Inside this Issue

A1 - Faulty Work is not Occurrence Covered by CGL Policy Even Under Subcontractor Work Exclusion
A2 - Resulting Loss from Faulty Work are Covered by Homeowner Policy
A3 - Warranty of Habitability Suit Barred by Statute of Limitations for Contracts Instead of Torts
A4 - Filing a Mediation Demand does not Toll Statute of Limitations for Filing Suit
A5 - Insured Contract Exception to Contractual-Liability Exclusion

Article 1

Faulty Work is not Occurrence Covered by CGL Policy Even Under Subcontractor Work Exclusion

Property damage caused by a subcontractor’s faulty work does not meet the definition of an “occurrence” under the CGL insurance policy because faulty work is not fortuitous. This Ohio Supreme Court decision differs from the coverage determinations of the courts of numerous other states that find coverage to exist under the subcontractor exception to the “your work” exclusion of the CGL policy. There was no question that extensive water damage from hidden leaks allegedly caused by defective construction work by subcontractors was discovered after work had been completed. While repairing the water damage, it was also discovered that there were serious structural defects which the project owner, Ohio Northern University, estimated would require repair costs of approximately $6 million.

When the university filed suit against its construction contractor, the CGL carrier issued a reservation of rights letter and subsequently filed suit asking a court to grant it declaratory judgment that it owed no duty to defend the contractor. On the final appeal it was held that no duty to defend was owed because there could be no covered claim under the policy for damages arising out of the alleged faulty work of the subcontractor. Ohio Northern University v. Charles Construction Services, 2018 WL 496159 (Ohio 2018).

The CGL policy in question provided the following exclusion for “property damage” to “your work,” which includes an exception to the exclusion when a subcontractor performs the work.

Exclusions

This insurance does not apply to:

* * *

1. Damage to Your Work:

“Property damage” to “your work” arising out of it or any part of it and included in the “products-completed operations hazard.”

“This exclusion does not apply if the damaged work or the work out of which the damage arises was performed on your behalf by a subcontractor.”

The court quoted from a number of Ohio case precedents for the proposition that “the general principle underlying CGL policies is that they are not intended to protect business owners from ordinary business risks.” “Courts generally concluded that the policies are intended to insure the risks of an insured causing damage to other persons and their property, but that the policies are not intended to insure the risks of an insured causing damage to the insured’s own work.” The court stated:

“In other words, the policies do not insure an insured’s work itself; rather, the policies generally insure consequential risks that stem from the insured’s work.” Custom Agri at ¶ 10, quoting Heile at 353, 736 N.E.2d 566.

[A] CGL policy is not intended to insure business risks that are the normal, frequent, or predictable consequences of doing business and which businesses can control and manage. * * * A CGL policy does not insure the insured’s work itself; rather, it insures consequential damages that stem from that work. * * * As a result, a CGL policy may provide coverage for claims arising out of tort, breaches of contract, and statutory liabilities as long as the requisite accidental occurrence and property damage are present.

Reviewing the facts of this particular case, the court stated that if the subcontractor's faulty work was “fortuitous,” then the “Products-Completed Operations Hazard provision in conjunction with the exception to the “Your Work” exclusion when a subcontractor performs the work, would required coverage. But the court found that the faulty work was not fortuitous. It was, in the opinion of the court, not an “occurrence” and not an “accident.” It was just an ordinary “business risk” that is a “normal, frequent or predictable consequence of doing business that the insured can manage.”

About the author: Article written by J. Kent Holland, Jr., a construction lawyer located in Tysons Corner, Virginia, with a national practice (formerly with Wickwire Gavin, P.C. and now with Construction Risk Counsel, PLLC) representing design professionals, contractors and project owners. He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects. He is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932. This article is published in ConstructionRisk.com Report, Vol. 21, No. 2 (Feb 2019).

