To Defend or Not to Defend? Northern District of Ohio Provides Guidance for Determining Whether to Defend an Arbitration

Andrew Daechsel | PropertyCasualtyFocus | June 27, 2018

While the rules for determining whether a liability insurer has a duty to defend a lawsuit are generally well-known, questions can arise when an insurer is asked to defend an arbitration. For example, can an insurer’s duty to defend be determined by looking solely at the initial request for arbitration even if that document is not required to fully clarify the claims asserted and damages sought? According to the Northern District of Ohio’s decision in Maxum Indemnity Company v. Robbins Company, No. 1:17-cv-1968 (N.D. Ohio Mar. 22, 2018), the answer to that question is yes.

A Request for Arbitration Results in a Request for Coverage

Maxum Indemnity Company (“Maxum”) insured The Robbins Company (“Robbins”), a tunnel-boring machine supplier, under a primary commercial general liability policy that covered Robbins’ liability for “property damage” caused by an “occurrence.” Robbins sought coverage from Maxum when one of its clients, JCM Northlink, LLC (JCM), filed an arbitration against it in the International Court of Arbitration. In the request for arbitration, JCM claimed it suffered more than $40 million in damages due to (1) defects in a tunnel-boring machine JCM rented from Robbins; and (2) Robbins’ failure to perform certain services under its rental contract with JCM. However, JCM was not required to clarify its claims and damages in the underlying arbitration until a later date, possibly as late as the final arbitration hearing.

Using Request for Arbitration to Determine Duty to Defend

Maxum sought a declaratory judgment that it had no duty to defend or indemnify Robbins in the underlying arbitration. In a motion for judgment on the pleadings, Maxum argued that it had no duty to defend because the policy did not cover the claims asserted and damages sought in JCM’s request for arbitration.

In opposition, Robbins argued that the district court should not rule on Maxum’s motion until the underlying arbitration claims were “clarified sufficient for a coverage determination to be made.” In support of this argument, Robbins relied on Willoughby Hills v. Cincinnati Ins. Co., 459 N.E.2d 555 (Ohio 1984), in which the Ohio Supreme Court held that the duty to defend “may arise at a point subsequent to the filing of the complaint.”

However, the district court rejected Robbins’ argument. The district court explained, “Willoughby Hills ‘does not stand for the proposition . . . that coverage may arise after the filing of the complaint where the pleadings did not create even an arguable basis for coverage.’” As a result, the district court determined that it could enter judgment declaring that Maxum had no duty to defend if JCM’s request for arbitration did not even “arguably trigger coverage.” The district court ultimately did just that, granting Maxum’s motion and finding that Maxum had no duty to defend. At the time of the district court’s ruling, the underlying arbitration was still pending.

District Court’s Coverage Analysis

The district court found that Maxum had no duty to defend the underlying arbitration for three independent reasons.

First, the district court held that JCM’s request for arbitration did not seek to recover for “property damage,” which the policy defined as “[p]hysical injury to tangible property, including all resulting loss of use of that property . . . or [l]oss of use of tangible property that is not physically injured.” In its request for arbitration, JCM alleged that the defects in the tunnel-boring machine prevented JCM from moving forward with a tunneling project such that JCM’s other equipment at the project site sat idle. Robbins argued that these allegations qualified as “loss of use of tangible property that is not physically injured,” but the district court disagreed.

Second, the district court found that there was no coverage because the policy excluded “coverage for property damage ‘for which the [i]nsured is obligated to pay ‘damages’ by reason of the assumption of liability in a contract or agreement.’” The district court indicated that this exclusion would bar coverage if the request for arbitration sought damages that were “contractual in nature” but the exclusion would not apply if the request for arbitration sought “consequential property damage.” The district court ultimately held that the exclusion barred coverage because JCM’s request for arbitration “clearly characterize[d] [JCM’s] claim for damages as one which sound[ed] in contract.”

Finally, the district court held, without explanation, that coverage was also barred by the policy’s “exclusion for damage relating solely to a contractor’s own work.”

The district court’s holding affirms that, under Ohio law, a request for arbitration – like a complaint – must demonstrate at least an arguable basis for coverage for an insurer’s duty to defend to be invoked.

Insurer Must Defend Contractor Against Claims of Faulty Workmanship

Tred R. Eyerly | Insurance Law Hawaii | May 21, 2018

The magistrate judge recommended that the insurer’s motion for summary judgment seeking to determine there was no coverage for claims of faulty workmanship be denied. Greystone Multi-Family Builders v. Gemini Ins. Co., 2018 U.S. Dist. LEXIS 56770 (S.D. Tex. Feb. 26, 2018).

TPG (Post Oak) purchased an OCIP policy to cover construction of an apartment complex. TPG was sued by the contractor, Greystone, after TPG cancelled the construction contract. TPG filed a counterclaim against the contractor, alleging that Greystone had failed to properly perform in building a luxury apartment complex which resulted in monetary damages to TPG. The complaint further alleged that the project was nine months behind its substantial completion date, far from complete, and over budget when TPG cancelled the contract. The cost to fix the mismanagement caused by Greystone was $18.9 million.

