Why it matters

The Michigan Court of Appeals joined the majority of courts nationwide in holding that a “contractual liability” exclusion applies solely to contracts involving the assumption of liability of a third party, and not the insured’s own potential liability stemming from performance of a contract. Importantly, the court found unpersuasive the insurer’s contention that, by failing to apply the contractual liability exclusion, the trial court had expanded the scope of the policy to include contract claims, when the policy was intended to be limited to potential tort liability.

Detailed Discussion

The University of Michigan contracted with Peaker Service to perform work on the University’s power plant. Not long after Peaker’s work was complete, the power plant began to experience problems, and the University sued Peaker.

Peaker sought coverage from its CGL insurer, Travelers Property Casualty Company, seeking defense and indemnity for the University’s claim. Travelers then filed a declaratory judgment action that it had no duty to defend or indemnify Peaker because its claim was excluded under the “contractual liability” exclusion.

Travelers’ exclusion contained standard-form language applicable to “‘bodily injury’ or ‘property damage’ for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement.” The policy did not define “assumption of liability.”

Travelers cited a portion of Peaker’s agreement with the University stating that, in the event the power plant was damaged, Peaker would be “responsible for the costs to return the property to ‘as was’ condition.” Travelers argued that, in this clause, Peaker “assumed” its own liability and therefore was not covered for damages arising from breach of the contract.

Peaker argued that the term “assumption of liability” is generally understood to connote situations in which an insured assumes the liability of a third party, such as an indemnity or hold harmless agreement, and that “assuming liability” is wholly distinct from assuming a duty to perform a contract in a certain manner. The Court of Appeals found that the commonly used definition of the term “assumption,” as well as the bulk of persuasive authority from other courts, favored Peaker’s position. Because Peaker did not contractually assume the liabilities of another party, the exclusion did not apply.

The court also found unpersuasive Travelers’ argument that, by failing to apply the contractual liability exclusion, the trial court had expanded the scope of the policy to include contract claims, when it was meant to be limited to potential tort liability. Although the University’s claim was styled as a breach of contract action, the court concluded that “the substance of the claim sounded in negligent performance of the underlying contract that could have given rise to either a tort or contract claim.”

To read the opinion in Travelers Property Casualty Co. of America v. Peaker Services, click here.