Construction defect litigation continues to escalate in jurisdictions around the country. As a result, coverage for defective work and ensuing property damage is often sought under various forms of insurance. Occasionally, such claims arise in the first-party context, in which a building owner seeks coverage from its property insurer to cover the cost of repair and replacement of faulty construction work. More often, however, coverage issues involve third-party claims, where a contractor is sued and looks to its commercial general liability (“CGL”) insurer to defend and indemnify it in the underlying property damage lawsuit.
Recent cases have taken different approaches on whether a construction defect constitutes an “occurrence” that causes “property damage” under a CGL policy. Many states hold that such claims are not “accidents” within the meaning of the typical definition of “occurrence,” while other states adopt a more expansive view of coverage. Additionally, some legislatures have now weighed in, passing laws providing that a claim for faulty workmanship qualifies as an “occurrence” under a typical CGL policy. Due to the increased litigation of these coverage issues, insurers have added new policy exclusions, argued for broadening of existing exclusionary language, and argued against expansive interpretation of grants of coverage. As reflected by the newly enacted laws in several states, however, insureds are clearly lobbying their legislatures to enact changes for their benefit.
I. Are Construction Defects an “Occurrence”?
Coverage for property damage is triggered under a typical CGL policy only if the underlying action alleges “property damage” caused by an “occurrence.” “Occurrence” is commonly defined as “an accident, including continuous or repeated exposure to the same general harmful conditions.” Many courts hold that faulty workmanship is not an “occurrence” because defective construction work and resulting damage is not the result of an “accident.” Courts adopting this view often hold that construction defects are the natural consequence of performing poor work, thus focusing on the intentional nature of the act itself rather than on whether the ensuing “property damage” was expected or intended. Moreover, since CGL policies do not protect against foreseeable business risks such as faulty workmanship, these courts refuse to define a construction defect as an “occurrence.” To do otherwise, these courts reason, would essentially convert a liability policy into a performance bond. Recent cases demonstrate, however, that the courts do not reach uniform results on these issues.
A. Recent Case Law
In June of this year, the Connecticut Supreme Court addressed coverage for construction defect claims in its decision in Capstone Bldg. Corp. v. Am. Motorists Ins. Co. In that case the Court held, as a matter of first impression, that CGL policies may cover allegations that a subcontractor’s unintended defective construction work damaged non-defective property. 67 A.3d 961 (Conn. 2013). The issue before the Court was whether defective construction can constitute an “occurrence” under a typical CGL policy. Id. at 973-74. Prior case law “held that the definition of occurrence is unambiguous and refer[s] to ‘something that happens unexpectedly without design’” and that “accident,” although undefined by the policy, means “an unexpected happening.” Id. at 974-975. Connecticut law also held that “an accident is an event that is unintended from the perspective of the insured” and therefore, “even a deliberate act, performed negligently, is an accident if the effect is not the intended or expected result.” Id. at 975. Relying on this past precedent the Court held “because negligent work is unintentional from the point of view of the insured, we find that it may constitute the basis for an “accident” or “occurrence” under the plain terms of the [CGL] policy.” Id. at 776.
The Court also went on to find that water and mold intrusion constituted “property damage” as it was defined by the policy. In interpreting the exclusion pertaining to “Your Work” and the “subcontractor exception” (“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 held that such exclusions “eliminate coverage for property damage caused by an insured contractor’s work, but restore coverage for property damage caused by a subcontractor’s work.” Id. at 983. To determine whether the subcontractor’s work led to the defect alleged was a question of fact.
Lastly, the Court rejected the insurer’s argument that “covering damages to the insured’s property resulting from defective workmanship inappropriately turns the [CGL] policy into a performance bond.” Id. at 984. In doing so, the Court stated, “overlapping coverage does not negate a [CGL] policy’s express terms” and that surety bonds and CGL policies operate differently, noting the surety bonds are intended to guaranty completion of a construction project while CGL policies provide a remedy for property damage. Id. at 985. In short, insureds in Connecticut may rely on this holding to support their argument that CGL policies cover claims of faulty workmanship by subcontractors.