Article 2

Resulting Loss from Faulty Work are Covered by Homeowner Policy

See similar articles: CGL | Construction Defect | Faulty Work | Insurance Coverage Dispute | Resulting loss

Homeowner’s insurance policy carrier denied coverage for losses that occurred in connection with construction of an addition to the homeowner’s house that was to serve as an observatory. The addition included construction of a telescope support system that included piers to support the system weight. A subcontractor allegedly poured concrete over the piers in a defective manner which damaged the piers, the telescope support system’s pole and the foundation of the house. The carrier asserted these were uncovered losses due to the policy exclusion for faulty construction. A trial court agreed with the carrier but this was reversed on appeal with the court holding that the exception to that exclusion which provides coverage for “resulting loss” from an otherwise uncovered event is applicable here.

The court used the Webster dictionary to define “resulting loss” since the policy did not itself provide a definition, and concluded, “We believe an ordinary purchaser of insurance would conclude that where one loss results from another loss caused by faulty construction, such resulting loss is covered.” Here, where the losses in question resulted from the excluded loss caused by the bad concrete … we find that the language of the policy must be construed so that the losses to the piers, pole, and foundation are covered resulting losses." Cockerham v. American Family Mutual Insurance Company, 2018 WL 4569878 (Missouri 2018).

The court analyzed the policy language as follows:

The policy here provides in pertinent part:

PROPERTY COVERAGES – SECTION I

COVERAGE A – DWELLING

We cover:

the described dwelling on the insured premises including additions, built-in components and fixtures;

....

PERILS INSURED AGAINST – SECTION I

COVERAGE A – DWELLING AND DWELLING EXTENSION

We cover risks of accidental direct physical loss to property described in Coverage A – Dwelling and Dwelling Extension, unless the loss is excluded in this policy....

....

EXCLUSIONS – SECTION I ...

....

PART C

The following exclusions apply to Coverage A – Dwelling and Dwelling Extension. We do not insure for loss caused by any of the following.

....

Planning, Construction or Maintenance, meaning faulty, inadequate or defective:

construction, reconstruction, repair, remodeling or renovation;

materials used in construction, reconstruction, repair, remodeling or renovation;

design, workmanship or specifications;

siting, surveying, zoning, planning, development, grading or compaction; or

maintenance;

of part or all of the insured premises or any other property.

....

However, we do cover any resulting loss to property described in Coverage A - Dwelling and Dwelling Extension not excluded or excepted in this policy....

The court explained,

“Our finding of coverage for these losses is centered on two specific policy provisions: (1) the policy’s exclusion for faulty construction; and (2) the exception to that exclusion for “resulting loss” and on the requirement under the rules of construction that those two provisions be harmonized. While we find that the policy excludes coverage for losses caused by faulty construction, the “resulting loss” clause in Part C of the Exclusions section, considered in the context of the whole policy, reinserts coverage for Homeowners’ losses for the damage to the telescope support system’s piers and pole, and to the foundation of the home.”

Article 3

Warranty of Habitability Suit Barred by Statute of Limitations for Contracts Instead of Torts

See similar articles: Statute of Limitations | Warranty of Habitability

A breach of implied warranty of habitability suit against a homebuilder is held to be a breach of contract action rather than a tort (negligence) action and the statute of limitations/statute of repose period applicable to breach of contract (running 4 years from date of construction completion) was therefore applied to dismiss the suit for being untimely. Of note is the fact that the homeowner/plaintiff was not in privity of contract with the builder. The original buyer of the house sold it to the plaintiff several years after it was built. Whereas the economic loss doctrine might prevent a tort (e.g. negligence) suit since there was no privity of contract, the plaintiff’s implied warranty claim isn’t affected by that doctrine. It is treated as a contract matter despite the lack of privity of contract. Petrus Family Trust v. Kirk, 163 Idaho 490 (2018).

The court’s opinion presents an interesting analysis of when a breach of contract can create a tort, or when a tort could create a breach of contract. The issue of whether damages are caused only by breach of contract or whether they are actually a tort caused by breach of an independent duty of care has been an important point of distinction in a number of lawsuits where insurance carriers have asserted the “contractual liability” exclusion in their policies to deny coverage for damages.

