Developers/Declarants Are Liable For Implied Warranties To Association For Construction Defects

Daniel Miske | Husch Blackwell

Facts

Plaintiff, Brooktree Village Homeowners Association, Inc. (“Association”), filed suit “on behalf of itself and on behalf of its members” in May 2017 against the second developer, Brooktree Village, LLC (“Developer”).  Developer had acquired the remaining undeveloped portions of the development, other than the common areas.  “A construction company affiliated with Developer, Rivers Development, Inc. (“Builder”), completed construction of the development.  Developer sold all the newly constructed townhomes to individual homeowners.”  The Association sought damages for the cost of repairs.  The claims asserted by the Association were breach of implied warranty, negligence, and negligence per se.

The construction defects alleged were: 1) improper site grading and drainage; and 2) concrete flatwork settling and cracking, heaving and movement of concrete basement slabs.  The Association sought the cost of repairs as damages, including in the common areas which the Developer never owned.

At the conclusion of an eight-day trial, “the jury awarded $1,850,000 in damages against Developer and Builder on Association’s implied warranty and negligence claims.”  The Developer appealed.

Issue

Whether the Association had the right to assert implied warranty claims against a Developer even though the Association had not acquired the common areas from Developer, Developer never owned the common areas, and a majority of Association’s members had not purchased their townhomes from Developer?

Appeals Court

Developer and Builder claimed the trial court erred by allowing the Association to pursue implied warranty claims when … (1) Builder did not sell any of the townhomes at the development, (2) neither Developer nor Builder ever owned the common areas, and (3) fewer than half of Association’s members purchased townhomes from Developer.  The appeals court went through the legal requirements for an implied warranty claim finding that it “arises from the contractual relation between an entity that constructs and sells a newly constructed building and the purchaser … Proof of a defect due to improper construction, design, or preparation is sufficient to establish liability in the builder-vendor under an implied warranty theory.”

The court went on to find that “only persons in privity of contract with a builder or seller have implied warranties, the class of purchasers entitled to the protection of an implied warranty is limited to first purchasers. Subsequent purchasers are not in privity with the builder or seller and, for this reason, cannot assert implied warranty claims.”  This would have seemed to have excluded the Association from filing claims, however, the court then went on to find that “the twenty-three direct purchasers bought their townhomes, which Builder constructed, directly from Developer.  Moreover, both Developer and Builder are parties to the direct purchasers’ purchase agreements.  The direct purchasers are thus in privity with, and obtained implied warranties of workmanship and habitability from, Developer and Builder.  Although Developer argued that at most it should then be liable for a percentage of the damages, the court held that “it would be unreasonable to discount the damages awardable for the construction defects in the common areas by the percentage of townhomes not owned by direct purchasers.  Such an apportionment would mean that Association could only recover damages for remediation of twenty-three fifty-seconds (approximately forty-four percent) of the construction defects in the common areas.  Repair of less than half of the construction defects in the common areas would not provide the direct purchasers … with a meaningful remedy and would allow Developer and Builder to shirk their responsibility for remediating all the construction defects in the common areas for which they are responsible.  For these reasons, a remedy resulting in repair of only a fraction of the defects in the common areas would be inadequate.…Thus, we hold that … [the] Association may recover from a successor developer or builder the entire cost of remediating construction defects in common areas where (1) the defects are attributable to the successor developer or builder; (2) two or more of the association’s members purchased their homes directly from the successor developer or builder; and (3) those members have rights to use the common areas — even if the successor developer or builder never owned the common areas.”

LESSONS:
  1. Successor Developers and builders of defective buildings and units within an association put themselves at risk for the repair of all defective construction issues.
  2. Successor Developers who accept the benefits of being a Developer also inherit the risks and liabilities left by the initial developer.

Brooktree Village Homeowners Association, Inc. v. Brooktree Village, LLC, No. 19CA1635 (Colo. Ct. App. Nov. 19, 2020)

Texas Legislation Filed to Relieve Contractors of Liability Resulting From Design Defects

Brian Comarda andAllison K. Wells | Gordon Rees Scully Mansukhani

Currently, Texas is one of only two states where a contractor may be held liable for defects related to construction designs, plans, or specifications – even if provided by the hiring party (i.e., the owner, owner’s agent or design professional). However, new legislation in Texas (SB 219 and HB 1418) has been filed to square Texas in line with other states, to grant contractors protection, and to reverse, in part, the 2012 Texas Supreme Court holding in El Paso Field Services, L.P. v. MasTec North America,[1] which led to this current situation.

The Texas Supreme Court, in MasTec, held that parties enter into contracts freely and voluntarily, and risk of any construction defect should be allocated pursuant to the agreement between the parties. The Court further held that if it chose to become involved in the dispute between the contractor and hiring party, it would essentially render the applicable risk allocation agreement pointless, and essentially prevent sophisticated parties from apportioning risk as they saw fit. As a result of this holding, contractors have been held responsible for the defects that resulted from work performed in accordance with designs, plans, and specifications provided by the hiring party.

