AIG Must Defend Additional Insureds

Joan Cotkin | Insurance Recovery Report | November 17, 2017

That it took an appellate court to order AIG’s Lexington Insurance to honor its additional insured obligations is a measure of how frequently insurers attempt to dodge this important contractual obligation. The case of McMillin Management Services v. Financial Pacific Insurance, et al., in the Fourth District of the California Court of Appeal, was decided just a few days ago, on November 14, 2017.  The Court reversed the trial court, finding that Lexington had to defend McMillin, a general contractor because of the construction defects potentially caused by the operations of the Lexington insureds, two subcontractors.

Lexington argued that since the homeowners’ claims arose after the subcontractors’ work was done, these claims could not have “arisen out of” the subcontractors’ on-going operations and fit into the exclusion for completed operations. However, the additional insured endorsements were not so limited, and provided coverage for liability arising out of such operations as damage may well have occurred during the construction operations.

McMillin had used a number of subcontractors to work on the subject development, two of whom, Martinez and Rozema, purchased insurance with Lexington and included additional insured endorsements. This may be the first published decision specifically construing such “arising out of” language, which commonly appears in such endorsements.  Although there was a completed operations exclusion, it was not clear when the alleged damages occurred, therefore there was a potential for a defense.

The appellate court relied on the holding of another decision that held the term “arising out of” in this context is to be broadly construed: “… it broadly links a factual situation with the event creating liability, and connotes only a minimal causal connection or incidental relationship.” Acceptance Ins. Co. v. Syufy Enterprises (1999) 69 Cal.App.4th 321, 328.

Lexington argued that McMillin could not have faced liability for the homeowners claims during its insureds’ operations (as there were no damages then—the project was just being built), but the appellate court noted “arising out of” is simply broader than “during.” This court concluded that: “The term “arising out of” in the endorsements granting McMillin coverage for ” ‘liability arising out of [Martinez’s or Rozema’s] ongoing operations,’ ” provides only that McMillin’s liability must be “linked,” through a “minimal causal connection or incidental relationship”…, with Martinez’s or Rozema’s ongoing operations.”  Since it was entirely possible that property damage occurred while the operations were on-going, there was a potential for coverage and a duty to defend.  In effect, the duty to defend continues until Lexington can establish with undisputed and conclusive facts that there were no damages until after the subcontractors’ work was completed.

This opinion establishes for developers and their counsel the importance of carefully reviewing additional insured endorsements to ensure the broadest possible protections against claims arising from the work of the subcontractors.

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