CONSTRUCTION DEFECT UPDATE

Insurance Coverage Litigation Section September 27, 2013

Tred R. EyerlyDamon Key Leong Kupchak Hastert(808) 526-3625te@hawaiilawyer.comBlog: www.insurancelawhawaii

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UPDATE

DISPUTE OVER INSURANCE COVERAGE FOR CONSTRUCTION DEFECTS

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Background

Insuring Agreement – We will pay those sums that the insured becomes legally obligated to pay as damages because of . . . “property damage” to which this insurance applies. This insurance applies to “property damage” only if the “property damage” is caused by an “occurrence” and the “property damage” occurs during the policy period.

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“Property Damage” –

(a) Physical injury to tangible property, including all resulting loss of use of that property; or

(b) Loss of use of tangible property that is not physically injured.

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“Occurrence” – an accident, including continuous or repeated exposure to substantially the same general harmful conditions.

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Business Risk Exclusions:

(j) (6) This insurance does not apply to that particular part of any property that must be restored, repaired or replaced because “your work” was incorrectly performed on it.

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Business Risk Exclusions:

(l) This insurance does not apply to “property damage” to “your work” arising out of it or any part of it . . .

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.

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Duty to Defend

Duty to Indemnify

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Duty to Defend

Determined by the allegations in the complaint against the insured - is there any possibility of coverage under the policy?

Complaint Allegation Rule.

Duty to Defend determined at the time of tender. Insurer cannot rely upon extrinsic evidence.

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Duty to Indemnify

After the facts are established, must the insurer pay claims under the policy?

Insurer can rely on extrinsic evidence, i.e., facts established in the underlying case.

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Nationwide Debate over Coverage for Construction Defects:

Does “property damage” caused by faulty workmanship arise from an “occurrence”, i.e., accident?”

One View:

No Coverage for Construction Defects.

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Construction Defects do Not Arise from Occurrence, but from:

(1) expected or intended result; or

(2) breach of contract. No Occurrence = No Coverage

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• Leading Case: Weedo v. Stone-E-Brick, Inc., 405 A.2d 788 (N.J. 1979)

· Peeling, cracking of stucco wall -no occurrence

· Harm caused to neighbor - occurrence

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Recent Case: Zurich Am. Ins. Co. v. R. M. Shoemaker Co., 2013 U.S. App. LEXIS 6093 (3d Cir. 3/25/13) (Pennsylvania law)

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Another view:

Construction Defects Covered

Another view:

Property damage based upon faulty workmanship arises from an “occurrence” (i.e., accident).

Leading Case:

Am. Family Mutual Ins. Co. v. Am. Girl, Inc., 673 N.W. 2d 65 (Wis. 2004).

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Am. Girl, Inc.

∙ Sinking, buckling of warehouse was physical injury to tangible property.

· Faulty site preparation on advice of soil engineer was accidental, not intentional.

But, once “occurrence” is established, turn to Business Risk exclusions.

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Several Recent Cases

Big-D Constr. Corp. v. Take It for Granite Too, 917 F. Supp. 2d 1096 (D. Nev. 1/22/13) (Federal Court Prediction)

Cincinnati Ins. Co. v. AMSCO Windows, 2013 921 F. Supp. 2d 1226 (D. Utah 2/5/13) (Federal Court Prediction)

K&L Homes, Inc. v. Am. Family Mut. Ins. Co., 829 N.W. 2d 724 (N.D. 4/5/13)

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More Recent Cases Finding Occurrence:

Capstone Bldg. Corp. v. Am. Motorists Ins. Co., 67 A. 3d 961(Conn. 6/11/13)

Cherrington v. Erie Ins. Prop. & Cas. Co., 745 S.E. 2d 508 (W.V. 6/18/13)

Taylor Morrison Serv. v. HDI-Gerling Am Ins. Co., 2013 Ga. LEXIS 618 (Ga. 7/12/13)

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Current Trend:

Cherrington v. Erie Ins. Prop. & Cas. Co., 745 S.E. 2d 508 (W.V. 6/18/13)

· Coverage denied to contractor for faulty construction of home.

· Reversing itself, Court finds defective workmanship causing property damage is an “occurrence.”

Hawaii Case Law Prior to Group Builders.

Group Builders, Inc. v. Admiral Ins. Co., 123 Haw. 142, 231 P.3d 67 (Haw. Ct. App. 2010).

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o Group Builders relies primarily on Burlington Ins. Co. v. Oceanic Design & Constr. Inc., 353 F.3d 940 (9th Cir. 2004). Burlington predicts how Hawaii Supreme Court would rule.

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o Group Builders I relies on Burlington

for guidance on Hawaii law.

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Burlington looks to federal district court, non-construction cases, holding that an expected result of insured’s intentional acts in performing a contract does not give rise to an “occurrence:”

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WDC Venture v. Hartford Accident & Indem. Co., 938 F. Supp. 671 (D. Haw. 1996) CIM Ins. Corp. v. Masamitsu, 74 F. Supp. 2d 975 (D. Haw. 1999) CIM Ins. Corp. v. Midpac Auto Ctr., Inc., 108 F. Supp. 2d 1092 (D. Haw. 2000)

Burlington also relies on Hawaiian Holiday Macadamia Nut Co. v. Indus. Indem. Co. 76 Haw. 166 (1994) - Breach of contract case – intentional destruction of seedlings not accidental.