This new legislation would effectively overrule the Court’s holding in MasTec. More specifically, SB 219 and HB 1418, would relieve a contractor of responsibility for the consequences of defects in plans, specifications, or other design or bid documents provided to the contractor by the person with whom the contractor entered into the contract. The bill specifies further that the contractor does not warranty the accuracy, sufficiency, or suitability of such plans. The bill requires the contractor to disclose in writing the existence of any known defect discovered by the contractor before or during the construction or lose the liability protection for the consequence of known, undisclosed defects. This protection cannot be waived by contract. It should be noted that similar legislation failed to pass in 2017 and 2019 over opposition from owners, designers, and architects.

You Can’t Always Get What You Want – “Economic Waste” in Construction Defect Claims

Michael L. Meyer | Taft

The Rolling Stones’ Mick Jagger famously sang, “You can’t always get what you want, but if you try sometime, you’ll find you get what you need.” Jagger wasn’t singing about damages in construction defect litigation. But his message rings true, especially when the cost to repair a defect is high and the final product meets the owner’s requirements.

The goal of any construction project is to build a structure that meets the owner’s needs. If the project does not meet that goal, the owner will want the shortfall corrected. When a defect is major, preventing any practical use of the building, a repair is almost always necessary. A non-functioning electrical system or a foundation sinking into the earth requires repair. But what about conditions that don’t substantially impair the use of the finished project? Must a contractor remove and replace components even if those components function properly?

Contractors understand that the owner should receive the finished product called for in the contract. If it does not, the owner has not received what it paid for. But even in that case, the owner is not always entitled to precisely what the contract specifies. Examples of this problem abound. Perhaps a new parking lot is discolored but otherwise has a smooth and functional surface. Or what if a residential construction contract calls for copper water supply lines but the builder uses PVC? Or a contractor uses the wrong color mortar and brick?

In a defect dispute, the owner is generally entitled to the building as specified in the contract. Often that means the owner receives the cost to repair and place the project in the condition called for in the contract. But if the cost to repair is grossly disproportionate to the actual benefit of that repair, should the owner receive that remedy? This question highlights the concept of “economic waste.”

“Economic waste” is a legal protection that prevents the unnecessary use of financial resources to repair a defect. With the discolored brick and mortar, must the contractor fully remove and replace the brick? What if the mortar is not only discolored but also structurally weak? If the building lacks structural integrity, most courts would require removal and replacement. But if the only defect is the use of the wrong color, should the result be the same? Although each case is unique, a cosmetic defect often does not justify complete removal and replacement. In that instance, the excessive cost to remove and replace components outweighs the benefit to the owner.

What about the case of a garage built using trusses different than those shown in the plans? The storage area ceiling is six inches lower than expected. Must the contractor remove the roof and trusses and replace them? Unless the structure is unsound, probably not. The cost to do so would be extreme. And in most cases, that cost would be disproportionate to the value of the extra storage space – an “economic waste.” Instead, the owner should receive the difference in fair market value between the structure as contracted for and the structure as built. This ensures the owner pays for what it received. It also prevents unnecessary economic harm to a contractor when it substantially complied with the contract.

Of course, not all instances of cosmetic defect implicate economic waste. If cosmetic elements are the primary purpose of a component, replacement may be necessary to achieve substantial compliance. But when a contractor substantially complies, an owner has no right to perfection, especially if achieving perfection is disproportionately expensive.

When facing a defect, an owner must consider whether a repair short of removal and replacement would allow the building or system to function. If so, that alternative may be appropriate and legally required. But contractors must understand the importance of full compliance whenever possible. And they must be ready to craft a remedy that gives the owner a finished product it can use.

Contractor Haunted by “Demonized” Flooring

Garret Murai | California Construction Law Blog

The most un-Halloween of Halloweens has come and gone. If you ask me though, between COVID, protests, fires, hurricanes, the passing of a Supreme Court Justice, and one of the most hotly contested elections in U.S. history, we’ve had enough scares this year to make up for it and then some.

In the next case, Sieg v. Registrar of Contractors, Case No. A156089 (September 28, 2020), 1st District Court of Appeal, one contractor, haunted by “demonized” flooring, and who couldn’t catch a break even with the talisman of a release of liability signed by the homeowner, can add one more to his list of reasons why 2020 needs to be relegated to the history books.

The Sieg Case

In January 2012, homeowners Dennis and Ana Torchia purchased wood flooring for their home in Windsor, California. Specifically, they selected Brazilian Ebony, an exotic species of unusually hard wood, for its appearance and durability.

