The Connecticut Superior Court ruled that the business risk exclusion is applicable to deny coverage.  This exclusion, which is Exclusion L under the ISO General Liability form reads “Property damage to “your work” arising out of it or any part of it and included in the “products-completed operations” hazard.

The purpose of this exclusion is to give the contractors incentive to be careful while performing operations.  In this case, the court reasoned that the entire home was being directly worked upon.

Source:  http://www.insurancejournal.com/news/east/2010/01/21/106738.htm

The New Jersey Division of Workers’ Compensation rule that the serious injuries were compensable since the accident arose in the course of employment as opposed to being a personal errand.

In my opinion, this case is a “stretch” and exemplifies that most Workers’ Compensation Commissions will go to great lengths to allow benefits.

 Source:  http://www.insurancejournal.com/news/east/2010/01/25/106840.htm

The building industry is constantly experimenting with new building products and techniques in an effort to reduce costs, become more efficient, and to add value. Sometimes these products don’t stand the test of time as unforeseen problems may arise that result in construction defects. Examples include EIFS or synthetic stucco, Masonite siding, Georgia Pacific siding, polybutylene plumbing, and more recently, Chinese drywall.

The full weight of the construction defect crisis began to be felt by the insurance industry about ten years ago. Regionally, in the Southeast, the first wave of large-scale lawsuits arose over EIFS. The insurance industry fully funded a plaintiff attorney’s “gravy train” in this area since most of the costs were covered by General Liability insurance policies of manufacturers, distributors, builders, and installers. The EIFS epidemic, with its readily available funding source (General Liability carriers), seemed to fuel the spread of construction defect claims of all different types.

As a result, two trends emerged. The first was that most insurance carriers left the market and refused to write General Liability insurance for builders since they reasoned they couldn’t make a profit at any premium level. The second was that those few that remained in the market decided that they did not want to be a funding source for the next wave of construction defect lawsuits. In response, the insurance industry adopted an array of exclusionary endorsement forms from which carriers could pick and choose to limit their risk.

To follow is a listing and brief commentary of commonly found exclusions that can severely impact coverage for builders. In addition, solutions are provided where applicable.

Synthetic Stucco (EIFS) Exclusion: If you’re a builder and you install or repair EIFS, you need to buy a special General Liability policy from the high-risk marketplace to cover this type of work.

Soil Movement Exclusion: Expansive soils have been a problem in some parts of the country and have been a major source of construction defect lawsuits. Its possible to pick up coverage for this exposure through the use of certain home owner’s warranty products such as HBW 2-10.

Fungus, Mold, And Mildew Exclusion: This exclusion was added almost immediately to most General Liability policies when toxic mold lawsuits began to first appear. This strategy proved to be effective in cutting off what many feared to be the next “gravy train” of construction defect litigation. Most versions of this exclusion only eliminate coverage for the “property damage” portion of the lawsuit but leave coverage in place for “bodily injury”. If you’re concerned about this exclusion, you can purchase a special Mold And Pollution Liability policy from the high risk insurance market. The minimum premiums start out in the $2,500 to $5,000 range and prices increase according to your sales.

Absolute Pollution Exclusion: This is a powerful exclusion that can have consequences beyond what you normally think of as pollution. This is exemplified in the recently emerging Chinese drywall crisis where its alleged that drywall from certain plants in China release noxious fumes that cause corrosion of metal in a home, a foul smelling odor, and health problems. The insurance carriers plan on denying these claims by using the Absolute Pollution Exclusion. Pollution is broadly defined under this exclusion as any solid, liquid, or gaseous contaminant or irritant. Once again, if you are concerned about this exposure, you can buy a special Pollution Liability policy through the high risk marketplace.

Prior Completed Operations Exclusion: The standard General Liability policy form normally picks up coverage for building operations completed prior to the start of the policy term as long as the covered “property damage” or “bodily injury” occurs during the policy term. However, with the addition of the Prior Completed Operations Exclusion, coverage for prior completed operations is eliminated. This presents a problem because the General Liability forms from the prior years don’t pick up this coverage to the extent that the “property damage” or “bodily injury” occurs after the expiration of the prior policy terms. Some versions of this endorsement limit its scope to “property damage” only. You may want to attempt to negotiate the elimination of this endorsement if it appears on your policy.

Products / Completed Operations Exclusion: This exclusion has perhaps the most devastating impact of any of the construction defect exclusions. Quite simply, this exclusion eliminates coverage for all “bodily injury” and “property damage” that occurs after the home has been sold. In my opinion, this exclusion is unacceptable for a builder under any circumstances resulting in the need to find a new insurance carrier.

Property Damage To Your Work Exclusion: This exclusion is not a stand alone exclusion like the rest that have been mentioned. Instead, it is part of the regular General Liability policy form and appears as exclusion L. This exclusion eliminates coverage for “property damage” to your “work” arising out of it…. However, there is an important exception where coverage is given back if the damaged work was performed on your behalf by a subcontractor. This exception is what historically gave builders (that were general contractors) broad coverage under their own General Liability policy for construction defect claims.

