No Longer In Denial: A Brief Discussion on the Florida Supreme Court's Expansion of Coverage for Construction Defects to CGL Policies (January 2009 Litigation Quarterly)

Florida’s Supreme Court recently handed down two rulings which, in the context of construction defects litigation, will have widespread impact on both insurers and policyholders alike. U.S. Fire Ins. Co. v. J.S.U.B., 32 Fla. L. Weekly S811a (2007); and Auto-Owners Ins. Co. v. Pozzi Window Co., 2008 WL 2369244. These two cases were decided in conjunction with one another in December 2007. In U.S. Fire, the Court held that a subcontractor’s faulty workmanship is covered under the completed operations coverage of a standard post-1986 Commercial General Liability (“post-1986 CGL”) policy issued to a general contractor, if it finds that: 1) the insured neither intended, nor expected, the damage; and 2) the subcontractor’s faulty work caused damage to completed, otherwise non-defective work. While the Court decided that – in the circumstances discussed above – there was coverage, in Auto-Owners, it held that the cost to repair or replace that work was covered only if the windows at issue were purchased by the homeowner and not defective before being installed. Any other damages – whether consequential or incidental – will be based upon the terms of the insurance policy at issue.

The U.S. Fire holding was, in large part, based upon the interpretation of the term “occurrence,” which the Court found includes a subcontractor’s defective work that results in damage to the completed project. It also bears mentioning that the Court made a clean break with the tort/contract distinction with regard to determining whether faulty workmanship is covered by the insuring agreement. The Court found this distinction illusory and unsupported by the language of the post-1986 CGL policy that was at issue. Accordingly, a lawsuit that seeks damages in breach of contract is not automatically excluded by a commercial general liability policy. The determination will instead depend upon whether the breach of contract was intentional or accidental. As a practical matter, the Court noted that insurers are free to add a breach of contract exclusion to the policy which will be upheld by Florida courts.

The Auto-Owners case turned upon the interpretation of the phrase “property damage,” which the Court found did not include the cost to repair or replace the damaged work where the property was not defective before installation and the homeowner made the purchase; otherwise, because the subcontractor’s defective work was not itself physical injury to tangible property, there was no property damage. With these two holdings, the Court provided both insurers and policyholders clearer instruction on: 1) the coverage that flows from post-1986 CGL policies; 2) the extent to which there is coverage; and 3) the language necessary to exclude, and/or include, certain coverage.

As for the impact, practical application, and policy considerations that resulted from the Florida Supreme Court’s holdings in U.S. Fire and Auto-Owners, we have provided a brief analysis below. To that end, the simplest way for insurers to avoid these problems is to implement the proper contractual modifications that were discussed in U.S. Fire and Auto-Owners. This is particularly so because completed operations policies contain the subcontractor exception to the “Your Work” exclusion and do not contain a breach of contract exclusion, which is, in fact, what allowed the U.S. Fire Court, and many other courts throughout the country, to determine that the faulty work of subcontractors is covered under these policies. Carriers can, thus, either remove the subcontractor exception to the “Your Work” exclusion and/or add a breach of contract exclusion from such completed operations polices.

Two other strategies that carriers may employ include:

-Having the subcontractor’s carrier name the general contractor as “an additional insured” under the subcontractor’s policy, as well as requiring the subcontractor to carry primary and non-contributory insurance, as this would transfer the risk back to the subcontractors. Without this language, courts will look to the “other insurance” clauses in the respective policies to determine the priority of coverage.

-If not, carriers may also consider filing a declaratory action for the courts to make an early determination to resolve coverage issues.

With this in mind, carriers and policyholders can hopefully better manage matters related to post-1986 CGL policies. In closing, it is important to note that U.S. Fire and Auto-Owners have not been published in the official West reporter, as the Florida Supreme Court has not submitted its final drafts of these opinions. Given the amount of time that has elapsed since the Court ruled on these matters, it seems likely that changes to these opinions, if any, will be substantively minimal. Should the Court modify these opinions in any manner that would affect our analysis, we will supplement this article accordingly.