The insurer denied coverage for the counterclaim against Greystone. Greystone then sued for a declaration judgment and the insurer cross-moved for summary judgment.

The insurer argued there was no occurrence because Greystone’s actions were not an accident. The court, however, found no allegations in the underlying complaint that Greystone intended its work to cause the damage or that the damage was the natural and expected result of Greystone’s actions. Simply because Greystone paid its subcontractors upfront did not mean Greystone intended the result to be shoddy workmanship. The up-front payments may have been a management failure, but not intentional conduct to cause poor construction of the project. Therefore, the allegations included actions meeting the definition of “occurrence.”

Next, the insurer agreed that there was property damage, but argued most of the complaints were of increased costs of construction due to duplication of effort, purchasing gaps, use of wrong materials, deviations from plans and specifications, code violations, and delays. The court agreed that the counterclaim alleged that Greystone’s shoddy work caused property damage. But there were also allegations that fell within the definition of property damage.

Finally, the court determined that the exclusions did not bar coverage. The insurer relied upon exclusion j (5) which barred coverage to “that particular part of real property on which you . . . are performing operations, if the ‘property damage’ arises out of those operations.” The court noted that it must look not to when the construction defect occurred, but when the property damage itself occurred. Greystone argued that some of the damage could only have occurred after it was no longer working on its particular part of the project. There was no clear allegation in the counterclaim tying the property damage to a particular date. Therefore, exclusion j(5) did not allow the insurer to escape its duty to defend.

Exclusion j (6) was also not applicable. The exclusion barred coverage for “property damage” to “that particular part of any property that must be restored, repaired or replaced because ‘your work’ was incorrectly performed on it.” The exclusion did not apply to property damage included in the products-completed operations hazard, i.e., when all of the work called for in the contract had been completed. The exclusion barred coverage only for property damage to parts of a property that were themselves the subject of defective work by the insured. The exclusion did not apply, however, for damage to parts of a property that were the subject of only nondefective work by the insured and were damaged as a result of defective work by the insured on other parts of the property.

The counterclaim alleged that some of Greystone’s work that was non-defective was damaged by defective work. For example, the counterclaim alleged that due to defective structural work, “the floor of the structure began to sag and critical plumbing elements were damaged.” The counterclaim further alleged that the roof was installed defectively, which caused water leaks on the property. The allegations also established that not all of Greystone’s work was completed because the contract was never completed. Therefore, the products-completed operations hazard was inapplicable. Exclusion j (6) did not apply to the extent that the counterclaim alleged that non-defective work was damaged by defective work.

Consequently, the insurer had a duty to defend.

In Washington, Insurers Can’t “Unring The Bell” After Wrongful Denial Of Coverage

Kevin Mapes | The Policyholder Report | April 23, 2018

For the second time in two months, a federal court in Washington state has rejected an insurer’s attempt to avoid the consequences of its wrongful failure to defend its insured by effectively changing its mind and later—in this case much later—offering a defense. In Rushforth Construction Co. v. Wesco Ins. Co., plaintiff Rushforth was a general contractor. Following good contracting practices, Rushforth made sure that it was included as an “additional insured” under liability policies issued to its subcontractors. When Rushforth was sued for construction defects, it tendered the claim to Wesco, the insurer for one of those subcontractors.

Wesco’s claims handling was less than stellar. Rushforth tendered the matter to Wesco on July 1, 2016. To its credit, Wesco opened a file and began investigating the claim, even going so far as to draft a reservation of rights letter sometime around September 1, 2016. From there, however, the claims-handling wheels came off. For reasons unexplained, the reservation-of-rights letter was never finalized or sent, despite repeated inquiries from Rushforth. Finally, more than a year after the claim was tendered, Rushforth filed suit against Wesco. Only then did Wesco send its letter, agreeing to defend under a reservation of rights. Rushforth rejected that offer.

Rushforth moved for partial summary judgment on three issues: 1) whether Wesco breached its duty to defend; 2) whether Wesco acted in bad faith; and 3) whether Wesco’s belated offer to defend cured its breach. According to Judge Coughenour of the Western District, the answers are 1) yes; 2) yes; and 3) no. The Court specifically rejected Wesco’s argument that it never actually denied a defense, and thus could not have breached. “An insurer may breach its duty to defend by failing to respond to an insured’s tender in a reasonably timely manner.” And because Wesco offered no justification for its delay, the Court went on to conclude that Wesco had acted in bad faith as a matter of law.

Finally, the Court rejected the insurer’s argument that its belated offer of a defense cured its prior breach. Because Wesco’s breach was material, the insured was released from its contractual duty to cooperate, and Wesco had no right to provide a belated defense. The insured “had the option of allowing Wesco to assume a defense, but it was not required to do so. Wesco cannot cure its breach by forcing [Rushforth] to accept a belated defense.”

