An Ohio appellate court has joined other courts that have ruled that no liability insurance coverage exists for physical damage caused to a construction project by defective construction. In Myers v. United Ohio Ins. Co., the Ohio Fifth District Court of Appeals denied a homeowner’s claim on its contractor’s liability insurance policy for coverage for damage to the contractor’s work resulting from leaks through its defectively constructed roof. The Court based its ruling on the ground that defective construction is not an “occurrence” as defined in liability policies. Absent an occurrence, i.e., an accident, no coverage exists. The Court gave two basic rationales: (1) a liability policy covers only “consequential” damages, which do not include damages to one part of a contractor’s work caused by defective construction on another part; and (2) to hold that damage to a contractor’s own work is covered by a liability policy would be tantamount to making it a performance bond.
Other courts have also held that there is no coverage in a liability policy for damages to an insured contractor’s own work because, e.g.: (1) the intentional work of constructing a project, even if done improperly, cannot be an accident and, therefore, cannot be an “occurrence”; and (2) damage to a contractor’s own work cannot be “property damage.”
There are several problems with these interpretations. First, if the immediate consequence of an insured contractor’s defective work is to damage other parts of its work, those damages would surely be “consequential.” Second, although many courts have stated that liability policies are not performance bonds and, on that basis, have denied coverage for damage to the insured contractor’s own work, they provide no explanation as to why two forms of overlapping risk allocation mechanisms cannot exist side by side. A liability policy is only triggered when the defectively done work causes physical damage or bodily injury and when that damage or injury gives rise to potential liability to another party. A performance bond, on the other hand, is only triggered when the contractor defaults on its contract and the beneficiary under the bond makes a claim on the bond. The two risk allocation products are triggered by very different events, provide very different protections and contain very different rights for the insurer or surety.
The court decisions denying coverage based on the theory that defective work cannot be an “occurrence,” or that damage to the insured’s own work can never be “property damage,” or that liability policies are not performance bonds all seem to be results driven, i.e., driven to hold that there should never be any coverage for damage caused to one part of an insured contractor’s work by defective construction on another part. Those decisions are misguided. If insurance carriers want to be clear that they are excluding coverage for damage to the insured’s own work, they can state just that.
Indeed, standard CGL policies exclude coverage for damage to “Your Work,” i.e., the insured’s own work. On its face, this appears to be the way the policy addresses the issue of coverage for damage to the contractor’s own work. If that clause is in the policy, without exceptions, such coverage would indeed be precluded. Nonetheless, the analysis oftentimes does not stop there because, in at least two instances, insurers have created exceptions to the “Your Work” exclusion: (1) the Your Work exclusion usually only applies to that work after the project is completed—and not during construction; and (2) many, but not all, policies also contain what is called the “subcontractor exception,” which states that the Your Work exclusion does not apply if a subcontractor of the insured performed the work—a very significant exception. This plain language appears to mean that the insurer intends to cover damage to the contractor’s own work as long as the damage occurred before the project was completed or if the defective work was done by a subcontractor. This exclusion and the exceptions to it would make no sense if damage to an insured contractor’s work could never be covered because defective work could never be an “occurrence.”
Unfortunately, this matter of whether any coverage from harm caused by construction defects exists under a contractor’s CGL policy remains highly litigated with many courts reaching very different decisions. Many hold that coverage is available under such circumstances and many hold that it is not. It is a perilous area for contractors who believe they have coverage and an insurance company who will pay the costs of defense on a claim arising from allegedly defective work, only to find out later that a court rules they do not.
What can a contractor do to protect itself? Although there is no foolproof protection, here are some things to consider:
- Determine whether the applicable state’s law precludes coverage for harms caused to your work by your defective work.
- Investigate your insurer. Some litigate this issue constantly and other don’t.
- Talk to your insurance broker about how your insurer typically appears to be handling such claims.
- Check to see whether the “subcontractor exception” has been removed from your policy by a standard ISO endorsement, CG 22 94 10 01 or CG 22 95 10 01.