In its analysis the court cited an earlier decision in a case of Employers Mutual Casualty Co. v. Donnelly, 154 Idaho 499, 505, 300 P.3d 31, 37 (2013). In concluding the district court correctly classified the damages awarded from a breach of the implied warranty of habitability as “contract-based,” the Court explained in Donnelly as follows:

The key determination for whether an implied warranty of workmanship—and therefore the insurance policy—covers the damages is whether the duty is based upon a contractual promise or if the duty can be maintained without the contract. In the special verdict, the jury found: there was a contract involving the remodeling project between RCI and the Donnellys; RCI did not substantially perform under the contract; a breach of contract caused damage to the Donnellys; and that RCI breached “the implied warranty of workmanship with regard to the manner in which it constructed the Donnelly remodel project.” Based on the jury’s verdict, the breach of implied warranty of workmanship occurred with regard to RCI’s performance under the remodeling contract with the Donnellys. There is no duty beyond the contractual promise between RCI and the Donnellys. Since the insurance policy contains an express exclusion for contractual damages, we hold that the district court correctly found the awarded damages to be outside the scope of the insurance policy.

In the instant case, the court stated that the above reasoning espoused in Donnelly comports with the Court’s efforts to distinguish between contract and tort. As acknowledged in Donnelly,

[t]he law governing the ability to obtain remedies for breach of contract, as well as tortious behavior, is confusing, with few, if any, court decisions on the subject. Ordinarily, a breach of contract is not a tort. A contract may, however, create a state of things that furnishes the occasion for a tort. 38 Am. Jur. 662, Negligence § 20. If the relation of the plaintiff and the defendants is such that a duty to take due care arises therefrom irrespective of contract and the defendant is negligent, then the action is one of tort. To found an action in tort, there must be a breach of duty apart from the nonperformance of a contract. 52 Am. Jur. 379, Torts, § 26.

....

It can also be said that if a cause of action for breach of a duty based on a contractual promise could also be maintained without the contract by virtue of a statutory or common law duty, then the action is founded upon tort, not contract.

Put another way,

[i]n order for a cause of action to arise in tort, Claimants must establish the breach of a tort duty, separate and apart from any duty allegedly created by the contract.” Furthermore, “negligent conduct and breach of contract are two distinct theories of recovery. Ordinarily, breach of contract is not a tort, although a contract may create the circumstances for the commission of a tort.” But, “[t]he mere negligent breach or non-performance of a contract will not sustain an action sounding in tort, in the absence of a liability imposed by law independent of that arising out of the contract itself.” Instead, “active negligence or misfeasance is necessary to support an action in tort based on a breach of contract; mere nonfeasance, even if it amounts to a willful neglect to perform the contract, is not sufficient.” Baccus v. Ameripride Servs., Inc., 145 Idaho 346, 350, 179 P.3d 309, 313 (2008)….

The court concluded that “ … Petrus has not identified any duty 'separate and apart' from a duty created by Kirk’s oral contract for construction with Gentry-Boyd; nor has Petrus alleged “active negligence or misfeasance ... based on a breach of contract.”

Article 4

Filing a Mediation Demand does not Toll Statute of Limitations for Filing Suit

See similar articles: AIA B101 | Contract assignment | Mediation | No Standing | Statute of Limitations

Negligence lawsuit by project owner against its architect was barred by the three year statute of limitations, which accrued on the date the building permit was issued. The court rejected the owner’s argument that the statute of limitations period was tolled by its filing a demand for mediation pursuant to contract provisions. Section 8.2.1of the AIA contract in question provides that “Any claim, dispute or other matter in question arising out of or related to this Agreement shall be subject to mediation as a condition precedent to binding dispute resolution.” Section 8.1.1 of the contract provides that the parties “shall commence all claims and causes of action ... in accordance with the method of binding dispute resolution selected in this Agreement within the period specified by applicable law.”