The company from whom the Torchias purchased their flooring, Lumber Liquidators, referred them  to George Sieg a sole proprietor doing business as B & G Hardwood Flooring for the installation. When the Brazilian Ebony hardwood flooring was received, Sieg and his crew delivered the flooring to the Torchias.

Following delivery, Sieg gave the Torchias a work order proposal estimating the cost of installation. Included with the work order was a document entitled “Conditions” which stated in part: “6 mil black polyethylene is recommended to cover 100% of the crawl space earth.” Sieg also gave the Torchias an installation order form which included a line stating “MOISTURE BARRIER NEEDED” and a line for the customers initials and language at the bottom of the form stating “[t]he above information has been explained to me in full by my installer, and I understand that the installer [is] not responsible for any damage caused by post-installation changes in the moisture levels.” Both documents were signed by the Torchias.

On the same day that the documents were signed, Sieg raised the need for a moisture barrier and his recommendation that installation wait a few days to allow the flooring to acclimate, but said that he would be willing to start installation immediately if the Torchias signed a disclaimer and release any claims for problems arising from the installation without a moisture barrier. The Torchias agreed and signed a disclaimer which stated that installation of the floor was inadvisable because the “Prefinished flooring [had a moisture difference of] over two points less than subfloor and no plastic covering the dirt under the house.”

Within weeks following installation of the Brazilian Ebony hardwood flooring, Torchia said that he noticed a “very loud popping sound, sounding like firecrackers going off in different parts of the house.” After the Torchias contacted Lumber Liquidators about the problem, Lumber Liquidators hired an expert, Richard King. King’s investigation revealed that, in addition to the fact that the flooring was installed without a plastic liner under circumstances in which there was a moisture differential between the hardwood floor and the subfloor,  there were issues with the workmanship, including:

  1. The flooring was installed tight against the walls with no expansion space provided;
  2. Some areas of the flooring had no fasteners;
  3. The flooring was generally fastened two to four inches from ends rather than one to three inches from ends as recommended by the manufacturer;
  4. The flooring fasteners were generally fastened eight to 11 inches apart, and in some places more than 12 inches apart, rather than six to eight inches apart as recommended by the manufacturer;
  5. Fasteners were driven through the subfloor;
  6. No underlayment was installed around registers and crawl space access.

According to testimony by King, “when you walk on the floor and it’s not fastened properly, the floor moves, buckles, wiggles, makes noises. But with Mr. Torchia’s floor . . . I could look into the alcove with nobody in there. And the floor continues to pop and make noises. It was like it was demonized.”

The Torchias later had a moisture barrier installed in the crawl space but the demon popping continued.

The CSLB Complaint, ALJ Hearing, and Writ of Administrative Mandamus

Ultimately, the Torchias filed a complaint with the Contractors State License Board. Following investigation, the CSLB filed an Accusation against Sieg seeking revocation or suspension of Sieg’s contractor’s license and restitution.

A hearing was held over the course of two days before an Administrative Law Judge (“ALJ”) and, due to the illness of Sieg’s counsel, closing arguments were submitted in writing by both parties. The ALJ later issued a proposed decision recommending a 65-day suspension, a three-year probationary period, and restitution in the amount of $27,884.21.

One interesting note for those who have not been involved in CSLB administrative hearings is that decisions by ALJ judges are only recommendations and the CSLB can choose to adopt, reject, or modify any decisions by an ALJ. This is exactly what happened here. The Registrar of the CSLB adopted the ALJ’s proposed decision, but instead adopting the 65-day suspension recommended by the ALJ, recommended that Sieg obtained a disciplinary bond in the amount of $30,000.

Following the decision, Sieg filed a writ of administrative mandamus with the Superior Court in accordance with Code of Civil Procedure section 1094.5. The Superior Court, after hearing oral argument by the parties, issued an order denying writ relief. Sieg, in turn, appealed again to 1st District Court of Appeal.

The Appeal

On appeal, the 1st District Court of Appeal noted the appropriate standard of review by courts when reviewing appeals from administrative decisions. Superior Courts, explained the Court of Appeal, when considering a writ of administrative mandamus, apply what is known as the “Independent Judgment Test,” and will affirm an agency’s finding of fact if they are supported by the weight of the evidence, but reviews questions of law de novo (i.e., without weight being giving to one part or another) giving respectful consideration to an agency’s decision on legal questions to the extent its reasoning is persuasive.

Further, explained the Court of Appeal, under the Independent Judgment Test the findings of an agency come “with a strong presumption of their correctness, and the burden rests on the complaining party to convince the court that the board’s decision is contrary to the weight of the evidence.”

However, explained the Court of Appeal, when reviewing a Superior Court’s decision on a writ of administrative mandamus, the Courts of Appeal review the Superior Court’s decision for substantial evidence but review questions of law de novo. Further, explained the Court of Appeal, on appeal before the Courts of Appeal, the burden is on losing party bringing the appeal.