For insurers handling claims in Washington, the case presents another reminder that Washington law favors the policyholder. Fail to defend at your own peril, and don’t expect the opportunity to “fix” a wrongful denial if the insured fights back. For policyholders, the lesson is similar: the law is frequently on your side in Washington, and insureds should not hesitate to aggressively protect their interests in the face of an insurer’s denial of coverage (or, as here, an insurer’s failure to act).

Duty to Defend Pre-Litigation Construction Defect Claims

Christopher P. Ferragamo and Alexis P. Joachim | DRI

Coverage disputes between insureds and their insurance companies over the scope of  the term “suit” and whether insurers are obligated to provide insureds with a defense for quasi-judicial proceedings relating primarily to environmental clean-up actions initiated by state and federal environmental agencies have been waged for decades. The Insurance Services Office (ISO) attempted to end the dispute by inserting a definition of the term “suit” that specifically addressed the types of proceedings that do and do not give rise to insurers’ duty to defend. Although a small handful of skirmishes continue to arise in the environmental context with respect to older versions of the general liability policies, ISO’s clarifying change in policy language has largely laid the issue to rest, at
least in the environmental context.

Yet, a new wave of coverage disputes interpreting the term “suit” in the construction
defect arena promises to resurrect this coverage question and spur renewed litigation
over an insurer’s obligations, if any, to defend such pre-litigation claims when traditional
litigation has not yet commenced against an insured. In this regard, 32 states enacted “Right to Repair” statutes, which require homeowners to comply with certain “pre-litigation” measures before filing a lawsuit against a homebuilder-insured. The issue over an insurer’s obligation to defend homebuilder-insureds during this “pre-litigation” process is fast becoming a new focal point of duty to defend disputes
between insureds and their insurers.

Defense Provisions in Standard Commercial General Liability Policies

The insuring agreement of Coverage A contained in standard Commercial General Liability (CGL) policies obligates insurers to pay those sums that the insured becomes legally obligated to pay as damages because of bodily injury or property damage to which the insurance applies. In addition, the insuring agreement provides that the insurer will defend the insured against any suit seeking those damages. Prior to 1986, the term “suit” was not defined in the ISO CGL policy form, which, as discussed below, gave rise to highly contested coverage litigation and a vast array of differing approaches taken by numerous courts throughout the country confronting the issue. The  inconsistency and uncertainty in approaches taken by courts between and within the states ultimately led to changes in the standard policy form. The changes are discussed in detail below.

Coverage Litigation Involving the Term “Suit” in the Environmental Context

The absence of a definition of “suit” in pre-1986 CGL policies resulted in significant coverage litigation over the meaning of “suit” and the types of conduct that
gave rise to insurers’ duty to defend in the environmental context. Coverage disputes
arose as to whether requests by state and federal authorities for insureds to investigate
and clean-up contaminated properties and adversarial actions short of litigation
gave rise to insurers’ duty to defend.

Some state courts find in favor of policyholders by applying a broad interpretation
of the term “suit.” Adopting such an approach expands insurers’ defense obligations
by focusing on the nature of the proceeding in which a claim for damages
against an insured is made. Many courts around the United States adopt
this broad approach and conclude that all types of coercive administrative actions
constitute “suits” giving rise to insurers’ defense obligations under CGL policies.
These courts reason that “an insured who is being ‘proceeded against,’ albeit in a
unorthodox fashion, is no less entitled to a defense than his insured contemporaries
who are legally attacked in a more conventional manner.” See Cont’l Cas. Co.
v. Cole, 809 F.2d 891, 898 (D.C. Cir. 1987). The Supreme Court of North Carolina, for
example, noted that so-called “compliance orders,” although not issued by a court, are
in fact “an attempt by the State to ‘gain an end by legal process.’” C.D. Spangler Constr.
Co. v. Indus. Crankshaft & Eng’g Co., 388 S.E.2d 557, 570 (N.C. 1990). Similarly, the
Alabama Supreme Court determined that the authority invested in the EPA in issuing
letters to potentially responsible parties (PRP) for environmental pollution is almost absolute and that “a decision by the EPA to designate an insured as a PRP cannot
on any practical level be understood as anything less that the initiation of a ‘legal
action’ constituting a ‘suit’ within the contemplation of [a CGL policy].” Travelers
Cas. Co. and Sur. Co. v. Ala. Gas Corp., 117 So. 3d 695, 708 (Ala. 2012).

Other courts, however, adopt a more traditional meaning of the term “suit” and find
in favor of insurers by limiting the term to mean only a formal complaint filed in a
court of law. By way of example, the California Supreme Court concluded that the word
“suit” means a civil action commenced by filing a complaint and, as a result, a PRP
letter would not fall within that definition. Foster-Gardner v. Nat’l Union Fire Ins. Co.,
959 P.2d 265 (Cal. 1998). The Illinois Supreme Court reached a similar conclusion
and held that a “duty to defend extends only to suits and not to allegations, accusations,
accusations or claims which have been embodied within the context of a complaint.”
Lapham-Hickey Steel Corp. v. Prot. Mut. Ins. Co., 655 N.E.2d 842, 847 (Ill. 1995).