The requirement to file with the applicable statute of limitations is absolute. The court found that “The Architect Agreement expressly contemplates the filing of a protective action [litigation] during the pendency of mediation precisely to avoid issues with the statute of limitations.” Washington Tennis & Education Foundation, Inc. v. Clark Nexsen, Inc., 324 F.Supp.3d 128 (U.S. Dist. Ct., District of Columbia 2018).

The plaintiff in this case was a nonprofit organization, a tennis foundation, that had assigned all interest in its contract with the architect to a related but separate entity. Because all property rights in the tennis center, along with the architect contract, were transferred and assigned to this new entity, the court held that the original entity no longer had standing to file a breach of contract action against the architect. The only potential avenue of recovery, therefore, was a potential negligence claim against the architect if it could be demonstrated that the architect owed an independent duty of care that was separate from its duty under the contract. As a result of the late filing of the tort action, however, the plaintiff never got to present the merits of such a tort claim.

The statute of limitations begins to run from the time the right to maintain the action accrues – meaning when the action came into existence. The plaintiff argued that “the critical date for the statute of limitations is … the date on which [it] requested mediation … by certified letter under Section 8.2 of the contract.” It argued that because it made a mediation demand within three years, its subsequent filing of the action in court is timely.

The court’s explanation of the contract language and how it is to be interpreted and applied is best presented by quoting at length from the court decision as follows:

WTEF’s first argument is based on a complete misreading of the Architect Agreement. According to WTEF, section 8.2.1 provides that “[a]ny claim, dispute or other matter in question arising out of or related to this Agreement shall be subject to mediation as a condition precedent to binding dispute resolution selected in this Agreement within the period specified by applicable law.” Pl.’s Summ. J. Opp’n at 8–9. But that is not what section 8.2.1 says. Rather section 8.2.1 of the contract provides: “Any claim, dispute or other matter in question arising out of or related to this Agreement shall be subject to mediation as a condition precedent to binding dispute resolution.” Architect Agreement, Art. 8, *138 § 8.2.1. Full stop. Period.

That clause does not, as WTEF claims, go on to require that the mediation demand be made “within the period specified by applicable law.” See id. The additional text that Plaintiff quotes is contained not in section 8.2.1, but in section 8.1.1, a clause that pertains to the bringing of “claims and causes of action.” That section provides that the parties “shall commence all claims and causes of action ... in accordance with the method of binding dispute resolution selected in this Agreement within the period specified by applicable law.” Id. § 8.1.1 (emphasis added).

Critically, the “binding dispute resolution” selected by the parties in the Architect Agreement is “[l]itigation in a court of competent jurisdiction.” Id. § 8.2.4. Thus, the entire premise of WTEF’s argument that the date of mediation is what counts for statute of limitations purposes is flat wrong.

A charitable reading of WTEF’s argument would be that its filing of the mediation demand equitably tolled the limitations period for its claims. But that assertion would be wrong, too. WTEF cites no authority whatsoever for that proposition, and the most analogous case that this court has found is to the contrary. See Shailendra Kumar, P.A. v. Dhanda, 426 Md. 185, 43 A.3d 1029, 1042–43 (2012) (rejecting equitable tolling during “the pendency of mandatory, non-binding arbitration”). Moreover, the Architect Agreement cannot be read to permit equitable tolling.

While Article 8 requires mediation as a condition precedent to filing suit, it clearly provides that a request for mediation “may be made concurrently with the filing of a complaint.” See Architect Agreement, Art. 8, § 8.2.2. In such circumstances, the Agreement provides that the filed action “shall be stayed for 60 days from the date of filing, unless stayed for a longer period by agreement of the parties or court order.” See id.

