In an important recent decision, New Jersey joined a growing number of states holding that Insurance Services Office’s (ISO) 1986 comprehensive general liability (CGL) policy extends coverage to a property developer faced with post-construction consequential damage claims allegedly caused by subcontractors’ defective work on a construction project. In Cypress Point Condominium Association, Inc. v. Adria Towers, LLC, 2016 WL 4131662 (N.J. Aug. 4, 2016), the New Jersey Supreme Court held that (i) consequential damages caused by the subcontractors’ faulty workmanship on a condominium complex constitutes “property damage,” (ii) the defective work resulting in that damage is an “occurrence” under those policies and (iii) an important exception to the so-called “your work” exclusion contained in the 1986 form policies made earlier New Jersey cases construing another policy form inapplicable.

The condo association sued the property developer and several subcontractors when residents of the completed complex experienced roof leaks, water infiltration at interior windowsills and jambs, and damage caused by water intrusion into common areas. The association brought tort, statutory and contract claims based on alleged faulty workmanship by the subcontractors during construction and claimed significant consequential damages by virtue of the defective work. The property developer’s insurers denied coverage, arguing that there was no “occurrence” or “property damage” under the policies and that a business risk exclusion for damage to “your work” applied.

Both the Appellate Division and then the Supreme Court rejected the insurers’ defenses to coverage. Pointing out that the case was the first one where it was called upon to construe the word “accident” in a CGL policy, the Supreme Court found that the term encompassed unintended and unexpected harm caused by negligent conduct, and thus the underlying complaint alleged an occurrence as that term was defined in the policies. Significantly, given that the defective workmanship claims sounded in contract, the Supreme Court stressed that a breach of contract may give rise to an occurrence. The Supreme Court also reasoned that the allegations of post-construction consequential damages in the form of mold growth and damage to the completed common areas and individual units came within the meaning of the words “physical injury to tangible property, including all resulting loss of use of [the] property” in the policies’ definition of “property damage.” Finally, the Supreme Court had no difficulty concluding that the subcontractor exception to the “your work” exclusion did not apply because it specifically excepted from its scope “damaged work or the work out of which the damage arises” which was “performed on [the insured’s] behalf by a subcontractor.”

In finding coverage for the claim, the Appellate Division and the Supreme Court distinguished earlier New Jersey cases holding that CGL policies did not cover defective workmanship claims because the policies involved in those cases did not contain the 1986 “subcontractor exception” to the “your work” exclusion. They observed that this subcontractor exception was purposely added to CGL policies precisely because contractors sought, bargained for and obtained broader coverage for the harm caused by a subcontractor’s work, as ISO itself recognized in developing the form. Notably, the Supreme Court was influenced by the strong recent trend in the case law “interpreting the term ‘occurrence’ to encompass unanticipated damage to nondefective property resulting from poor workmanship.”

Cypress Point is a very helpful decision for policyholders both on the precise issue presented and with respect to the Supreme Court’s guidance concerning the proper approach to the construction of CGL policies. To recap:

  • Faulty workmanship can constitute an occurrence under a CGL policy – Insurer claims that defective workmanship is an uncovered business risk are incorrect; where a contractor negligently causes damage to otherwise nondefective work, that event constitutes an occurrence.
  • Claims based on a subcontractor’s defective work may trigger coverage –Allegations of defective work, even when pled to include claims sounding in contract, can trigger coverage under a CGL policy containing a business risk exclusion if it excepts work performed by subcontractors.
  • Beware of breach of contract exclusions – The Supreme Court explained that insurers can avoid claims arising out of defective work by subcontractors simply by adding a breach of contract exclusion, if that is what they intend. All companies involved in the construction industry must carefully review proposed policy language before binding coverage to make sure the definitions of occurrence and property damage, as well as any business risk exclusions, are written so as to maximize coverage.

The rules construing insurance policies are critically important in determining the scope of coverage – Although the Cypress Point court ultimately found that the involved policies’ language clearly supported coverage, it also stressed that New Jersey insureds may benefit from the long-established rule that ambiguous policy language is to be construed in accordance with any reasonable interpretation offered by the insured; the court did not hesitate to look at the policies’ drafting history and the circumstances surrounding the CGL policies’ issuance in reaching a pro-policyholder decision.