I won’t go into all of the details of the appeal, but suffice to say that Court of Appeal upheld the Superior Court’s denial of the writ of the administrative mandate. More pertinent to contractors and their attorneys is one already well-established rule and another one that is new to me.

First, as to the well-established rule, the CSLB found that Sieg had violated Business and Professions Code section 7109 which provides:

(a) A willful departure in any material respect from accepted trade standards for good and workmanlike construction constitutes a cause for disciplinary action, unless the departure was in accordance with plans and specifications prepared by or under the direct supervision of an architect.

(b) A willful departure from or disregard of plans or specifications in any material respect, which is prejudicial to another, without the consent of the owner or his or her duly authorized representative and without the consent of the person entitled to have the particular construction project or operation completed in accordance with such plans or specifications, constitutes a cause for disciplinary action.

On appeal, Sieg argued that he could not be found to have violated Business and Professions Code section 7109 because did not “willful[ly]” depart from accepted trade standards since he did not intend for the floors to be possessed by demonic popping sounds. The Court of Appeal made short work of this argument explaining that well-established case makes clear that “7109’s willful requirement is satisfied by evidence fo a general intent to act:

In civil cases, the word “willful,” as ordinarily used in courts of law, does not necessarily imply anything blamable, or any malice or wrong toward the other party, or perverseness or moral delinquency, but merely that the thing done or omitted to be done was done or omitted intentionally. It amounts to nothing more than this: That the person knows what he is doing, intends to do what he is doing, and is a free agent.

In short, Sieg did not have to intend that something bad were to occur in order to be found to have engaged in a “willful” departure of accepted trade standards under Business and Professions Code section 7109.

Second, is the one that is new to me. On appeal, Sieg argued that by signing the disclaimer in which the Torchias released any claims against Sieg for problems arising from the installation of the flooring without a moisture barrier, a decision should have been in his favor “by simply enforcing the Disclaimer according to its plain terms.” The Court of Appeal disagreed on the ground that, while the disclaimer might be pertinent in a private action between Sieg and Torchia, the Accusation against Sieg was brought by the CSLB even though it may have been initiated by the CSLB complaint filed by the Torchias. Further, explained the Court, in disciplinary enforcement proceedings, a homeowner cannot consent to a contractor’s departure from accepted trade standards:

Because this is not a private action between Sieg and Torchia, we see no need to address matters of unconscionability or contract illegality. Whether the Disclaimer was valid and enforceable as a contract is beside the point, since we are dealing with a disciplinary enforcement proceeding brought by CSLB on behalf of the public. For purposes of licensing enforcement, a homeowner cannot consent to a contractor’s departure from accepted trade standards for good and workmanlike construction. (Civ. Code § 3513 [a law established for a public reason cannot be contravened by a private agreement].)

Whatever private arrangements may be made between a contractor and a client, the contractor has an independent obligation to the public to adhere to statutorily established standards of performance. (§ 7109, subd. (a); cf. Mickelson, supra, 95 Cal.App.3d at p. 635 [rejecting concrete contractor’s attempt to defeat willfulness finding in section 7109 enforcement proceeding on the ground that “he informed both [clients] that a pour over was an improper method of repair, that he read [to the clients] the contents of the contract absolving himself of responsibility before proceeding with the pour over”].) We base this reading of section 7109, subdivision (a), on the text and legislative history of the statute. As the CSLB correctly points out, the Legislature amended section 7109, subdivision (a), in 1988, to remove language which once made it possible for contractors facing discipline to defend accusations of departure from statutory trade standards by arguing client consent. (§ 7109, as amended by Stats. 1988, ch. 1619, § 4.) Thus, while the governing contract here established the benchmark for Sieg’s obligations to Torchia, in discharging those obligations he was bound to adhere to statutorily imposed standards of workmanship that could not be diluted, circumvented, or released away by private consent.

Conclusion

The CSLB can take enforcement action based on any one of numerous violations set forth under the Business and Professions Code. Where those statutory sections involve a “willful departure” or “willful or deliberate” act, the term “willful” simply means an intentional act not an intent that something bad will occur. Sieg also highlights that releases and disclaimers between a contractor and a consumer will not protect a contractor in a CSLB enforcement actions against the contractor.

Can You Get Stuck With Stucco? Coverage Under An EIFS Exclusion For Property Damage Caused By Construction Defects

Kathy Maus and J. Blake Hunter | Butler Weihmuller Katz Craig

Many commercial general liability policies contain an exterior insulation and finish systems (EIFS) exclusion, which bars coverage under specific circumstances when EIFS is used in construction. EIFS is also known as synthetic stucco and generally refers to a multi-layered exterior building finish. EIFS usually has six layers: 1) an optional water-resistive barrier; 2) adhesive that attaches the insulation board to the supporting structure; 3) a foam insulation board that is secured to the exterior wall substrate; 4) a base coat that is applied to the top of the insulation; 5) a fiberglass mesh that reinforces the base coat; and 6) a finish. 1 These layers are bonded together, but moisture can become trapped between them and lead to wood rot. 2 The trapped moisture can cause damages to the buildings, leading to many property damage lawsuits.

