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Insurers issuing Commercial General Liability (“CGL”) Policies to construction companies, general contractors, and subcontractors face a difficult time when deciding whether coverage exists for damages caused by defective construction. A typical fact pattern will include a claim for damages caused by defective construction work by an insured. Examples of the defective construction can include improper concrete pouring, inadequate roofing repair, or incorrect plumbing installation. When such defects occur, a claim will be made against the insured by the general contractor or owner that seeks monetary compensation to repair the damages caused by the insured.

Two central questions that arise under these circumstances are (1) whether the claimant asserts the existence of “property damage” and (2) whether the claimant asserts the existence of an “occurrence.” Virtually all CGL Policies only provide coverage to claims for damage caused by “property damage” that arises out of an “occurrence.”

The term “property damage” is commonly defined by CGL Policies as physical injury to tangible property, including all resulting loss of use of that property and loss of use of tangible property that is not physically injured. The term “occurrence” means an “accident” and often includes continuous or repeated exposure to substantially the same general harmful conditions.

The issue of whether the defective construction work by an insured constitutes “property damage” or an “occurrence” was considered by the Missouri Court of Appeals in Vill. at Deer Creek Homeowners Ass’n v. Mid-Continent Cas. Co. 432 S.W.3d 231 (Mo. App. W.D. 2014). In Deer Creek, the insured was a real estate development company that began to develop a subdivision of over 137 townhomes. Id. at 234. After the sale of some of the townhomes, the homeowners complained about water leaks. Id. The homeowners filed suit against the insured for the damage caused by the water leaks into the interior portions of the townhomes. Id. at 235.

The homeowners presented expert witness testimony regarding the cladding system of the townhomes and how the same was defective. Id. at 235–36. The expert “testified at length about how each defect resulted in water intrusion into the townhomes, and about the water damage caused to the townhomes as a result.” Id. at 236. The damage included damage to the exterior cladding system as well as other components considered to be a part of the exterior of the townhomes. Id. The observations included notations of rotted subfloor, rotted floor joists, rotted studs, and crumbled/disintegrated brick. Id.

On appeal, the insurer argued that the underlying judgment against it was not for “property damage” but was rather for the cost to repair defective construction. Id. at 239. The insurer argued that any portion of the underlying judgment related to the cost to repair the defective work was not “property damage.” Id. at 240–41 (citing Esicorp, Inc. v. Liberty Mut. Ins. Co., 266 F.3d 859 (8th Cir. 2001)).

The court in Deer Creek noted that the underlying damages included the cost to “repair” or “replace” the defectively installed components of the exterior cladding system. Id. at 241. In making a distinction from Esciorp—where defective construction did not result in any physical injury to tangible property in some part of the project—the court in Deer Creek noted that the claims of defective construction resulted in water intrusion that “damaged not only the components of the exterior cladding system, but also other components of the exteriors of each townhome.” Id. “The evidence established that the defectively installed exterior cladding system was ‘physically injured’ by water intrusion. Id. at 242.

The court in Deer Creek also distinguished from Auto-Owners Ins. Co. v. Pozzi Window Co., 984 So.2d 1241, 1248 (Fla. 2008) and Palm Beach Grading, Inc. v Nautilus Ins. Co., 434 Fed. Appx. 829 (11th Cir. 2011). The court noted that in Pozzi, the court held that “the mere inclusion of a defective component, such as a defective window or the defective installation of a window, does not constitute property damage unless that defective component results in physical injury to some other tangible property.” Id. at 243 (citing 984 So.2d at 1248)(emphasis in original). Likewise, the court noted that Palm Beach Grading held the following:

The problem with PBG’s claim is that the defective pipe did not cause damage independent of the repair and replacement of the pipe. For example, the pipes never burst, caused sinkholes, or caused back-ups. Rather, PBG’s claim is solely for the costs of repairing and removing the defective pipe, which is not a claim for “property damage.”

Id. (citing 434 Fed. Appx. at 831). In contrast from Palm Beach Grading, the court in Deer Creek noted “here, the defectively installed exterior cladding system did cause damage, not only to components of the cladding system, but also to other components of the exteriors of each townhome.” Id.

The court in Deer Creek also rejected the argument that simply because some of the damages concerned repair and replacement costs of the exterior cladding system that coverage did not exist. Id.

Once defective construction causes damage, the cost to repair the damage is covered “property damage.” That cost to repair damage may include the cost to replace the defective construction if it too has been damaged or must be removed to access other damaged areas.

In the alternative, the insurer argued that there was no “occurrence” as defined by the policy. Id. The policy in question defined “occurrence” as “an accident, including continuous and repeated exposure to substantially the same general harmful conditions.” Id. at 244. The court rejected the argument, noting that the trial court clearly found it to be negligent in its role as a developer with respect to the water leaks and signs of water intrusion. Id. “It is well-settled Missouri law that when a liability policy defines occurrence as meaning accident, Missouri courts consider this to mean injury caused by the negligent of the insured.” Id. at 246 (quoting Stark Liquidation Co., 243 S.W.3d at 393). The court further concluded that it comported with a reasonable person’s expectation of liability coverage to treat the property damage sustained due to the insured’s negligence as an “occurrence.” Id. (citing Assurance Co. of Am. v. Secura Ins. Co., 384 S.W.3d 224, 235 (Mo. App. E.D. 2012)).

The decision in Deer Creek provides a helpful analysis as to how a reviewing court in Missouri will consider claims of “property damage” and/or an “occurrence” against a contractor, subcontractor, or construction company. As noted by the court in Deer Creek, a claim of “property damage” may exist when there is evidence of damages beyond the component parts of the work being performed. As shown by the citations in Deer Creek, there is precedent that no claim of “property damage” exists when the claim of damages exclusively concerns the inclusion of a defective component without the defective component resulting in physical injury to some other tangible property. In Deer Creek, the court found the existence of “property damage” precisely because the inadequate construction work resulted in substantial water intrusion that caused damage to “behind the walls” of the cladding system.

Similarly, the decision in Deer Creek illustrates how a claim of defective construction can be construed as an “occurrence” or an accident. It should be noted that Missouri law generally does not recognize claims of breach of contract as an “occurrence” because the failure to fulfill contractual obligations is not an accident. See American States Ins. Co. v. Mathis, 974 S.W.2d 647, 650 (Mo. App. E.D. 1998)(“Under this definition breaches of contract are not ‘accidents’ or ‘occurrences.’”) and Hawkeye-Security Ins. Co. v. Davis, 6 S.W.3d 419, 426 (Mo. App. S.D. 1999)(“However, breach of a defined contractual duty cannot fall within the term accident.”) An “occurrence” or “accident” does not include expected or foreseeable damages. Davies v. Barton Mut. Ins. Co., 549 S.W.3d 472, 477 (Mo. App. S.D. 2017).

However, the claim in Deer Creek was not for breach of contract—it was for common law negligence. As such, the court considered the claim of negligence to assert the existence of an accident and therefore an “occurrence.” It is common for cases against construction cases for plaintiffs to include a claim of breach of contract and negligence, thus opening the possibility of an “occurrence” per the holding of Deer Creek.

In sum, the holding of Deer Creek illustrates a common problem for insurers and provides a cautionary tale for denying coverage when there is any possibility of secondary damage beyond the work being performed by the insured.

Article by Jim Ribaudo

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