The Architect Agreement therefore expressly contemplates the filing of a protective action during the pendency of mediation precisely to avoid issues with the statute of limitations. Plaintiff’s counsel conceded as much during oral argument on the motion for reconsideration, admitting that the “better course in hindsight” would have been for Plaintiff to submit the mediation demand and concurrently file suit. Hr’g Tr., ECF No. 70, at 20. Accordingly, because the Architect Agreement itself cannot be read to equitably toll the limitations period during the pendency of mediation, the court rejects Plaintiff’s attempt to rely on July 14, 2014, as the operative date.

Article 5

Insured Contract Exception to Contractual-Liability Exclusion

A project owner and its subcontractors were entitled to be defended and indemnified under its contractor’s commercial general liability (CGL) policy. The “contractual liability” exclusion of the policy was not applicable because indemnity was afforded under an “insured contract,” which resulted in an exception to the standard contractual liability exclusion. The damages in question arose out of bodily injury sustained by an employee of the contractor for which the contractor had immunity from suit pursuant to the workers compensation statute. This did not protect the contractor and its CGL carrier, however, from the contractual indemnity obligation to its client to defend and indemnify the client against a suit by that same employee. Borsheim Builders Supply, Inc. v. Manger Insurance, Inc., 917 N.W. 2d 504 (2018).

The master services agreement included the following indemnification clause:

12. Indemnities.

a. Contractor hereby agrees to release, defend, indemnify and hold the “Whiting Group” harmless from and against any and all loss, cost, damage or expense of every kind and nature ... arising out of bodily injury ... to the Contractor Group, ... WHETHER OR NOT RESULTING IN WHOLE OR IN PART FROM THE SOLE, CONCURRENT, OR COMPARATIVE NEGLIGENCE, OR STRICT LIABILITY OF THE Whiting GROUP.

The contract required the contractor to “secure and maintain” insurance coverage that “shall extend to and protect the Whiting Group to the full extent and amount of such coverage.” In addition to the policy containing an exception to the exclusion for an “insured contract,” it also included an additional insured endorsement for owners, lessees or contractors and scheduled persons or organizations.

One of the contractor’s employees was injured while working on Whitling’s oil rig site when a backhoe, owed by one of Whitling’s other contractors (CSI, Inc.) released a beam that crushed the foot of an employee of that contractor. The employee sued CSI and Whitling. The attorney defending those firms tendered a demand for indemnity and defense to the contractor under the indemnity provision and to the contractor’s CGL carrier under the additional insured provision of the policy.

At the trial court, the judge entered an order for declaratory judgment concluding that the contractor was statutorily immune from liability under the state’s workers compensation act and that the CGL’s policy’s contractual liability exclusion applied to preclude coverage because of this immunity.

On appeal, the appellate court analyzed the meaning of an “insured contract.” It quoted from a treatise as follows:

Definition f of “insured contract” is most commonly the subject of litigation. In order to fall within definition f, and fall within the exception to the contractual liability exclusion, three elements must be established: (1) the contract must pertain to the insured’s business; (2) the insured must assume the tort liability of another; and (3) the tort liability must be liability that would be imposed by law in the absence of any contract or agreement.

The court concluded that the master services contract falls within the definition of an “insured contract.” As stated by the court, “Subparagraph 9(f) plainly states an “insured contract” includes “[t]hat part of any other contract or agreement pertaining to your business ... under which you assume the tort liability of another party to pay for ‘bodily injury’ ... to a third person ... provided the ‘bodily injury’ ... is caused, in whole or in part, by you or by those acting on your behalf.”

The court further explained,

Construing the plain language of the CGL policy, we conclude that CSI is an additional insured under the policy endorsement, that the “contractual liability” exclusion does not apply to CSI because the Stecs’ claims against CSI are direct claims of tort liability, and that the “contractual liability” exclusion does not apply to Borsheim because the exception applies for damages “[a]ssumed in a contract or agreement that is an ‘insured contract’,” i.e., the MSC. We therefore conclude the district court erred in ruling that the CGL policy did not provide coverage for the underlying Stec lawsuit against CSI.

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ConstructionRisk.com Report (February 2019)