Exception to faulty work
exclusion causes confusion
Insureds who put in the effort to manage their exposures and insurers
who provide a clear coverage intent can avoid many difficulties.
By Bruce D. Hicks, CPCU, CLU
The Court Decisions column is a popular part of Rough Notes magazine. One reason for this is that the court room is where the promises made in an insurance contract often become real. All insurance professionals can develop “what if” scenarios, but until those scenarios are tested with an actual loss and a court decision, they remain mental exercises. This column comes from the industry expert contributors to Policy Forms & Manual Analysis (PF&M). This is a knowledge base consisting of more than 15,000 pages of coverage explanations from The Rough Notes Company’s digital solutions. The contributors are going to dig a little deeper into one of those court decisions to identify a coverage problem, provide possible solutions and/or offer broader perspectives.
Insurance coverage disputes often bring out the worst in persons or entities that decide to litigate an issue. Too frequently, the desire to win one’s argument gains priority over whether coverage is properly and fairly determined. One indication of this stance is post-ruling behavior. Acceptance of an initial court result by the losing party is often evidence that the dispute just needed the opinion of a disinterested party. Conversely, requesting a higher court to review the situation suggests that a disputant’s definition of a correct decision may mean one that aligns with them financially.
Let’s take a high-level view of the disagreement between a condominium building owner and the insurer in The Gardens Condominium v. Farmers Insurance Exchange that provided it with a commercial property policy. The building owners sought reimbursement for damage to its roof—specifically, rotting from water vapor that condensed and accumulated between various layers of their roofing.
The loss was a bit tangled. If you haven’t done so, please take a few moments to read the case in Court Decisions on page 4. The condominium building experienced problems that appeared in 2002 and again in 2019. Both times, significant areas of the condominium building’s roofing deteriorated from water vapor that had been trapped and condensed. The roof’s design included deficiencies in drainage and ventilation.
It appears that the building owners made repairs, design changes and component installations between 2003 and 2004, in the hope of correcting the issue. While, apparently, no claim was filed after the 2002 loss, the building owners did do so in 2019. Their insurer turned down their request for coverage. A trial court ruled in favor of the insurer’s position that the loss was barred by a faulty work exclusion. A higher court reversed the lower court, recognizing that a coverage obligation may have existed. The higher court’s review of the matter resulted in their determining that the insurer’s policy wording and legal position created ambiguity.
The policy defined “Covered Cause of Loss.” Essentially, protection was extended to events that created direct physical loss or damage unless the cause was excluded. The policy also stated that excluded events are those that cause either direct damage or damage that occurs within a chain of events it triggers. The policy also advised of exclusions which included faulty work or design. That exclusion contained an exception, granting coverage for resulting loss involving a covered peril. So, the covered cause definition appears to comprehensively bar excluded events but adds an exception to the particular excluded event involved in the condominium’s claim. This is not the only item that caused confusion with the court.
The insurer’s argument became more problematic as they attempted to justify/strengthen their claim denial decision. Besides stating that the faulty work and design excluded coverage, they said that the resulting loss exception had limitations. It applied only (emphasis ours) when such damage involved a causal break from the initial, excluded loss damage. Separately, the company argued that, when loss is due to a cause that is a natural consequence of an excluded cause, it is still barred from coverage.
In the end, the higher court hewed to the actual policy language. In its view, the entirety of the Covered Cause of Loss definition (including the excluded event references) was at odds with itself and the faulty work and design exclusion. The court found that neither the wording nor the insurer’s subsequent arguments were logical or regarded the public good. It determined that the policy language reflected an intent to permit coverage for resulting losses without additional requirements such as natural consequence considerations.
We began with a question about the real motives that drive litigating parties. The case we have talked about demonstrates what happens when attempting to argue the way to a decision without enough support.
So, what are some lessons that might be learned by such a legal effort? We believe the first consideration should be to do whatever is possible to resolve a dispute without going to court. Legal action should always be a last resort.
The building owner
It’s a rare thing to have to fight over faulty work or design under a commercial property policy. It’s quite possible that the plaintiff owned so many properties that it supported its own building and engineering department. However, considering the effort involved just to get a new trial to re-examine whether they suffered a covered loss, perhaps another approach would be better.
It could have been far more efficient if the building owner, instead, had sought a construction firm or repair company to address the roof damage. First, the chances would likely have been higher that the repairs and design changes fixed their problems. Second, if there were errors that eventually lead to future loss, the building owners could have sought reimbursement from the company that did the roofing work. Or the insurer may have responded to a covered peril, then subrogated against the firm that made repairs and roof modifications.
The insurer
A post-loss evaluation by the insurance company appears to be in order. There should be a hard review of their policy language. There must be more logic between the covered loss definition and the faulty work/design exclusion. It must determine its actual objective.
Then, it must correct its policy language to match that objective. Whether the intent is to provide exceptions or to have hard exclusions, wording has to be clear. In this case, it would have helped to have short, clearly defined terms.
For instance, covered cause of loss should have referred to excluded events as a separate, defined term. Then that term should have been included in the policy along with its own definition.
Another improvement would have been to be clear about whether any exclusion has any exception. Finally, the insurer should have been aware that a resulting or ensuing loss situation cannot include a causal break. A break means that the additional loss situation is new and distinct.
Insureds who put in the effort to manage their exposures and insurers who provide a clear coverage intent can avoid many difficulties.
The author
Bruce D. Hicks, CPCU, CLU, is an Indiana-based insurance coverage expert. Active in the CPCU Society, Bruce served as a governor of the organization from 2007 through 2010 and most recently served on its International Interest Group Committee and as Chair of its Publications Committee.