ISO Defines the Term “Suit” in Standard CGL Policies

In 1986, ISO modified the standard CGL policy form to include a definition for the
term “suit.” In 1988, the definition was modified again to be more inclusive of
alternative dispute resolutions. Finally, in 1996, a further revision was made to
broaden the arbitration and dispute resolution forums. The term “suit” is now defined
in standard CGL policies as follows:
“Suit” means a civil proceeding in which damages because of “bodily injury,”
“property damage,” “personal injury,” or “advertising injury’ to which this insurance
applies are alleged. Suit includes
a) An arbitration proceeding in which such damages are claimed and to which the          insured must submit or do submit with our consent; or
b) Any other alternative dispute resolution proceeding in which such damages are          claimed and to which the insured submits with our consent.

The policy language change appears to eliminate most disputes between insureds
and insurers in the environmental context as insureds are no longer able to argue that
the term “suit” is undefined and, therefore, ambiguous. Courts, in turn, apply the definition and reject attempts by insureds to broaden its application beyond the proceedings set forth in the definition. See Hester v. Navigators Ins. Co., 917 F. Supp. 2d 290, 296–99 (S.D.N.Y. 2013) (rejecting insured’s request to broaden term and finding definition plain and unambiguous). As a result, any ongoing coverage disputes between insureds and insurers over what constitutes a “suit” in the environmental context involve
pre-1986 policy language. Insureds in the construction defect arena, however, are now beginning to challenge the definition of “suit,” arguing that pre-litigation repairs processes constitute “suits” giving rise to insurers’ duty to defend.

States’ Enactment of Pre-Litigation “Right to Repair” Statutes

At least 32 states enacted legislation requiring homeowners to notify builders of potential construction defects and provide builders with an opportunity to correct the
defect before homeowners initiate litigation. See e.g. Alaska Stat. §§09.45.881 – 09.45.899 (2016); Ariz. Rev. Stat. §§12-1361 – 12-1366 (2016); Cal. Civ. Code 895 – 945.5 (2016); Colo. Rev. Stat. §§13-20-802 – 13-20-807 (2016); Fla. Stat. §§558.001 – 558.005 (2016); Nev. Rev. Stat. §§40.600 – 40.695 (2015); Tex. Prop. Code Ann. §§27.001-27.007 (2016).

Generally, “right to repair” statutes set forth certain procedural requirements that
a homeowner must follow prior to filing a civil action in court. The statutes typically
require the homeowner to notify the builder of an alleged defect within a specified
time after discovery; although, in most states, failure to comply with this requirement
does not bar the claimant from sending a notice. Notable requirements by the
builder include: (1)  responding to the claimant within a specified time, (2)  the
right to inspect the property and notify subcontractors of the defect, (3)  conducting
destructive testing, if necessary, and/or (4) offering to repair the alleged deficiency,
settle the claim, or deny the claim. Many states, however, allow the homeowner to
reject the builder’s offer, thus converting an opportunity for resolution into a mere hurdle
to the homeowner filing a civil action. Further, some statutes are limited in scope
and only apply to certain types of construction and/or defects.

Each state characterizes their “right to repair” statutes differently. By way of
example, the Florida Legislature characterizes “right to repair” statutes as follows:
The Legislature finds that it is beneficial to have an alternative method to resolve
construction disputes that would reduce the need for litigation as well as protect
the rights of property owners. An effective alternative dispute resolution mechanism
in certain construction defect matters should involve the claimant filing a notice of           claim with the contractor … that the claimant asserts is responsible for the defect,           and should provide the contractor … and the insurer of the contractor … with an             opportunity to resolve the claim through confidential settlement negotiations without       resort to further legal process.

Fla. Stat. §558.001 (2016) (emphasis added). In contrast, the California “right to repair”
statute specifically states that the claimant’s notice to the builder “…shall have the
same force and effect as a notice of commencement of a legal proceeding.” Cal. Civ.
Code §910 (2016) (emphasis added).

Policyholders Challenge Whether “Right to Repair” Statutes Give Rise to a Duty to Defend Right to Repair Statutes That Qualify as “Suits”

Certain “right to repair” statutes have a coercive and binding effect on insured builders.
By way of example, in California, the Calderon Process was statutorily established
to allow a homeowner’s association to take pre-litigation steps against a developer for
construction defects. In Clarendon America Ins. Co. v. StarNet Ins. Co., a California
appellate court determined that a notice of commencement pursuant to a Calderon Notice constituted a “suit” under a CGL policy. 113 Cal. Rptr. 3d 585 (Cal. Ct. App. 2011), granting review, 242 P.3d 67 (Cal. 2010) (deferring the matter pending the disposition of Ameron Int’l Corp. v. Ins. Co. of the State of Penn., 242 P.3d 1020 (Cal. 2010)), dismissing review, 121 248 P.3d 191 (Cal. 2011).

