When I was in grammar school, the class wise guy was a kid named Nicky DeLuca. One day, we were in gym class, and the coach was trying to teach us the importance of fundamentals in basketball.
“You have to have a strong foundation,” the coach said. “It’s like building a house. You have to build a house from the bottom up. How can anyone build a house from the top down?” (This was what we lawyers call a rhetorical question.)
There was a moment of silence. Then Nicky said: “Balloons.”
(“Laps,” said the coach.)
The coach, of course, had a point, and one that I wish Courts would remember in the ongoing battles over whether commercial liability policies provide coverage for construction defect claims. In insurance, the main fundamental is: Read the policy. Too many judges, lawyers and claims adjusters make unwarranted assumptions. (The idea that “faulty workmanship” does not fall within the definition of “occurrence” is one such assumption. Under the definition of “occurrence,” unless the damage caused by the faulty workmanship was deliberate, it had to be accidental; and if the damage was accidental, then there was an “occurrence.” Whether exclusions may apply is a separate question.)
By actually taking the time to read the policy in a recent construction defect coverage case in Alabama, some excellent lawyers posed an excellent question: How can the so-called “your work” exclusion eviscerate a homebuilder’s coverage for completed operations, when the policy specifically contains a “completed operations” sublimit of $4 million?
The case involved the construction of a new house for $1.2 million. Within a year, the homeowners (the Johnsons) were experiencing serious issues, such as water leaking through the roof, walls, and floors, resulting in water damage to those and other areas of the house. The homebuilder unsuccessfully attempted to fix the problems, and the homeowners eventually sued. The cause of the problem was defective workmanship, such as the incorrect installation of flashing by a subcontractor. (The policy did not contain the subcontractor exception to the “your work” exclusion.)
The insurance company, Owners’ Insurance Company, argued (of course) that faulty workmanship can never constitute an “occurrence”. But the Court, citing other Alabama authority and reversing an earlier decision it had made, wrote: “Faulty workmanship itself is not an occurrence but…faulty workmanship may lead to an occurrence if it subjects personal property or other parts of the structure to ‘continuous or repeated exposure’ to some other ‘general harmful condition’…and, as a result of that exposure, personal property or other parts of the structure are damaged.” (Emphasis added.) The Court also wrote: “The fact that the cost of repairing or replacing faulty workmanship itself is not the intended object of the insurance policy does not necessarily mean that, in an appropriate case, additional damage to a contractor’s work resulting from faulty workmanship might not properly be considered ‘property damage’ ‘caused by’ or ‘arising out of’ an ‘occurrence.’” (Emphasis added again.)
What this means, of course, is that if a defective window frame leaks, coverage doesn’t exist for the homebuilder’s cost of repairing the defective window frame. But if leakage causes damage to other parts of the home, nothing in the standard policy language precludes coverage for that consequential harm.
Of equal interest is the Court’s focus on the “completed operations” coverage contained in the policy. The policy contained the standard “your work” exclusion, removing coverage for damage to “your work” that’s “included in the products-completed operations hazard.” The problem here was that the policy contained a $4 million sublimit for completed operations. In other words, the policyholder had specifically purchased completed operations coverage. (“Completed operations” provisions address bodily injury or property damage that occurs away from premises owned by or rented to the policyholder, and after the policyholder has completed work or relinquished custody of its product.)
The Court held that, under the circumstances, enforcing the “your work” exclusion would create impermissible illusory coverage in the policy. Specifically, the Court wrote: “Owners’ argument that the ‘Your Work’ exclusion should nevertheless apply even though this supplemental coverage was purchased is unavailing. Thus, because there is no dispute that [the homebuilder’s] ‘operations’ on the Johnsons’ house were completed at the time of the alleged occurrences, that coverage applies to the Johnsons’ claims and, pursuant to the terms of the Owners policy, Owners must indemnify [the homebuilder] for the judgment entered against it.”
Since I’m writing this during holy seasons in the Judeo-Christian religious tradition, what the Court essentially said is, an insurance company cannot both giveth and taketh away in the same policy. If you’re a policyholder facing a construction defect claim, always check to see whether you’ve purchased “completed operations” coverage. If you have, then you may have an additional argument for coverage.