Other courts, however, continue to adhere to the opposite view. For instance, the Supreme Court of Alabama, in Owners Ins. Co. v. Jim Carr Homebuilders LLC, recently found that faulty workmanship qualifies as an “occurrence” under a CGL policy only if that work damages personal property or other parts of the building outside the scope of the work being performed by the insured contractor. 2013 WL 5298575, at * 5 (Ala. Sept. 20, 2013). Since the Court found that there was no damage to personal property or property of others, there was no “occurrence” under the policy. Id. at * 6. Alabama is also joined by recent decisions from the highest courts of Pennsylvania and Kentucky, finding that claims for faulty construction are not covered under CGL policies. See Kvaerner Metal Div. of Kvaerner U.S., Inc. v. Commercial Union Ins. Co., 908 A.2d 888 (Pa. 2006) (finding builder’s alleged faulty workmanship was not an accident, and therefore was not an “occurrence”); Cincinnati Ins. Co. v. Motorists Mut. Ins. Co., 306 S.W.3d 69 (Ky. 2010) (holding that faulty construction-related workmanship, standing alone, is not an occurrence under a CGL policy).
B. Recent Legislation
The first state to enact “occurrence” legislation was Colorado in 2010. The statute was intended to overturn Gen. Sec. Indem. Co. of Arizona v. Mountain States Mut. Cas. Co., 205 P.3d 529 (Colo.App. 2009), which held that claims for particular construction defects were not “occurrences.” The statute instead creates a presumption “that the work of a construction professional that results in property damage, including damage to the work itself or other work, is an accident unless the property damage is intended and expected by the insured.” C.R.S. § 13-20-808(3). The statute does not override the “your work” exclusion in CGL policies, however, which removes the insured’s own faulty work from coverage. C.R.S. §13-20-808(3)(a).
The Hawaii legislature also overrode the holding of its state courts on this issue. In Group Builders v. Admiral Ins., 231 P.3d 67 (Haw.Ct.App. 2010), the Court had held “that under Hawaii law, construction defect claims do not constitute an ‘occurrence’ under a CGL policy.” Id. at 73. Hawaii subsequently passed legislation, now codified as Haw.Rev.Stat. §431:1-217, which reverses this ruling and provides that such claims may constitute an “occurrence.” In 2011, another state, Arkansas, enacted Arkansas Code §23-79-155, which states that CGL policies must “contain a definition of ‘occurrence’ that includes: . . . (2) Property damage or bodily injury resulting from faulty workmanship.”
Yet another state, South Carolina, enacted Code §38-61-70 – also in 2011 -- which states that CGL policies “shall contain or be deemed to contain a definition of ‘occurrence’ that includes . . . property damage or bodily injury resulting from faulty workmanship, exclusive of the workmanship itself.” Even though the statute was intended to apply retroactively, the South Carolina Supreme Court in Harleysville Mut. Ins. Co. v. State found the statute unconstitutional, as it violated both state and federal Contract Clauses, and narrowed the statute to policies issued after the statute’s enactment. 736 S.E.2d 651, 658 (S.C. 2012).
Since these legislative enactments are relatively recent, the Courts have not had much opportunity to apply them in coverage disputes. The effect of these statutes on coverage for construction defect claims, therefore, will remain unclear until courts begin substantively analyzing, interpreting and applying these statutes.
The determination of whether there is coverage under a CGL policy for a construction defect claim requires an insurer to carefully examine the law of the relevant jurisdiction. Courts and legislatures continue to reach different conclusions respecting coverage, and some states have a more well-developed body of law on these issues than others. Ultimately, insurers wishing to avoid coverage for construction defect claims are best served by adding broad exclusions for faulty workmanship in their CGL policy forms, rather than placing all of their reliance on the traditional definition of “occurrence.”