Insurance Reciprocal Exchanges and Federal Diversity Jurisdiction

Stephanie Poll | Property Insurance Coverage Law Blog | July 25, 2018

Recently, a federal district court in Oregon clarified where one may sue an insurance reciprocal exchange. In the case of Staggs v. Farmers Insurance Exchange,1 the homeowners were Oregon citizens who brought suit under a homeowners’ policy issued by Farmers Insurance Exchange in a federal district court in Oregon. Farmers moves to dismiss, arguing that the court lacked subject matter jurisdiction because there was no diversity; that although its primary place of business was California, the Staggs were Oregon citizens.

The court granted Farmers’ motion, noting that in a reciprocal insurance exchange, individuals and businesses pool risk by agreeing to indemnify each other against particular kinds of losses. The policyholders are identified as “subscribers” who act through a common attorney-in-fact and are simultaneously both insurers and insureds. The court determined these insurance exchanges do not have a corporate existence. The court further determined that under California law, a reciprocal insurance exchange’s subscribers were its members and that Farmers’ citizenship had to be decided in relation to the citizenship of its members-subscribers.

Using this rationale, the court concluded that the Staggs were Oregon citizens and Farmers’ member-subscribers and therefore Farmers was an Oregon citizen, destroying diversity between the parties and resulting in the court lacking subject matter jurisdiction.

There are differing decisions among the federal courts on whether subscribers to a reciprocal insurance exchange are members or customers of the exchange.2 One significant fact is that when Congress passed the Class Action Fairness Act of 2005, it amended the diversity of citizenship rule for specific class actions.3 The amendment stated that for a subset of class actions, “an unincorporated association shall be deemed to be a citizen of the State where it has its principal place of business and the State under whose laws it is organized.”

The Senate Judiciary Committee remarked in its report on CAFA that the rule was frequently criticized because often an unincorporated association is, as a practical matter, indistinguishable from a corporation in the same business. Some insurance companies for example, are “inter-insurance exchanges” or “reciprocal insurance associations.” For that reason, federal courts have treated them as unincorporated associations for diversity jurisdiction purposes. Since such companies are nationwide companies, they are deemed to be citizens of any state in which they have insured customers.

Consequently, these companies can never be completely or even minimally diverse in any case. It makes no sense to treat an unincorporated insurance company differently from, say, an incorporated manufacturer for purposes of diversity jurisdiction. New subsection 1332(d)(10) corrects this anomaly.
1 Staggs v. Farmers Ins. Exchange, No. 3:15-cv-015020 (D. Ore. April 27, 2016).
2 Garcia v. Farmers Ins. Exch., 121 F. Supp. 2d 667, 669 (N.D. Ill. 2000); James G. Davis Const. Corp. v. Erie Ins. Exchange, 953 F. Supp. 2d 607 (D. Md. 2013); James River Ins. Co. v. Cast & Associates, Inc., No. 4:11-CV-00730 (D. Ariz. Mar. 5, 2012); Nevada Capital Ins. Co. v. Farmers Ins. Exchange, No. 2:12-cv-02166 (D. Nev. Dec. 4, 2014).
3 28 U.S.C. § 1332(d)(10).

Washington Court of Appeals Dismisses Oregon Contractor’s Collection Action for Failure to Strictly Comply With Registration Requirements

Rachel B. Greenlee | Lane Powell | April 3, 2018

In an unpublished opinion filed April 3, 2018, in HNS, Inc. v. Eagle Rock Quarry, et al., Cause No. 34695-1-III, Division Three of the Washington Court of Appeals dismissed a contractor collection action finding that the contractor failed to substantially comply with the requirements of Washington’s contractor registration act, RCW 18.27, which is a prerequisite to filing suit.

Eagle Rock Quarry, Inc., located in Mesa, Washington, entered into an oral agreement with HNS Inc., an Oregon company, for HNS to blast and stockpile gravel at its Washington location. Eagle Rock made a number of payments to HNS under the agreement, but suddenly stopped paying HNS’s monthly invoices in September 2015. Four months later, HNS sued Eagle Rock for its failure to pay.

Despite expressing sympathy for HNS having performed work without payment, the trial court granted Eagle Rock’s motion to dismiss the Complaint on the basis that HNS was not duly registered as required under RCW 18.27, which is a prerequisite to filing suit.

RCW 18.27 requires every contractor engaging or offering to engage in services in Washington to register with the Department of Labor and Industries (L&I). In any action to collect compensation for work or to enforce a contract, a contractor must prove that it was duly registered at the time it entered into the contract or performed the work. The statute states that a court may not find a contractor in substantial compliance with the registration requirements unless:

  1. L&I  has on file the registration information prescribed in RCW 18.27.030,
  2. The contractor had at all times in force a current bond or surety as required by RCW 18.27.040, and
  3. The contractor had at all times in force a current insurance as required by RCW 18.27.050.