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o Hawaii Supreme Court cases ignored by Burlington and Group Builders:

Sturla v. Fireman’s Fund, 67 Haw. 203 (1984) Hurtig v. Terminex Wood Treating & Contracting Co., 67 Haw. 480 (1984) Sentinel Ins. Co. v. First Ins. Co. of Hawaii, Ltd., 76 Haw. 277 (1994)

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o Sturla – Risks insured by policy are “injury caused by a faulty product or workmanship.” Id., 67 Haw. at 210.

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o Hurtig –Business risk exclusions do not bar coverage.

Before reaching business risk exclusions, must first find there was an occurrence.

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o Sentinel – Court found defense owed where construction defects alleged. Even though breach of contract and breach of warranty claims alleged, Court found coverage.

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• In response to Group Builders, legislature enacts Act 83 (codified at Haw. Rev. Stat. § 431:1-217)

“The meaning of the term ‘occurrence’ shall be construed in accordance with the law as it existed at the time that the insurance policy was issued.”

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Issue:

What was the meaning of “occurrence” when policy issued?

Reaction of U.S. District Court (Hawaii) to Act 83.

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• State Farm v. Vogelgesang, 2011 U.S. Dist. Ct. LEXIS 72618 (D. Haw. 2011). Insureds made no effort to demonstrate what the state of the law was when policy entered.

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• Illinois Nat’l Ins. Co. v. Nordic PCL Constr., 2012 U.S. Dist. LEXIS 58464 (D. Haw. 2012). Judge Mollway felt compelled to follow Burlington. Court also assumed Burlington and Group Builders must have taken Sturla, Hurtig, and Sentinel into account – even though this trilogy of cases is never mentioned in either Burlington and Group Builders.

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Evanston Ins. Co. v. Nagano, 2012 WL 3800320 (D. Haw. Aug. 31, 2012) Judge Kobayashi largely follows Judge Mollway in Nordic PCL.

Actions of contractor arise from contract and are not occurrences.

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• Nautilus Ins. Co. v. 3 Builders, Inc., 2013 U.S. Dist. LEXIS 88480 (D. Haw. 6/24/13)

Policy issued before Burlington.

Judge Kobayashi finds meaning of “occurrence” controlled by Burlington – Suit for breach of contract after building sub-standard home was foreseeable.

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• Nat’l Union Fire Ins. Co. of Pittsburgh, Pa. v. Simpson Mfg. Co., 2011 U.S. Dist. LEXIS 128481 (D. Haw. 2011) Judge Kay – “Hawaii legislature has specifically denounced Group Builders in very strong terms.”

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• Some Hawaii Circuit Courts have different interpretation of Group Builders and Act 83.

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o Judges Chang, Border, and Sakamoto questioned the viability of Group Builders in light of Act 83.

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Three Circuit Court Cases:

• Nat. Union Fire Ins. Co. of Pittsburgh, PA v. Sunset Heights Hawaii, LLC, Civil No. 10-1-2184-10

• Coastal Constr. Co. v. N. Am. Specialty, Civil No. 11-1-0417-3

• The Pinnacle Honolulu, LLC v. Am. Int’l Specialty Lines Ins. Co., Civil No. 12-1-0526

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o Judge Chang specifically agreed that the state of the law when the policy was issued was as stated in Sentinel, Sturla, and Hurtig.

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Group Builders, Inc. v. Admiral Ins. Co., 2013 Haw. App. LEXIS 207 (Haw. Ct. App. April 15, 2013)

Duty to Defend construction defect claims based upon policy language and allegations in underlying complaint.

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Admiral refused to defend because construction completed after its policy period.

Trial Court found duty to defend.

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To deny duty to defend, Admiral would have to prove it would be “impossible” for Hilton to prevail against Group Builders on a claim covered by the policy.

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Admiral relied on expert testimony – mold growth commenced after Admiral’s policy period.

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But Hilton’s complaint did not specify when mold growth began, when any property damage occurred, or what caused the mold to grow.

ICA assumes property damage occurred during Admiral’s policy period.

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Next Issue:

Were damages caused by defective workmanship an “occurrence” in 2003 during Admiral’s policy period?

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Admiral owed a defense – courts were split on whether construction defect claims constituted an “occurrence.”

But what about Sentinel, Sturla and Hurtig?

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Admiral argues Business Risk Exclusions apply:

(j) (5) – excludes coverage for damages to that particular property resulting from or arising out of the ongoing operations of the insured.

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But Hilton’s complaint does not specify which installation was defective, nor which parts of the construction project were damaged.

Possibility existed that the exclusions would not preclude coverage for all of Hilton’s claims against Group Builders.

Therefore, Admiral had a duty to defend.

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Summary:

In 2010, ICA established no indemnity coverage for construction defects.

In 2011, legislature enacted Act 83.

In 2013, Group Builders II finds duty to defend construction defect cases

What now?

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Rule 15, Rules of Appellate Procedure –

Reserved Questions.

MAHALO

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Thank You

Tred R. EyerlyDamon Key Leong Kupchak Hastert1600 Pauahi Tower1003 Bishop StreetHonolulu, Hawaii 96813(808) 526-3625te@hawaiilawyer.comBlog: www.insurancelawhawaii

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