In Clarendon, a homeowners association presented its residential developer with a
list of alleged construction defects to which the developer sought coverage under several of its subcontractors’ CGL policies. Id at 587. In addition to notifying the builder of the defects and the builder responding to these claims, the parties were required to select a dispute resolution facilitator to “preside over the mandatory resolution process.” Id at 589. The final event, pursuant to the statute, was a “[f]acilitated dispute resolution
of the claim, with all parties, including peripheral parties, as appropriate, and insurers,
if any, present and having settlement authority.” Id. (internal quotation marks omitted). Although the purpose of the Act was to discourage unnecessary litigation, the court determined that the process was more than just a pre-litigation alternative dispute resolution requirement, as the procedures undertaken during the process and
the results of the process were incorporated into and became part of the post-complaint
litigation. Id. at 592. Furthermore, if timely notice was received of any testing and inspection, no additional inspection or testing was allowed during the actual litigation.
Id. The court, therefore, determined that the Calderon Process was an integral part of the litigation process because of the application and legal effect described in the Act and therefore constituted a “suit” for purposes of an insurer’s duty to defend. Id. at 592–93.

Similarly, in D.R. Horton Los Angeles Holding Co., Inc. v. American Safety Indemnity Co., the United States District Court for the Southern District of California determined that California’s “right to repair” statute set forth in the California Civil Code, Cal. Civ. Code 910, required an insurer to defend the policyholder at the time the defect notice was sent to the builder. 2012 WL 33070 *19 (S.D. Cal. 2012). The focus of the court’s holding was on the language of the statute, which stated that it “shall have the same force and effect as a notice of commencement of a legal proceeding.” Id. (internal quotation marks omitted).

Courts view other “right to repair” statutes, not as a “civil proceeding,” but as “other
alternative dispute resolution proceedings.” For example, in Melssen v. Auto-Owners, Inc. Co., a Colorado appellate court determined that the Colorado “right to repair” statute constitutes “alternative dispute resolution proceedings” within the post-1988 definition of “suit.” 285 P.3d 328 (2012). In that case, homeowners filed a notice of claim in accordance with the Colorado Defect Action Reform Act (CDARA) against their homebuilder for certain defects to their home. Id. at 332. The homebuilder tendered the
claim to its insurer, who eventually denied the claim. Id. A lawsuit for breach of contract
was filed against the insurer, who argued that the notice of claim did not constitute a “suit.” Id. at 333–34. The court disagreed, however, finding that not only did the notice
of claim constitute “a civil proceeding,” but that the notice of claim also constituted an
“alternative dispute resolution proceeding.” Id. at 334. In so holding, the court explained
that, according to Black’s Law Dictionary, “alternative dispute resolution proceedings”
are procedures “for settling a dispute by means other than litigation, such as arbitration
or mediation.” Id.(internal quotation marks omitted).

The procedure was less litigious than California’s process and the court focused on the legislative intent, which was to “encourage[] resolution of potential defect claims before suit is filed” and to “establish[] procedures that facilitate out-of-court resolution of construction defect claims.” Id. at 335 (emphasis added) (internal quotation marks omitted). Interestingly, the statute’s intent was set forth in a previous court ruling describing the “right to repair” statute, rather than articulated by the legislature in the statute itself. Id. Based on the language and purpose of the statute, the court concluded that the notice of claim process constituted an “alternative dispute resolution proceeding” and, as such, qualified as a “suit” since the term “suit” was defined to include “alternative dispute resolution proceedings.” Id. As far as consent, a requirement needed if the proceeding is deemed to be an “alternative dispute resolution proceeding,” the court concluded that there was sufficient evidence in the record to raise a question of fact for the jury as to whether the insurer impliedly consented to the insurers’ notice of claim process. Id.

Right to Repair Statutes That Do Not Qualify as “Suits”

Courts do not universally conclude, however, that all pre-litigation proceedings
mandated by right to repair statutes qualify as “suits” so as to give rise to an insurer’s
duty to defend. Some courts view right to repair statutes as a non-litigious process
put in place to encourage resolution of construction defect claims.

For example, the United States Court of Appeals for the Tenth Circuit in Cincinnati
Insurance Co. v. AMSCO Windows, addressed whether Nevada’s “right to repair” statute was a “suit.” 593 Fed. App’x. 802 (10th Cir. 2014) (applying Utah law). In that case, the policyholder, which manufactured windows used in homes, was sued for defective products that allegedly caused property damage. Id. at 804. According to the Nevada statute, before a claimant pursued a construction defect claim in a judicial proceeding, a detailed written notice must be provided affording the opportunity to inspect and repair the damage. Id. At the conclusion of the prelitigation process, any unresolved claims may proceed to state court. Id. Some of the homeowners’ claims developed into a civil lawsuit, whereas others remained in the pre-suit phase. Id. at 805. The policyholder tendered the claims for defense to its insurer, but the insurer refused to defend and filed a declaratory judgment action. Id.