HNS had formerly been licensed in Washington, but failed to renew its license in 2010. The Court of Appeals reasoned that by virtue of its previous registration, L&I likely had on file much but not all of the information required by RCW 18.27.030. However, the Court found that HNS’s $75,000 surety bond did not qualify as a bond required by RCW 18.27.040 because it named the State of Oregon as obligee. RCW 18.27.040 requires the contractor’s bond to name the State of Washington as obligee. To this point, the Court of Appeals quoted the trial court’s comments at oral argument that “the purpose of the statute is to protect against damage claims … [for] people that work here. People that have accidents that occur here.” (Emphasis added).

Further, HNS could not demonstrate that it possessed the required insurance because it provided only premium notices, rather than a copy of the policy, or other evidence that the insurance in place covered its operations with Eagle Rock in Washington.

Accordingly, while similarly sympathetic to HNS’s situation, the Court found that HNS did not substantially comply with RCW 18.27.080 in the manner required to enjoy access to Washington courts, and affirmed the trial court’s dismissal of the action. This case emphasizes the importance of strict compliance with the Washington contractor registration act, especially for out-of-state contractors.

Construction Law Alert: Proposed Legislation Would Make Contractors Liable for Unpaid Wages of Subcontractors

Eric A. Grasberger and W. Cory Haller | Stoel Rives | February 13, 2018

A bill proposed in the Oregon House of Representatives threatens to fundamentally alter the relationships between owners, contractors, their subcontractors, and their subcontractors’ employees. Under the bill, a contractor (defined as a person who contracts with an owner to perform construction) on a private project would be directly liable for the unpaid wages of its subcontractors’ employees. This liability would extend to employees of subcontractors at all tiers, and it would include liability for any benefit payments or contributions made as part of the employee’s total compensation. The contractor’s liability could be enforced by the Bureau of Labor and Industries, any third party owed a benefit payment or contribution on behalf of the unpaid employee, or any joint labor and management committee established under a collective bargaining agreement.

The bill provides a few minor protections for contractors. It requires subcontractors to provide payroll records and information describing payment status. Although it allows a contractor to withhold payment to a subcontractor because of the subcontractor’s failure to comply with a contractor’s information request, it does not allow a contractor to avoid liability to the subcontractor’s employees for unpaid wages based on the subcontractor’s failure to comply with such a request.

For the full text of the proposed legislation, click here. This legislation is currently pending in the House Business and Labor Committee, and we urge you to contact your representative to share your comments regarding the impact this legislation could have on your business.

Oregon Supreme Court Confirms Broad Duty to Defend

Theresa A. Guertin and Tiffany Casanova | Saxe Doernberger & Vita PC

The Supreme Court of Oregon issued a decision at the end of last year which perfectly illustrates the lengths to which a court may go to grant a contractor’s claim for defense from its insurer in a construction defect suit. In West Hills Development Co. v. Chartis Claims, Inc.,1 the Court held that a subcontractor’s insurer had a duty to defend a general contractor as an additional insured because the allegations of a homeowner’s association’s complaint could be interpreted to fall within the ambit of coverage provided under the policy—despite the fact that the policy only provided ongoing operations coverage, and despite the fact that the subcontractor was never mentioned in the complaint. The decision is favorable to policyholders but also provides an important lesson: that contractors may avoid additional insured disputes if those contractors have solid contractual insurance requirements for both ongoing and completed operations risks.

An insurer’s duty to defend is typically determined by the allegations of a complaint as compared with the language of the policy. This principle is often referred to as the “four-corners rule” in reference to the four corners of the paper the policy is written on. Some states have relaxed this rule and allow parties to introduce “extrinsic evidence”—that is, facts which are not set forth in the complaint—to establish the duty to defend.2 Oregon, however, has consistently followed the “four-corners rule,”3 with one notable exception: a party claiming additional insured status may introduce extrinsic evidence to prove that they are an insured on the policy.4 In West Hills, the Court reiterated Oregon’s stance on these issues.

West Hills Development Company (“West Hills”) was a general contractor for a townhouse development in Oregon. West Hills contracted with L&T Enterprises (“L&T”) as subcontractor and required that L&T obtain insurance coverage naming West Hills as an additional insured. L&T’s commercial general liability policy with Oregon Automobile Insurance Company (“Oregon Auto”) named West Hills as an additional insured on a standard additional insured endorsement, which insured West Hills “only with respect to liability arising out of [L&T’s] ongoing operations performed for [West Hills].” There was no contractual requirement that L&T provide completed operations additional insured coverage for West Hills, nor did the Oregon Auto policy include such coverage.