When analyzing the history of property damage caused by EIFS, the Supreme Court in Texas explained:

Long used in commercial construction, EIFS was marketed in the early 1990s as an attractive alternative to conventional stucco in home construction. But installed on wood-frame walls typical of single-family homes, EIFS traps water inside, causing rot and structural damage, mildew and mold, and termite infestations.. Lennar Corporation and another homebuilder it bought built some 800 homes using EIFS, but stopped using it in 1998. After the problems with EIFS were exposed on the NBC television show Dateline in 1999, homeowner complaints poured in. 3

The use of EIFS is no longer as prevalent in the construction of homes, condominiums, and other buildings as it was in the 1990s and 2000s, but it is still in use.

Generally, a person or entity in Florida has four years after a project is completed or after discovery of any latent defect to bring a lawsuit involving the design, planning, or construction of an improvement to real property. 4 In addition, Florida’s statute of repose requires an action “founded on the design, planning, or construction of an improvement to real property” must be commenced within 10 years after the latest of several conditions. 5 Due to the statute of repose, claimants are no longer able to file lawsuits for construction defects on buildings that contained EIFS in the 1990s and early 2000s. But some homes, condominiums, and other buildings continue to be constructed using EIFS.

A great deal of insurance coverage disputes arose over the years due to the tendency of EIFS to trap water behind a building’s walls. As a result, many insurers implemented an EIFS exclusion in commercial general liability policies barring coverage for property damage that results when EIFS is used in construction. When a commercial general liability policy contains an EIFS exclusion, coverage issues include 1) whether an EIFS exclusion bars coverage if EIFS is used on the exterior of a building, even though the insured did not perform work on or related to the EIFS; and 2) whether the EIFS exclusion precludes coverage for property damage unrelated to the EIFS.

Despite the existence of coverage issues related to EIFS exclusions, few courts in the United States analyzed the scope of an EIFS exclusion. Even though one federal district court in Florida held that a policy containing an EIFS exclusion was invalid because it provided illusory coverage, another federal district court enforced the EIFS exclusion to bar all coverage. The 11th Circuit Court of Appeals has yet to address this issue.

Florida

Recently, in BITCO National Insurance Co. v. Old Dominion Insurance Co., 379 F. Supp. 3d 1230, 1233-34 (N.D. Fla. 2019), 6 the Northern District of Florida examined whether various insurance companies had a duty to defend and indemnify a general contractor for property damage allegedly caused by some of its subcontractors’ defective work. One of the subcontractors installed the roof, gutters, and downspouts on the project. 7

The subcontractor’s insurer argued that the EIFS exclusion in the roofing subcontractor’s policy barred its duty to defend the general contractor, who was an additional insured. 8 The pertinent portions of the EIFS exclusion excluded coverage for property damage arising out of 1) the installation or application of EIFS; or 2) the insured’s work with respect to any exterior component, fixture, or feature of any structure if EIFS is used on any part of that structure. 9 The court held that the EIFS exclusion barred coverage “for damage resulting from defective work performed on the exterior of a building if EIFS was used on any part of the building, even where the insured’s work did not in any way come in contact with EIFS.” 10 Because EIFS was used on the exterior soffits and ceilings throughout the project, the court concluded the EIFS exclusion barred coverage for any work that the roofing subcontractor performed on the exterior components of the project. 11 The court also rejected the argument that the EIFS exclusion would render coverage under the policies illusory and inherently unreasonable, explaining that the exclusion precluded a small subset of claims. 12

Interestingly, this same court, in this same case, relating to the same project, ruled at the motion to dismiss stage that an EIFS exclusion did not bar another insurer’s duty to defend the general contractor. 13 The differing results were explained by the court because the EIFS exclusion in that insurer’s policy was not as broad.

Prior to BITCO, the federal district court for the Middle District of Florida took a different view in Amerisure Insurance Co. v. Auchter Co., 2017 WL 3584896, **1-2 (M.D. Fla. Mar. 20, 2017) (not reported). Auchter concerned construction of an office building that experienced water intrusion problems caused in part by the building’s window system. The general contractor’s insurer provided it a defense in the underlying lawsuit under a reservation of rights, but filed a declaratory judgment action arguing that the glass and glazing subcontractor’s insurance company owed the general contractor a duty to defend and indemnify it as an additional insured for the allegations in the underlying lawsuit. 14

The subcontractor’s insurer counterclaimed, asserting that it had no duty to provide coverage pursuant to the EIFS exclusion, which provided:

This insurance does not apply to.”property damage”.included in the “products – completed operations hazard” and arising out of “your work” or “your product” shown in the SCHEDULE.