The trial court determined that the insurer had a duty to defend only those claims in active litigation and not the statutory prelitigation claims. Id. On appeal, the policyholder
argued that the statutory pre-litigation process was equivalent to a “civil proceeding”
and required a defense. The court looked to the statute for guidance on the issue. Id. at
809. According to the court, although the statute mandates participation, noncompliance
does not result in an adverse judgment. Id. at 810–11. In other words, a party who fails to comply with the provisions of the statute faced limited consequences, which are not parallel to the case-determinative consequences of noncompliance in the context
of lawsuits or mandatory arbitrations. Id. Despite the fact that the statute specifically
required the insurer to treat the claim as if a civil action had been brought against the
contractor, the court found such a requirement a non-determinative factor based on
the statutes nonbinding effect. Id. In dicta, the court noted that the Nevada “right to repair” statute would be an “alternative dispute resolution” as to which the policy required the insurer’s consent, and which had not been given. Id.

Similarly, in Altman Contractors, Inc. v. Crum & Forster Specialty Ins. Co., a Florida
federal court determined that a construction defect notice did not constitute a “suit.” 124 F. Supp. 3d 1272, 1274 (S.D. Fla. 2015). In that case, Altman Contractors, Inc. (ACI) was served with a Notice of Claim and Supplemental Notices of Claim pursuant to Chapter 558 of the Florida statutes, which provides a pre-suit procedure for a property owner to assert a claim for construction defects against a contractor. Id. ACI demanded that its insurer Crum & Forster defend and indemnify it relative to the claims. Id. Although Crum & Forster hired a law firm to participate in the response to the notice, Crum & Forster denied ACI’s request to select its own counsel and denied ACI’s request to be reimbursed for the fees and expenses it incurred prior to retention of counsel by Crum & Forster. Id. at 1275.

ACI filed suit seeking a declaration that Crum & Forster had a duty to defend and
indemnify it against the 588 Notice. Id. The policy defined “suit” to include a civil
proceeding, a term that was not further defined in the policy. Id. at 1279. The court
therefore turned to the Black’s Law Dictionary definition of “civil proceeding,” which
defined proceeding as a “judicial hearing, session or lawsuit in which the purpose is
to decide or delineate private rights and remedies, as in a dispute between litigants
in a matter relating to torts, contracts, property, or family.” Id. (internal quotation
marks omitted). According to the court, nothing about the Chapter 558 process
satisfied the definition. Id. The court further noted that for something to be a “civil
proceeding,” pursuant to the definition, there must be some forum and some decision
maker involved. Id. at 1281. The Florida Legislature described Chapter 558 as a
“mechanism,” not a “proceeding.” Id.

Because the court concluded that the Chapter 558 mechanism did not constitute a “civil proceeding,” it also could not constitute an alternative dispute resolution “proceeding” and therefore did not constitute a “suit” under the Crum & Forster policy. Id. The court distinguished the dicta set forth in AMSCO, supra, as inconsistent with the court’s view of the definition of civil proceeding. Id. at 1282. The court, therefore, determined that Crum & Forster had no obligation under the terms of the insurance policies at issue to defend or indemnify ACI relative thereto, and that Crum & Forster did not breach the terms of the policies as a matter of law. Id.

The ruling in Altman was subsequently appealed to the United States Court of Appeals for the Eleventh Circuit. On August 2, 2016, the Eleventh Circuit determined that both Crum & Forster and ACI had reasonable interpretations of the term “suit,” but certification of the issue to the Florida Supreme Court was appropriate, given the policy implications with respect to the question of first impression. Altman Contractors, Inc. v. Crum & Forster Specialty Ins. Co., 832 F.3d 1318 (11th Cir. 2016). The Eleventh Circuit certified the following question: “Is the notice and repair process set forth in Chapter 558 of the Florida Statutes a ‘suit’ within the meaning of the CGL policies issued by C&F to ACI?” Id. at 1326. The Florida Supreme Court accepted the certified question and the partiesare currently briefing the issue.

Analyzing Tenders for Defense of “Right to Repair” Claims Right to Repair Notices and Jurisdictional Case Law

If the jurisdiction requires an insurer to defend the pre-litigation process, like California
or Colorado, an insurer, on receiving notice, should review the letter for potentially covered claims. If the letter is vague as to the damages sought, the insurer should consider retaining defense counsel for the insured to investigate the loss immediately, including a review of the alleged damages for potentially covered claims.