Exclusion: Damage To Your Work Performed By Subcontractors On Your Behalf (CG2294): Around 2004, most carriers began adding this exclusion to builder’s General Liability policies to eliminate the favorable coverage exception that was granted to builders (that were general contractors) under the Property Damage To Your Work Exclusion listed above. The presence of CG2294 eliminates coverage for construction defect claims. If CG2294 appears on your policy, there are two viable solutions. First, ask if your carrier has a “buyback” of the lost coverage for an additional premium charge. Second, search for a carrier that has a less severe version of this exclusion that only eliminates coverage for “property damage” to the faulty work itself but not to resulting “property damage” to the non-faulty work.

Unfavorable Case Law 

In order to have a favorable claim outcome, builders not only have to avoid the above mentioned exclusions, but also must not fall victim to unfavorable case law. Nationally, a number of courts have ruled that a contractor’s General Liability policy does not cover “property damage” to either faulty work or resulting non-faulty work under the theory that such damages don’t constitute an “occurrence”. The South Carolina Supreme Court ruled similarly in the road contractor case of L-J vs Bituminous. However, the South Carolina Supreme Court recently clarified its ruling for builders in the Auto Owners vs Newman rehearing. In this case, the court ruled that “property damage” to non-faulty work is an “occurrence” and thus subject to coverage (unless otherwise excluded). This is a mostly favorable ruling for builders in South Carolina but is still an overall coverage reduction to the extent that coverage is precluded for property damage to the faulty work itself.

Risk Management

Builders must employ aggressive risk management techniques to protect against out of pocked losses due to policy exclusions and unfavorable case law. Examples of such techniques include contractual transfer of risks to subcontractors (ex: hold harmless / indemnification provision and insurance requirements), the use of home owner warranties, thorough documentation of construction files, and being proactive in dispute resolution.

 Current losses can cost you much more if you have less payroll than in past years.  One recommendation is - don’t cut back on your safety program!  Investing your time & money in a safety program will protect you and your business in the long run.  Make sure your safety program is current & up to date.

 Source:  SCHB Self – Insurers Fund (Andrew Woodham, Marketing Manager)

 The case involved a builder, Trinity, that constructed a house in 1999 that resulted in construction defect problems (moisture intrusion) arising from the installation of EIFS. Auto Owners Insurance Company sought a declaratory action to determine its rights and obligations. They argued the theory that negligent construction is not an “occurrence” and thus not covered under the General Liability policy form. They reasoned that the subcontractor’s defective installation of stucco did not cause an “accident” contributing an “occurrence” subject to coverage under the policy.

 On this issue, the SC Supreme court rehashed prior case law under L-J and High Country and used the following reasoning to reject Auto Owner’s argument and to strike the “no occurrence” claim denial in SC  (at least for resulting property damage beyond the defective work itself) :

“The L-J court went on to explain …. a CGL policy may provide coverage where faulty workmanship causes third party bodily injury or damage to other property besides the defective work product.”

 “…. the High Country court found that the complaint was not simply a claim for faulty workmanship seeking damages to repair the defective siding itself, but rather, was a claim for negligent construction resulting in damage to other property.”

 “In our view, these findings establish that there was ‘property damage’  beyond that of the defective work product itself, and that therefore, the homeowner’s claim is not merely a claim for faulty workmanship typically excluded under a CGL policy.”

 “Furthermore, although the subcontractor’s negligent application of the stucco does not on its own constitute an ‘occurrence’ , we find that the continuous moisture intrusion into the home was  ‘an unexpected happening or event’ not intended by Trinity – in other words, an ‘accident’ …”

 “To interpret  ‘occurrence’  as narrowly as Auto Owners……..would render both the  ‘your work’  exclusion and the subcontractor’s exception to the  ‘your work’  exclusion in the policy meaningless.” 

“Accordingly, we hold that the subcontractor’s negligence resulted in an ‘occurrence’ falling within the CGL policy’s initial grant of coverage for the resulting ‘property damage’ to the home’s framing and exterior sheathing.” 

 Declad / Reclad Of Stucco

 However, the SC Supreme Court reversed its earlier ruling and denied coverage for “…. the replacing and repairing of the defective stucco itself as an incidental cost to repairing the damage to the other property. The court cited the exclusion barring coverage for “….any loss, cost, or expense…for the repair, replacement, adjustment, removal or disposal of…’your product’; …’your work’; or …’impaired property’; if such product , work or property is withdrawn …from use… because of a known or suspected defect, deficiency, inadequacy or dangerous condition in it.”  In citing this exclusion, the court reasoned that its application is consistent with the court’s acknowledgement that “a claim solely for economic losses resulting from faulty workmanship is part of an insured’s contractual liability which a CGL policy is not intended to cover.”

