to re-build from the ground up. It also sent Harper another letter requesting Harper submit a formal proposal to correct the issues.

Harper’s general liability carrier was National Union Fire Insurance Company of Pittsburgh, PA (“National Union”). Harper Mechanical was listed as an additional insured on Harper’s policy. Four years after the government’s first notification to Harper of the issues with the project, Harper’s broker submitted a claim to National Union. The broker noted that Harper was seeking additional insured coverage for Harper Mechanical under Harper’s own policy for investigation and repair costs resulting from Harper Mechanical’s work.

National Union issued a reservation of rights letter and sought more information from Harper. The parties corresponded for the next year and half, until National Union issued a denial letter indicating that there was not a “suit” against Harper seeking damages because of “property damage,” based on the policy’s definition of “suit.”

The policy contained the standard ISO CGL definition of “suit,” which is defined, in pertinent part, as “a civil proceeding in which damages because of … ‘property damage’ to which this insurance applies are alleged. ‘Suit’ includes: … b. Any other alternative dispute resolution proceeding in which such damages are claimed and to which the insured submits with our consent.”

Harper sued National Union. National Union moved for summary judgment. In opposition, Harper argued that the government’s demand constituted a “suit” because the demand falls within the Contract Disputes Act (“CDA”), which includes administrative and court proceedings and qualifies as “any other alternative dispute resolution proceeding” under the policy definition. The CDA applies to “contracts made by an executive agency for, among other things, the procurement of construction … of real property.”

The court acknowledged that the CDA applied to the contract, given the Army’s status as an executive agency. However, the CDA does not automatically consider all disputes to constitute a “claim.” A dispute does not become a “claim” unless one of the contracting parties issues a “[w]ritten demand or written assertion … seeking … the payment of money in a sum certain,” at which point “each claim by the Federal Government against a contractor relating to a contract shall be the subject of a written decision by the contracting officer.” Without the claim being “submitted for a written decision by the contracting officer, which is the first step in the dispute resolution process under the CDA,” the court determined that there was “no evidence that Harper was faced with a “civil proceeding in which damages … are alleged” or “any other alternative dispute resolution proceeding,” as required by the policy’s definition of “suit.” The court also noted that there was no evidence that National Union had consented to any of the processes involved in the dispute, which is a further requirement of the definition of “suit.”

The court granted summary judgment for National Union based on the conclusion that the CDA demands did not constitute a “suit.” This case is an unfortunate example of what can happen when a contractor does not consider coverage when making strategic decisions throughout the process of investigating and repairing construction defects. The result could potentially have been favorable for Harper had it notified National Union early (and often) of the issues, involved coverage counsel to work with its defense and/or general counsel to strategize about how to cast the proceedings as a “suit” under the CDA, and followed the proper channels under the CDA to solidify its position that the parties were involved in ADR proceedings under existing California law.

The Limited Scope of the “Care, Custody or Control” Exclusion

Kirk Pasich | Pasich LLP | June 10, 2019

General liability policies have long contained an exclusion for property “in the care, custody or control of the insured . . . .” Commercial General Liability Coverage Form, § I., Coverage A, ¶ 2.J.(4) (Insurance Services Office, Inc. 2012). The scope of this exclusion has been the subject of various court decisions over the last 60 years. However, on June 5, 2019, a California court of appeal rendered a decision confirming the narrow scope of this exclusion.  

In McMillin Homes Construction, Inc. v. National Fire & Marine Insurance Co., 2019 WL 2366468 (Cal. Ct. App. June 5, 2019), a general contractor was an additional insured on a general liability policy issued to a subcontractor. The insurer refused to defend the general contractor in a suit brought by homeowners for construction defects relating to work performed by the subcontractor. It argued, among other things, that its “care, custody or control: exclusion applied because the worksite was within the contractor’s control. The court disagreed.  

The court considered various earlier decisions. In doing so, it cited Home Indemnity Co. v. Leo L. Davis, Inc., 79 Cal. App. 3d 863, 870-71 (1978), noting, “‘Almost invariably where coverage is denied, physical control by the insured has been exclusive, even if such exclusivity was only momentary, so long as the damage occurred in that moment.’” Id. The court followed this rule, noting that the subcontractor “was responsible for controlling its jobsite and supervising the roofing work,” but the general contractor “was responsible for the whole project and coordinating schedules to ensure the project finished on time.” McMillin, at *8. 

Although the court found the exclusion to be unambiguous, it then addressed the interpretation of the exclusion assuming that it was ambiguous. Once again, it rejected the insurer’s argument. It noted that because construction defect litigation “‘is typically complex and expensive, a key motivation in procuring an additional insured endorsement is to offset the cost of defending lawsuits where the general contractor’s liability is claimed to be derivative.’” Id. Therefore, the court concluded that reading the “care, custody or control” exclusion “in a manner that nullifies the broad coverage provision for a general contractor sued for construction defects is not consistent with an insured’s objectively reasonable expectations.” Id. at *9. It emphasized that the insurer’s construction “bears little connection to the risk involved or the reason for a general contractor to seek coverage as an additional insured. Its stance might be ‘reasonable in the abstract,’ but it is inconsistent with the basic rule that limitations on a promised defense duty must be conspicuous, plain, and clear.” Id

McMillin stands as a clear statement that an “additional insured’s mere status as a general contractor—with overall responsibility for and nominal control of the entire project—does not meet [the] standard” of “exclusive or complete control” sufficient to trigger application of the “care, custody or control” exclusion. Id. at *5. 

“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).