Following the completion of the project, the development’s homeowner’s association sued West Hills for construction defects. According to the complaint, West Hills’ subcontractors had negligently used improper means and methods in their construction work that resulted in defects. The association also alleged that West Hills was liable for negligence in hiring, supervising, and failing to oversee and inspect the subcontractors and their work. The Court noted that the “complaint contained very little information regarding the time when the damages allegedly occurred,” although the complaint did allege that the defects already existed and had started to cause damage when the owners purchased their townhomes. Moreover, as is often the case in suits brought by project owners, the complaint did not specifically identify the allegedly negligent subcontractors by name.

West Hills tendered a claim for additional insured coverage to Oregon Auto. Oregon Auto refused to defend West Hills, arguing that: (1) the homeowner’s association only alleged claims against West Hills as general contractor, not the named insured, L&T, and; (2) the claims did not arise from covered ongoing operations. Before the Oregon Supreme Court, Oregon Auto argued that the duty to defend could not be triggered merely because a complaint failed to “rule out” the possibility of coverage. Instead, it asserted that the duty to defend arises only when the complaint explicitly articulates a covered claim.

The Court rejected Oregon Auto’s argument and confirmed that the legal standard was whether the allegations in the complaint, reasonably interpreted, could result in liability for an incident or injury that was covered under the four corners of the policy, regardless of any ambiguity or lack of clarity in the complaint. Specifically, the Court found that the complaint alleged claims against West Hills from which West Hills may incur liability that could be reasonably interpreted to “aris[e] out of [L&T’s] ongoing operations performed for [West Hills],” as required under the additional insured endorsement. The complaint alleged that West Hills’ subcontractors had used “improper construction means and methods” and that West Hills was negligent in preventing them from doing so. Thus, although L&T was not specifically named in the complaint, the Court held that the complaint could reasonably be interpreted as alleging liability for conduct covered by the policy, i.e. L&T’s operations for West Hills. The Court further stated that the complaint alleged damages that occurred by the time the owners purchased their homes, making it possible that the damages occurred during L&T’s “ongoing operations.” In light of this analysis, the Court ruled that Oregon Auto had a duty to defend West Hills.

Thus, the West Hills decision confirmed Oregon’s broad duty to defend standard, a favorable outcome for policyholders. It is interesting to note, however, that the case might never have come about if West Hills had required that its subcontractors provide completed-operations additional insured coverage; if L&T had both ongoing and completed operations additional insured endorsements on its policy, then Oregon Auto’s duty to defend West Hills would have likely been more obvious. Upstream and downstream parties alike must consider case law such as this when developing effective risk management plans suitably tailored to their needs, and should remember to require appropriate additional insured coverage for both ongoing and completed operations from their subcontractors.

1. 360 Or. 650 (2016).

2. For a state-by-state breakdown on the use of extrinsic evidence in the determination of the duty to defend, see SDV Law, Extrinsic Evidence State by State Survey, pdf.

3. Ledford v. Gutoski, 877 P.2d 80, 82 (Or. 1994); Insenhart v. Gen. Cas. Co., 377 P.2d 26, 28-29 (Or. 1962).

4. Fred Shearer & Sons, Inc. v. Gemini Ins. Co., 240 P.3d 67 (Or. 2010).

Calculating Actual Cash Value, Part 29: Oregon

Shane Smith | Property Insurance Coverage Law Blog | August 25, 2017

This week, Oregon made national news as one of the best locations to view the Great American Eclipse. I realized I had not yet covered Oregon in my series on calculating actual cash value, leading to today’s blog.

In Growers Refrigerating Co. v. American Motorists Insurance Company,1 the insured commenced an action to recover for damage to pears stored in its cold storage plant as a result of contamination following an ammonia leak in refrigeration equipment.

Although the issue the court considered did not center on the cost of repairs, the court held the term actual cash value is defined as the market value at the time of the occurrence:2

We recognize that this is not a case involving the cost of repairs. We also agree that it would have been preferable for plaintiffs in this case to offer testimony framed more precisely in terms of the difference in the cash or market value of the pears before and after they were contaminated by ammonia. We nevertheless hold, however, that under the particular facts of this case evidence showing a comparison of the amounts received from contaminated and uncontaminated pears, together with evidence of the amounts paid in the adjustment of claims for contamination damage to the owners of the pears, was not only admissible, but that presumptively, and in the absence of evidence to the contrary, such amounts represented the difference between the value of the pears before and after they were contaminated by ammonia.

The jury in this case was properly instructed on the issue of damages in terms of cash or market value, as required by the provisions of the policy. We hold that there was sufficient evidence to support its verdict awarding damages to plaintiffs.

1 Growers Refrigerating Co. v. American Motorists Ins. Co., 260 Or. 207, 488 P.2d 1358 (1971).
2 Id. at 1363, 1364.

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