 In My Opinion 

Even though this is a partially positive ruling for builders that use subs, the Supreme Court is faulty in its own analysis and should have ruled that the standard CGL policy form covers property damage to the faulty work itself in addition to resulting damage to the non faulty work. Such a ruling to cover the faulty work itself would have upheld the true intent of the General Liability policy form as evidenced by the “subcontractor exception” to the “damage to your work” exclusion. Even the most basic insurance courses (Certified Insurance Counselor) taught to insurance agents will illustrate this concept with on point examples about how it is the intent of the policy for coverage to extend to the faulty work itself.

As concerns its ruling on the denial of coverage for the EIFS declad / reclad, a number of carriers in South Carolina probably wish that this ruling had occurred years earlier before they paid out tens of millions in dollars of claims for this exposure.  Also, it appears that the court may have misapplied the “Recall Of Products, Work, Or Impaired Property” exclusion that was cited as the sole reason for denying the declad / reclad of the stucco. According to Scott Turner in Insurance Coverage Of Construction Disputes, this exclusion is limited to recalls of products or work for preventative purposes and does not apply to claims involving actual property damage to the product or work that has already failed.

 The carriers that write General Liability policies for builders will not like the overall tone of this decision; however, all they have to do to escape liability for construction defect is to use “Exclusion: Damage To Your Work Performed By Subcontractors On Your Behalf (CG2294)”. As a matter of fact, most carriers that write General Liability for builders have used this exclusion or a similar version since 2004. Therefore, the  partially favorable supreme court ruling will mean little for the average builder.

 Source: John Sadler 

Decision

Isential asserts that such an assurance will result in the sale of more homes by builders as it will increase buyer confidence. The product is available nationwide.

This product should not be confused with home owners warranty insurance which protects the home owner against construction defects.

Source: Isential, Inc.; http://www.insential.com/

“We know that some of the builders are estimating that a minimum remediation will cost at least $75,000 per home with an approximate square footage of 2,000. The cost will go up from there based on square footage and the adequacy of the remediation being suggest.”

“Some observers see this base estimate as extremely conservative, and do not rule out the possibility that a figure twice as big may emerge over time. This possibility cannot be dismissed entirely given the fact that this estimate simply includes materials, fittings and certain items in the home. It does not include health care costs and other expenses incurred by the people living in the homes.”

Source: US Senators Call For Chinese Drywall Probe, Peter J Bown, http://www.atimes.com/atimes/China_Business/KF24Cb01.html

This article was written by my friend, attorney John McCants, who specializes in defending contractors on behalf of their General Liability insurance carrier as well as in bankruptcy law.

John’s article reviews bankruptcy under Chapter 7 (liquidation), Chapter 11 (reorganization), and Chapter 13 (reorganization). In addition, it address the following contractor related issues:

* The impact of bankruptcy filing on a contractors General Liability policy which is considered to be an asset of the bankruptcy estate. In some cases, a General Liability policy may be the most significant asset of a bankruptcy estate if a claim is pending. As a general rule, just because such a policy may be the property of the bankruptcy estate does not preclude the payment of a claim under such a policy to the claimant.

* The impact of bankruptcy filing on a performance or surety bond in the event of default. Here is the normal chain of events: contractor enters into a contract and procures a performance or surety bond; contractor does not finish the job; bond company steps in the shoes of contractor and completes job; bond company then subrogates against contractor for reimbursement. But……. how can the bond company subrogate against the contractor that has filed for bankruptcy protection? The courts usually rule that the bonding company has priority over bankruptcy creditors.

* The impact of Chapter 11 bankruptcy filing after a home owner or project owner has entered into a construction contract. In other words, can the home owner or project owner discontinue the contract? The answer is, that it depends on several factors which are outlined in the article!

* The impact of an arbitration clause in a construction contract where the contractor has filed for bankruptcy. Courts typically rule that an arbitration clause is enforceable under such circumstances.

For more information: John L. McCants, Ellis Lawhorne & Sims, P.A., Bankruptcy Law: Fundamentals For The Construction Law Practitioner,
John Sadler

The most common contractual risk transfer tools are indemnification / hold harmless clauses, request of additional insured status, and request of waiver of subrogation.

These concepts can be difficult to understand and are further complicated by the fact that upper tier contractors frequently over reach and impose protections that are onerous and are not achievable by most lower tier subs in the current insurance market place.

I found an excellent article (see link below) that exposes the strong handed techniques by upper tier contractors. Presentation of this article to a general contractor can be persuasive in negotiations to lower some of these requirements.

I am all for contractual risk transfer to protect the legitimate needs of the general contractor; however, the contractual provisions must be fair and readily achievable in the insurance market place. If not, they result in a great deal of wasted administrative time on the part of both parties and they force the subcontractor into a breach of contract position.

Source: Insurance Journal, “Contractual Risk Transfer And Endorsements To The CGL”, June, 2009

A search was done in May of 2007, where Company records showed that wages were reported for legal workers. However, nothing was reported for the illegal workers nor did Stalvey ask for or keep records of personal identification. This case was investigated by the IRS and Immigration and Customs Enforcement, which resulted in the arrest and deportation of 13 illegal immigrants.

Source: Myrtle Beach Sun News