If courts in the jurisdiction conclude that the right to repair claim does not give rise to a duty to defend in the particular jurisdiction at issue, such as Nevada or Florida, the insurer should not ignore the notice provided by its policyholder. Rather, the insurer should conduct, at a minimum, a preliminary investigation of the claim, knowing that the claim may proceed to litigation in the future. The more difficult claims facing insurers are those in jurisdictions where courts have not yet addressed the issue (i.e., jurisdictions other than California, Colorado, Florida or Nevada). As discussed below, in such situations, insurers will need to analyze the policy language and the language and intent of the statute at issue in the context of the jurisdiction’s duty to defend standard to determine whether the pre-litigation process could give rise to a defense obligation.

Policy Language and Definition of the Term “Suit”

As noted above, prior to 1986, the term “suit” was not defined in the ISO form CGL policy, which has led to a body of well-settled law and has resulted in insurers in
a number of jurisdictions defending a variety of claims and pre-litigation demands.
The post-1986 commercial general liability form now contains a specific definition of
the term “suit” such that current liability policies differentiate between the term “claim” and “suit.” Although only the latter gives rise to an insurer’s duty to defend, a policyholder is still required to notify its insurer of a claim. Claim is not defined in the CGL policy, but is referenced in the conditions part of the policy, titled “Duties In
The Event of Occurrence, Offense, Claim or Suit.” Based on this provision, it is clear
that policyholders, regardless of whether they are seeking a defense, are required to notify the insurer of claims. Right to repair notice letters would likely constitute, at a minimum, a claim for which the policyholder must provide notice. If notice is not provided “as soon as practicable,” an insurer has a potential late notice defense,
depending on the jurisdiction, even for the late notice of a right to repair letter. It is
therefore imperative that an insurer first review its policy to determine if “suit” is
defined at all and, if so, how it is defined.

Right to Repair Statutes at Issue

As discussed above, courts appear inclined to review the language and intent of the
statute itself to determine if an insurer has a duty to defend. If the statute is similar to
California in that it involves an adversarial proceeding that is later incorporated
into later-filed litigation, insurers should be prepared to retain counsel to defend the
policyholder (assuming the notice relates to covered damages). If the statute is less
litigious and merely involves certain procedures that have no binding effect on the
post-legal proceeding, insurers may opt to monitor the loss, rather than retain defense

Of important note, the post-1986 definition of the term “suit” specifies that it includes not only civil proceedings, but also mandatory arbitration proceedings (or arbitration proceedings consented to by the insurer) and “any other alternative dispute resolution proceeding consented to by the insurer.” The first scenario is fairly straightforward and would involve situations in which an insured is compelled to arbitrate a matter pursuant to a mandatory arbitration requirement in the statute or a voluntary arbitration  proceeding consented to by the insurer. Some “right to repair” statutes allow parties to engage in voluntary arbitration, which may be a suitable avenue to resolve the dispute with the insurer’s consent.

The second scenario is a bit different. Insureds seeking a defense in non-litigation
or non-arbitration scenarios have argued that the term “other alternative dispute resolution proceedings” broadly encompasses situations involving such activities as formal and informal settlement discussions and/or mediation sessions with adverse
parties, when the discussions or voluntary mediation sessions are undertaken with
the assistance of attorneys for the disputing parties. If either of these procedures is
encompassed within the pre-litigation procedures under the right to repair statute,
the claim could give rise to a defense obligation on the part of the insurer.

The Duty to Defend Standard Absent a Complaint

After examining the policy language, the notice, and the right to repair statute, the
final step in evaluating whether a defense is owed in a pre-litigation construction
defect procedure is to determine the allegations and/or facts that can and cannot be
relied on to make such a determination. In this regard, most pre-litigation procedures
present difficulties because the mechanism to initiate the claim (often times some form
of demand letter) does not involve a traditional complaint.

The majority of jurisdictions use the “four corner” or “eight corner” rule in determining an insurer’s duty to defend. That is, the court compares the allegations of the complaint with the terms of the policy to determine if a duty to defend exists. See, e.g., Jones v. Fla. Guar. Ass’n, Inc., 908 So. 2d 435 (Fla. 2005); Kvaerner Metals Div. of Kvaerner U.S., Inc. v. Commercial Union Co., 908 A.2d 888 (Pa. 2006). When the actual facts are inconsistent with the allegations of the complaint, the allegations of the complaint generally control in determining an insurer’s duty to defend. Higgins v. State Farm Fire & Cas. Co., 894 So. 2d 5 (Fla. 2004). These rules allow for a definite document to be analyzed and reviewed to evaluate whether the plaintiff has asserted a potentially covered claim for which a defense is owed.

In holding that insurers are required to defend right to repair notices, courts have
presented insurers with a practical problem: What claim documents should an insurer
look to in determining whether the right to repair notices involve a covered claim and
thus a duty to defend? By way of example, Florida’s 558 notice does not require the
homeowner to assert that the contractor or builder is liable for damages or plead facts
in good faith supporting a claim for relief. The notice need only “describe the claim
in reasonable detail sufficient to determine the general nature of each alleged construction defect and a description of the damage or loss resulting from the defect, if known.” Fla. Stat. §558.004(1). With such minimal requirements, and no applicable good faith standard in drafting the notice letters (as is required for pleadings in all jurisdiction), the statutory right to repair process is not conducive to a “four corner” or “eight corner” analysis.

