In a case of first impression in Illinois, a unanimous panel of the state’s Appellate Court recently addressed the interplay between a vacancy clause and a mortgagee provision and held that the insured’s failure to comply with the former did not preclude recovery by the mortgage company after vandals did over $2 million in damage.  In Old Second Nat’l Bank v. Indiana Ins. Co., 2015 IL App. (1st) 140265, — N.E.3d –, 2015 WL 1283867, 2015 Ill. App. LEXIS 185 (Mar. 20, 2015), it held that the vacancy clause was a condition subsequent to coverage and that its violation therefore only operated to bar the policyholder’s claim even though the structure – unbeknownst to the insurer — had been vacant since the policy’s inception.

The property at issue was a former slaughterhouse in Askum that had been vacant since 2005.  The policyholder (Brothers Future Holdings) acquired it in 2007 intending to use it for a contract cooking venture, but that business turned out to be stillborn.  Property insurance was duly procured, based on an application reciting the structure was “100% owner-occupied.”  The mortgagee came on board in August of 2007, and the insurer’s agent was contacted by the mortgage company and issued an “Evidence of Property Insurance” document to the mortgagee indicating that coverage was in place.

The insurer never inspected the facility and was unaware that it was vacant.  The mortgagee’s loan officer did inspect the building in 2007, however, and the mortgagee knew that the structure was unoccupied.

In December of 2009, vandals broke in, trashing the premises and stealing copper pipes, wiring and other fixtures.  The damage totaled $2.27 million.  The subsequent insurance claim by the insured and its mortgage company was denied.  Rather than seeking rescission for fraud in the application, however, the insurer chose to stand behind a provision that recited that there was no coverage for vandalism or theft loss “if the building where loss or damage occurs has been vacant for more than 60 consecutive days before that loss.”  The trial court granted the insurer’s motion for summary judgment with respect to the policyholder, but it also entered summary judgment in favor of the mortgagee, awarding $816,833.13.  On appeal, Ilinois’s intermediate level appellate court affirmed.

The policy contained a “mortgageholder” clause.  This informed the policyholder that “if we deny your claim because of your acts or because you have failed to comply with the terms of this policy, the mortgageholder will still have the right to receive loss payment” if it complies with three conditions (payment of any premium due, the submission of a sworn proof of loss, and notification of any change in the ownership, occupancy, or risk).  The insurer did not dispute that all three had been complied with.  Instead, the carrier argued that coverage had never come into being in the first place because of the vacancy provision and that protection under the mortgageholder clause was therefore never triggered.

Judge Thomas Hoffman’s opinion began by explaining that the mortgageholder clause at issue was a “standard” rather than an “ordinary” version.  Under the latter, the mortgagee had no greater rights than the insured.  The former, however, operated to create a separate contract between the mortgage company and the insurer and to shield the mortgagee from a coverage denial based on acts or omissions of the policyholder.

The carrier’s argument that the building was in what it dubbed a “state of non-coverage” from policy inception was held to be “unreasonable.”  The court’s rationale was that a vacancy clause was a “condition subsequent” to coverage rather than a condition precedent to or an exclusion from coverage.  It therefore didn’t concern the initial attachment of the risk but rather conditions which had to be maintained or met after the risk had already attached in order for the policy to remain in full force and effect.  In the words of the court:

[T]he vacancy provision in Peerless’ policy does not exclude coverage for a loss occurring when the covered premises are vacant, but rather relieves Peerless of the obligation to pay the named insured for certain enumerated covered losses if the building remained vacant for more than 60 consecutive days prior to the loss.  As such, occupancy of the building during the 60 days prior to a loss is a condition subsequent which must be complied with in order to entitle the named insured to payment in the event of certain enumerated covered losses.

It was the act of Brothers in failing to occupy 31% of the building’s square footage or to cause the same area of the building to be occupied by a tenant for the 60 day period prior to the subject loss that triggered the policy’s Vacancy Provisions, thereby relieving Peerless of the obligation to pay Brothers for otherwise covered losses.  By its very terms, however, the mortgage clause provides that Peerless was nonetheless obligated to pay the mortgage holder, Old Second, as Brothers’ claim was denied because of its own act.