During the past twelve months, five State Supreme Courts have considered whether faulty workmanship of a construction contractor can constitute a covered “occurrence” under the present version of the standard Commercial General Liability insurance policy. All five of them ruled in favor of finding coverage. Three of these courts did so by taking the unusual step of reversing prior contrary precedent. On May 15, 2014, a New York Appellate Division panel came to the opposite conclusion, aligning itself with only three outlier Supreme Courts on the issue, instead of the eighteen Supreme Courts in the majority, which have found that faulty workmanship can be covered. Advances in the law often occur in fits and starts.
“I am not an advocate for frequent changes in laws and constitutions,” said Thomas Jefferson, “but laws and institutions must go hand in hand with the progress of the human mind.” There has been significant progress in the way the human mind analyzes coverage for faulty workmanship under the current version of the standard-form CGL policy – at least as to the human minds that occupy State Supreme Courts across the country. Last year, the West Virginia Supreme Court of Appeals expressed that progress when it found that faulty workmanship can be a covered “occurrence” as follows: “While we appreciate this Court’s duty to follow our prior precedents, we also are cognizant thatstare decisis does not require this Court’s continued allegiance to cases whose decisions were based upon reasoning which has become outdated or fallen into disfavor.” Cherrington v. Erie Ins. Property & Cas. Co., 231 W.Va 470, 745 S.E.2d 508, 517 (2013).
There is really no longer any legitimate doubt that the decisions in which courts found that faulty workmanship can never be a covered occurrence “were based upon reasoning which has become outdated or fallen into disfavor.” It is disheartening, then, when a court adopts the outdated and disfavored reasoning to reach an incorrect result, as a New York court did two days ago in National Union Fire Ins. Co. of Pittsburgh, PA v Turner Constr. Co., 2014 NY Slip Op 03607 (App. Div., 1st Dept. May 15, 2014). (Get a copy here.)
The Turner Constr. decision is deeply flawed in three ways. First, it concludes that it is the “settled” law of New Jersey that faulty workmanship can never be a covered “occurrence.” The problem with this conclusion is with the cases the New York court cites to support it. Neither the New Jersey Supreme Court’s decision in Weedo v. Stone-E-Brick, 81 N.J. 233, 249, 405 A.2d 788, 796 (1979) nor the New Jersey Appellate Division’s decision inFiremen’s Ins. Co. of Newark v. National Union Fire Ins. Co., 387 N.J.Super. 434, 445, 904 A.2d 754, 760 (App. Div. 2006) analyzed the same CGL policy that is at issue in Turner Constr. When a court describes a principle as “settled,” it should do so with reference to prior case law that actually applies to the facts and circumstances of the case before it.
The policies at issue in Weedo and Fireman’s Fund expressly excluded coverage for all faulty workmanship of either a general contractor or a subcontractor – without any exceptions. In fact, the Weedo court said that, if it weren’t for the exclusions for faulty workmanship in the policy at issue, there would have been coverage – which means thatWeedo does not actually stand for the proposition that faulty workmanship can never be an occurrence. Strangely, given the amount of litigation nationwide involving coverage for faulty workmanship, the New Jersey Supreme Court has not decided a case involving interpretation of the “occurrence” definition in a construction defect claim since the Weedodecision in 1979.
In any event, both Weedo and Fireman’s Fund were analyzing the old 1973 version of the CGL policy, a version that pre-dated a major revision to the policy in 1986. It is universally understood that, in the 1986 revision to the CGL policy, the insurance industry for the first time expressly included coverage for liability arising from faulty workmanship. Specifically, it wrote an exception into the exclusion that appeared in the version of the policy at issue in Weedo and Fireman’s Fund. The exception provided that there would be coverage for the faulty workmanship of a subcontractor. Here is how one respected insurance treatise describes the reason for this change in coverage:
“The insurance and policyholder community agreed that the CGL policy should provide coverage for defective construction claims so long as the allegedly defective work has been performed by a subcontractor rather than by the policyholder itself. This resulted both because of the demands of the policyholder community (which wanted this sort of coverage) and the view of the insurers that the CGL was a more attractive product that could be better sold if it contained this coverage.” Jeffrey W. Stempel, Stempel on Insurance Contracts, § 14.13[D], 14-224.8 (3rd Ed. 2007 Supp.).