In jurisdictions that allow insurers to look to extrinsic evidence to establish or negate coverage, the determination of a duty to defend is a bit easier. In these states, an insurer is allowed to review facts outside a complaint to determine if a duty to defend exists. E.g., Montrose Chem. Corp. v. Superior Court, 861 P.2d 1153 (Cal. 1993);
Northern Ins. Co. v. Morgan, 918 P.2d 1051 (Ariz. 1995). The extrinsic evidence exception not only allows insurers to analyze and review the notice, but insurers are also permitted to investigate the claim for covered and non-covered damages. If, after an investigation, there are no potentially covered claims, an insurer should have an adequate basis to deny a defense.

Thus, insurers need to understand the applicable duty to defend standard in the state in which the notice is pending to determine whether facts outside the notice (assuming the notice is treated as a complaint) can be considered in analyzing coverage. If the jurisdiction applies either a “four corners” or “eight corners” test and there is no direct or analogous case law that provides guidance on what can be relied upon to determine the duty to defend, insurers may be limited to the sparse facts and/or allegations contained
in the demand to determine their defense obligations unless and until they are  developed further in the pre-litigation process.


“Right to repair” statutes will undoubtedly re-kindle the debate over what types of pre-litigation claims require a defense by an insured when traditional litigation has not been brought against an insured. Similar to the issue of whether an insurer has a duty to defend state and federal environmental cleanup claims, this issue has (and likely will continue) to result in a split of authority on the issue and resolution will likely depend upon the nature of the pre-litigation demand/process at issue, the policy language, and the facts of the claim. Until courts in more jurisdictions issue decisions addressing the scope of insurers’ duty to defend the state-specific statutory pre-litigation procedures, insurers should carefully analyze and consider the issues discussed above when determining whether pre-litigation construction defect claims give rise to a duty to defend in the absence of traditional litigation.


Don’t Let Them Off the Hook: Ninth Circuit Affirms an Insurer’s Broad Duty to Defend

Nathaniel Miller | Pillsbury Winthrop Shaw Pittman LLP | March 29, 2018

As the adage goes, don’t make a promise you cannot keep. An insurance policy, like any other contract, involves a commitment from both sides. For third-party liability policies, an insurer typically commits to a broad duty to defend the policyholder against any suits alleging claims that have a potential for coverage under the insurance policy. However, when a claim arises, insurers have a financial interest in trying to get off the hook. At times, policyholders need to turn to the courts for help reeling insurers in and forcing them to follow through with their commitments.

Recently, in Hanover Insurance Company v. Paul M. Zagaris, Inc., the Ninth Circuit ruled that an insurer had to defend its insured, a real estate brokerage firm, in a proposed class action suit because there was a potential for coverage for at least one of the alleged claims. The plaintiffs alleged that the real estate brokerage firm had received undisclosed kickbacks from the sale of natural-hazard disclosure reports to its clients. Specifically, they claimed that the firm breached its fiduciary duties, deceived its clients by omission, engaged in constructive fraud, and was unjustly enriched, among other things.

The insurer argued that it did not owe a duty to defend the policyholder under a professional liability policy because all the allegations in the underlying suit were excluded from coverage as “deceptive business practices.” However, the Ninth Circuit affirmed a lower court ruling that the insurer had a duty to defend because of the possibility that the underlying claims would be covered. It found that the causes of action for breach of fiduciary duty and constructive fraud had the potential to be covered because such claims would not necessarily “arise out of … deceptive business practices.” The Ninth Circuit found it possible that, in the underlying class action, the policyholder would be found to have breached its fiduciary duties or engaged in constructive fraud without having acted fraudulently or deceptively, because the policyholder’s failure to disclose its interest in the sale of natural-hazard disclosure reports was an omission. Therefore, the insurer had not met its burden of demonstrating that it would be impossible for any of the claims to fall within coverage and could not evade its duty to defend the policyholder. Moreover, under California law, an insurer must provide a defense for the entire action when it alleges both potentially covered claims and excluded claims. The insurer may not provide a partial defense only for potentially covered claims and not for the excluded claims. For these reasons, the insurer was on the hook to provide a defense for the entire underlying class action suit.

The Zagaris opinion serves as an important reminder that under a third-party liability insurance policy, insurers owe a broad duty to defend a policyholder against claims even if at first blush they appear to involve excluded conduct. As long as at least one claim against the policyholder can potentially fall within coverage, the insurer is on the hook for the entire defense. While insurers often try to wriggle free, even when there is coverage, it is up to policyholders and courts to hold them accountable to the policy language and to keep them on the hook for a complete defense.