SCHEDULE

Description of “your work”:

* * *

1. The design, manufacture, construction, fabrication, preparation, installation, application, maintenance or repair, including remodeling, service, correction, or replacement of an “exterior insulation and finish system” (EIFS).

2. Any work or operations with respect to any exterior component, fixture or feature of any structure if an “exterior insulation and finish system” is used in any part of that structure. 15

The subcontractor’s insurer argued that the EIFS exclusion barred coverage for property damage that involved exterior components of the building when EIFS was used anywhere on the same building. Because EIFS was used on the exterior of the building and its insured installed the window/curtain wall system on the exterior of the building, all coverage for any damages was barred. 16 The general contractor’s insurer argued, to the contrary, that the property damage was not caused by EIFS and EIFS was merely an aesthetic component of the building. 17 The general contractor also argued that the exclusion did not apply because EIFS was not used in the building, but merely sat on top of the building; thus, the exclusion did not apply. It further argued that the subcontractor’s insurer’s interpretation of the EIFS exclusion, if applied, resulted in illusory coverage. 18

Importantly, no evidence in the record demonstrated that the subcontractor (the named insured) ever worked with, installed, maintained, repaired, or in any way came in contact with EIFS. 19 As such, the court held that §1 of the quoted language from the policy did not apply. The subcontractor’s insurer cited multiple cases in other states that enforced the EIFS exclusion even where the work and/or the damages alleged did not involve EIFS. 20 However, the court held that §2 of the EIFS exclusion was “so sweeping” that it rendered the policies illusory and unenforceable. 21 Construing both Georgia and Florida law, the court held that an insurance policy cannot grant rights in one paragraph and take back those rights in another paragraph:

Thus, under Landmark’s interpretation, Landmark purported to provide coverage and presumably accepted premiums to cover “property damage” caused by [the subcontractor]’s defective work, while at the same time included in the [p]olicies an exclusion that would immediately and inevitably eviscerate all coverage because EIFS was allegedly “used” somewhere on the [p]roject. This kind of “gotcha” no-coverage exclusion cannot be countenanced. 22

The court explained that by the subcontractor’s insurer’s reasoning, the subcontractor’s policy did not provide coverage the moment that the subcontractor entered into the insurance contract with the insurer due to the EIFS exclusion. 23 The court further noted that the insurer continued to collect insurance premiums while, at the same time, the EIFS exclusion barred all coverage to the insured for property damage caused by the insured’s work because EIFS was used on the building. 24 For those reasons, the court found the coverage to be illusory and refused to enforce the EIFS exclusion. 25

These cases demonstrate a dramatic inconsistency in this area of law in Florida. Two different federal courts, both in Florida, analyzed essentially the same EIFS exclusion language and came to opposite conclusions when determining additional insured coverage. The court in BITCO held that the EIFS exclusion barred coverage, while the court in Auchter held that the EIFS exclusion provided illusory coverage and refused to enforce the exclusion. Importantly, the court in BITCO was well aware of the Auchter case, but refused to follow that decision because it was not binding, and the court found its reasoning unpersuasive:

The [c]ourt recognizes that a single district court in this [c]ircuit has found a materially identical EIFS exclusion to be illusory, see Amerisure Ins. Co. v. Auchter Co., 2017 WL 3584896 (M.D. Fla. Mar. 30, 2017), but respectfully disagrees with that court’s non-binding analysis and ruling. Instead, for the reasons articulated in the Summary Judgment Order.the [c]ourt finds that Eleventh Circuit precedent on illusory coverage compels a conclusion that the Crum EIFS exclusion does not “eliminate all – or at least virtually all – coverage in” the Crum CGL policy and, thus, is not illusory. See Zucker, 856 F.3d at 1352; see also Interline Brands, 749 F.3d at 966. 26

Other States

Federal courts in other states generally bar coverage under the EIFS exclusion if an insured performs work on the exterior of a building that contains EIFS that causes property damage even if the insured’s work did not damage the EIFS or was not related to the EIFS. For example, in First Mercury Insurance Co. v. Miller Roofing Enterprises, 2013 WL 662970, *1 (W.D. Wash. Feb. 22, 2013) (not reported), the roofing subcontractor’s insurer defended the subcontractor in the underlying suit under a reservation of rights, but also filed a declaratory judgment action arguing no coverage existed under an EIFS exclusion. The defendants argued that the EIFS exclusion did not apply because the leak was the result of “defective workmanship to the roof,” and the roofer “did not install the EIFS on the building, nor did it undertake to make any repairs to the EIFS.” 27 Disagreeing, the court held that the exclusion not only barred coverage for property damage arising from EIFS-related work by the insured, it also barred coverage for property damage arising from any work by the insured on the exterior of the structure, as long as EIFS was used on any part of that structure. 28