In other words, providing coverage for defective construction claims caused by a subcontractor’s faulty workmanship was a particular reason for the 1986 revision of the CGL policy. The Insurance Services Office, which is the insurance-industry trade association that drafts and promulgates insurance policies, published a circular on July 15, 1986 in which it confirmed that the 1986 revision to the CGL policy “covered damage caused by faulty workmanship to other parts of work in progress; and damage to, or caused by, a subcontractor’s work after the insured’s operations are completed.” Insurance Services Office Circular, Commercial General Liability Policy Program Instructions Pamphlet, GL-86-204 (July 15, 1986).
Thus, the insurance industry included coverage in the 1986 revision for consequential damages arising from defective construction, and for a subcontractor’s faulty workmanship, both as a response to popular demand by policyholders and as a way to maximize its profits by making the broader coverage more attractive and easier to sell. Here is what the new version of the exclusion for faulty workmanship said after the 1986 revision:
This insurance does not apply to:
l. Damage to Your Work
“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.
Read the second sentence of the exclusion again. Property damage to “your work” is covered if the damaged work or the work out which the damage arises was performed by a subcontractor. That exception did not appear in the policies at issue in either Weedo orFireman’s Fund.
And therein lies the most glaring flaw in the Turner Constr. decision (and in the decisions of all of the other courts that have held that faulty workmanship can never be a covered occurrence under the post-1986 CGL policy). If faulty workmanship can never be covered, because such damage is inconsistent with the definition of “occurrence” in the initial coverage grant of the policy, then what in the world is the subcontractor exception provision — which unmistakably provides coverage for the faulty work of a subcontractor — doing in the policy? Even the drafters of the policy acknowledge that damage to, or arising from, a subcontractor’s faulty work is covered under the post-1986 version of the CGL.
The second flaw in the Turner Constr. decision is the Court’s statement that faulty workmanship can never be fortuitous or accidental. This conclusion seems to conflate the act that causes the damage and the result of the act. It is the result that must be fortuitous, even when the act was intentional. The easiest way to illustrate this involves insurance with which all of us are familiar. If I were to negligently run a stop sign and collide with another motorist, my auto liability insurance policy would cover the damage to the other car, as long as it cannot be shown that I intended to run the stop sign. The act of driving my car is an intentional one. The result of doing so negligently is that I have harmed a fellow motorist. It is the damage to the other guy’s fender that must be fortuitous or accidental, not the act of driving the car. As one New Jersey court correctly expressed this basic insurance concept: “The accidental nature of an occurrence is determined by analyzing whether the alleged wrongdoer intended or expected to cause an injury. If not, then the injury is accidental, even if the act that caused the injury is intentional.” Port Imperial Condominium Association, Inc. v. K Hovnanian Port Imperial Urban Renewal, Inc., HUD-L-2054-08 (L.Div. 2012).
To find that damage caused by faulty workmanship can never be accidental, a court must find that the contractor, in effect, intentionally sabotaged the work in a deliberate effort to cause damage to the project. While stranger things can happen, they will happen incredibly rarely.
The third flaw in the Turner Constr. analysis is the conclusion that providing coverage for faulty workmanship “turns” a CGL policy “into” a performance bond. This conclusion is a fairly common but fundamental misperception of the nature of CGL polices and performance bonds.
A performance bond is something completely different from a CGL policy and there is simply no way to “turn” one of them “into” another. The insured under a performance bond is the property owner. The insured under a CGL policy is the contractor. A performance bond insures the project owner against the risk that the contractor will not deliver a quality project on time. The CGL policy insurers the contractor against, among other things, claims that its negligence has resulted in injury or damage to others. The two kinds of policies insure different parties for different risks at different times and for completely different purposes. See, generally, Couch on Insurance, § 1:15, n.4 (discussing the distinction between a performance bond and a liability policy).
Moreover, while a surety/insurer under a performance bond will pay the owner for the contractor’s failure to deliver as promised, the surety almost always has an indemnity agreement that permits it to seek recovery for such a payment from the contractor. Thus, the purpose of the performance bond is to protect the owner at the contractor’s expense, while the purpose of the CGL policy is to protect both the owner and the contractor at the insurer’s expense.
One could no sooner “turn” a CGL policy “into” a performance bond by finding that it covers faulty workmanship than one could “turn” a dog “into” a canary by placing it in a bird cage.
Turner Constr. is one of a number of decisions across the country that have misused theWeedo decision to interpret the post-1986 CGL policy. It is only the most recent case to highlight the need for the New Jersey Supreme Court to revisit this important coverage question. It is almost impossible for those of us who follow this area of the law closely to believe that the New Jersey high court will get it wrong, or that it will side with the three remaining outlier Supreme Courts (Kentucky, Nebraska, and Pennsylvania), instead of aligning itself with the overwhelming majority in finding that faulty construction can be a covered occurrence.