However, this same court roughly one year earlier refused to apply the EIFS exclusion. In Capitol Specialty Insurance Corp. v. Yuan Zhang, 2012 WL 1252638, at *2 (W.D. Wash. Apr. 13, 2012) (not reported), the insured contractor performed remediation exterior siding work on an apartment building, but its scope of work did not include EIFS. EIFS was installed on the apartment building before the owner purchased the building and prior to the insured performing the work. 29 Additionally, the owner’s contract with the insured did not specify any repairs to the EIFS. 30

The court declined to apply the endorsement and explained:

The] argument that the language of the exclusion bars coverage for property damages arising out of an insured’s exterior work if any prior individual used or installed the EIFS present on the structure, no matter how small that EIFS area is, and no matter how unrelated that EIFS was to the insured’s work and the resulting damage, is unreasonable as a matter of law. 31

Additionally, the court explained that the EIFS exclusion only barred coverage for property damage arising out of EIFS work performed by or on behalf of any insured. 32 The Yuan Zhang court seemed to go a step further, like the court in Auchter, by holding that the EIFS exclusion rendered the policy illusory and unreasonable as a matter of law.

Similarly, a Texas federal court in Luxury Living, Inc. v. Mid-Continent Casualty Co., 2003 WL 22116202 (S.D. Tex. Sept. 10, 2003) (not reported), analyzed an EIFS exclusion. The homeowners began experiencing water intrusion around doors, windows, and other locations – water accumulated under the crawl space in their home; the deck and balcony were falling off; numerous building code violations existed; and, wood rot and fungus were found. 33 An engineering inspection showed the EIFS system sustained damage from water intrusion and water was intruding through the EIFS and windows. 34

The homeowners sued the general contractor, and the contractor tendered the complaint to its insurer for a defense and indemnity. 35 The insurer denied coverage, citing numerous exclusions, including the EIFS exclusion. 36 The insurer argued that the EIFS exclusion barred coverage “because all the harm to the house alleged by the [homeowners] stemm[ed] from water penetration and deterioration, which necessarily relate[d] to and [arose] out of defects in the exterior of the house.” 37 The insurer emphasized that the EIFS exclusion precluded coverage for any damages not only from the EIFS but also any operations on any exterior component, fixture, or feature performed by the general contractor or its subcontractors. 38 The contractor argued that the EIFS exclusion did not bar the possibility of coverage. “[B]ecause the underlying petition include[d] allegations that [went] beyond the installation of the synthetic stucco product, as to which [the insurer] [did] not assert an exclusion, the duty to defend [was] triggered.” 39 The contractor further contended that a reasonable insured would not believe that the EIFS exclusion applied to damages unrelated to the EIFS. 40

The Luxury court agreed with the contractor and held that many of the other alleged construction defects did not involve any work or operations on any exterior component, fixture, or feature of any structure. Because the complaint contained allegations that went beyond the installation of the EFIS, as to which the insurer does not assert an exclusion, a duty to defend was triggered. 41

Conclusion

Most caselaw indicates that an EIFS exclusion will bar coverage if the insured performed work on EIFS and the defective work caused property damage. As discussed above, if the EIFS exclusion states that it bars coverage when the insured performs work on any exterior component or portion of the structure and EIFS is used on any part of that structure, or similar terms, courts generally interpret this to mean that no coverage exists for property damage if the insured’s work on the outside of the structure caused the property damage, even if the property damage was unrelated to EIFS. A handful of courts in the U.S. held or implied that this language in an EIFS exclusion provides illusory coverage and refused to enforce the endorsement, but these courts are the exception and not the rule. However, if the underlying complaint alleges that an insured performed work on the interior of the building that caused property damage, an EIFS exclusion likely does not bar an insurer’s duty to provide coverage, including a duty to defend.

If this issue is ever examined by the 11th Circuit Court of Appeals, it will likely side with the court in BITCO by finding that an insurer does not have a duty to provide coverage, including a duty to defend, as long as the EIFS exclusion is broad and the underlying complaint does not allege that the insured performed interior work that caused property damage. “Florida law provides that insurance contracts are construed in accordance with the plain language of the policies as bargained for by the parties.” 42 In order for an insurer to provide an insurance policy to an insured, the parties must bargain for the terms of the policy, including the exclusions set forth therein. For an exclusion to cause a policy to be illusory, the exclusion must “completely contradict the insuring provisions” and “eliminate all – or virtually all – coverage in a policy.” 43 A general liability policy with an EIFS exclusion would still provide coverage to an insured for property damage or bodily injury caused by the insured on a building that did not contain EIFS or for work to the interior of the building. A court will enforce the bargained-for exclusions as long as they are not ambiguous or violate public policy. We expect the 11th Circuit will recognize this axiom and hold that the presence of a broad EIFS exclusion does not make coverage illusory.

Attorneys who practice in insurance coverage should carefully review the EIFS exclusion in the insured’s policy to determine its scope when analyzing whether coverage is owed to the insured. For attorneys who draft contracts between general contractors and subcontractors containing language requiring additional insured coverage, they should be careful if EIFS will be used on the building. If the subcontractor performs defective exterior work on a building containing EIFS that causes property damage, an EIFS exclusion will likely bar coverage.

Footnotes

1. Janet Wickell, What Is EIFS — Synthetic Stucco? Synthetic Stucco Explained, The Balance Small Business (Oct. 2019), available at https://www.thebalancesmb.com/eifs-synthetic-stucco-1797883.

2.Id.

3.Lennar Corp. v. Markel Am. Ins. Co., 413 S.W. 3d 750, 751-52 (Tex. 2013).

4. Fla. Stat. §95.11(3)(c) (2020).

5.Id.

6. The authors represented the plaintiffs in this case.

7.BITCO, 379 F. Supp. 3d at 1242.

8. An additional insured endorsement in a general liability policy provides coverage to other individuals or groups that are not a named insured under the policy. If an additional insured is sued, it will normally seek additional insured coverage from the named insured’s insurer under the named insured’s policy. BITCO, 379 F. Supp. 3d at 1241.

9.Id.

10.Id.

11.Id. at 1241-42.

12.Id. at 1242-43.

13.BITCO Nat’l Ins. Co. v. Old Dominion Ins. Co., 2018 WL 5726233, 2018 U.S. Dist. LEXIS 228408 *1 (N.D. Fla. Mar. 12, 2018).

14.Auchter, 2017 WL 3584896 at *8.

15.Id. at **9-10

16.Id.

17.Id.

18.Id.

19.Id. at *20.

20.Id. at *21.

21.Id. at *24

22.Id. at *25.

23.Id.

24.Id.

25.Id.

26.BITCO, 2018 WL 5726233 at n.1. The only other case in Florida that addressed the “any work” provisions in an EIFS exclusion is Vinings Insurance Co. v. Vallery Custom Homes. Inc., 2012 WL 13102313 [Lexis] (M.D. Fla. March 7, 2012) (not reported). The court held that the undisputed evidence demonstrated that EIFS was used on balconies (damage at issue) and on other portions of the home. The court further held that the EIFS exclusion’s broad language precluded coverage “because the balcony or column is an exterior component of a structure that has EIFS on it, or alternatively, the balcony was a structure with EIFS applied to it.”

27.First Mercury, 2013 WL 662970 at *2.

28.Id.See also Devington Condo. Ass’n v. Steadfast Ins. Co. 2007 WL 709032, at **1-3 (W.D. Wash. Mar. 5, 2007) (not reported) (holding that when the insured was hired to perform renovations on condominiums, “including replacing the exterior siding with an exterior insulation finish system (‘EIFS’),” and the insured hired a subcontractor to perform the EIFS work, the EIFS exclusion barred coverage for property damage caused by water intrusion because “the broad language of the EIFS endorsement suggests that the exclusion was meant to exclude any EIFS work from coverage, regardless of the party performing the work. Accordingly, the plain language of the EIFS endorsement excludes work performed by subcontractors from coverage.”).

29.Yuan Zhang, 2012 WL 1252638 at *3.

30.Id.

31.Id.

32. Id.

33.Luxury, 2003 WL 22116202.

34.Id.

35.Id. at *3.

36.Id.

37.Id. at *16.

38.Id.

39.Id.

40.Id.

41.Id. at *17. Trinity Universal Ins. Co. v. Employers Mut. Cas. Co., 592 F.3d 687, 693 (5th Cir. 2010) (holding that the EIFS exclusion did not preclude a duty to defend because the petition alleged property damage stemming from the insured’s work on non-exterior portions of the building); Catlin Specialty Ins. Co. v. Montelongo, 2013 WL 1702172, *3 (W.D. Tex. Apr. 18, 2013) (not reported) (holding that the property damage may be related to the installation of traditional stucco, which may not fall under the EIFS exclusion); Ins. Corp. of Hannover v. Skanska USA Bldg., Inc., 2008 WL 2704654, at *4 (S.D. Tex. July 3, 2008) (not reported) (coverage was owed because the endorsement only excluded coverage for property damage arising from work on an EIFS or “any component or part thereof,” and the scope of the insured’s work included traditional masonry and stucco in addition to EIFS; the policy did not include the “any work” provision).

42.Auto-Owners Ins. Co. v. Anderson, 756 So. 2d 29, 34 (Fla. 2000).

43.Zucker for BankUnited Fin. Corp. v. U.S. Specialty Ins. Co., 856 F.3d 1343, 1352 (11th Cir. 2017); Interline Brands, Inc. v. Chartis Specialty Ins. Co., 749 F.3d 962, 966 (11th Cir. 2014).