United States: Insurance Coverage Fundamentals

Typically, depending on when the insurance coverage is triggered, the insurance company has the duty to defend its policy-holder and may ultimately have the duty to indemnify.

Insurance is the most common form of risk avoidance. Through insurance, the contractor can shift the financial burden of many standard and extraordinary business risks to an insurance company. Typically, depending on when the insurance coverage is triggered, the insurance company has the duty to defend its policy-holder and may ultimately have the duty to indemnify.

Contract Interpretation

Interpretation of an insurance contract is a question of law. The courts will construe provisions in insurance contracts according to their plain and ordinary meaning. "[A]mbiguity in an insurance policy will be construed against the insurer"; however, this rule applies only to provisions that are "actually ambiguous." Before construing an ambiguous clause against the insurer, the court will attempt to interpret it by looking to legislative goals, social policy, and the transaction as a whole.

Generally, the insured bears the burden to establish coverage under an insuring clause.

Reasonable Expectations Doctrine. The reasonable expectations doctrine may provide coverage to a policyholder even when an unambiguous provision found in a standardized insurance contract clearly restricts coverage. In Darner Motor Sales, Inc. v. Universal Underwriters Insurance Co., the Arizona Supreme Court prohibited courts from enforcing even unambiguous contractual terms in limited circumstances, including where some activity reasonably attributable to the insurer has induced a policyholder reasonably to believe that it has coverage, although such coverage is expressly and unambiguously denied by the policy.

Deductible vs. Self-Insured Retention. Policy holders can reduce costs by selecting different deductible amounts or electing a self-insured retention option. A deductible does not become due until after a claim is closed and paid by the insurance company. A self-insured retention on the other hand becomes due at the time the claim is first reported.

Insurance Certificates. Insurance certificates are widely accepted as proof of insurance in the construction industry. The certificate should provide the accurate name of the company performing work, specifically requested coverages, limits of insurance, policy expiration dates, name of insurance company and producer. The certificate should also provide the names of any applicable additional insured under the policy, whether the additional insured has waived its rights of subrogation (waiver of the right to take action against a third party for a loss suffered by the insured), and whether the policy listed in the certificate is the primary policy. Owners and contractors will often rely on an ACORD certificate of insurance as proof of its subcontractor's insurance as well as its additional insured status.

However, owners and general contractors alike need to review more than just an ACORD certificate, as the certificate is not an insurance policy and does not serve to provide, endorse, amend, extend or alter the actual policy terms. Further, reference to a contract between the client and a third party in an ACORD certificate does not provide coverage.

Triggering of Coverage

Claims-Made vs. Per Occurrence. Insurance coverage is triggered depending on the type of coverage purchased. In a Claims-Made policy, coverage extends to incidents arising on or after the policy's retroactive date and which are reported during the term of the policy. Incidents that have not been reported during the policy term will not be covered unless there is tail coverage or an extended reporting date.

In an Occurrence policy, coverage applies to, incidents arising from the coverage period, regardless of when those claims are reported. No tail coverage is necessary because incidents that occurred during the policy period are covered regardless of the date the claim is reported.

In the construction industry, Claims-Made policies are not as common as Occurrence policies because of the threat of a construction defect long after the policy has expired.

Often, a claim will not be made until years after a construction project is completed. As such, this chapter focuses primarily on occurrence coverage although the definitions and terms are generally very similar.

Occurrence. An "occurrence" is defined by the standard CGL policy as "an accident, including continuous or repeated exposure to substantially the same general harmful conditions. "

The term "accident" has been defined by Arizona courts as a "sudden and unexpected event, usually of an afflictive or unfortunate character, and often accompanied by a manifestation of force."

Generally, the policy requires the policyholder to notify its insurance carrier of an "occurrence" as soon as possible. Also, if a claim or suit is brought, the policyholder is supposed to notify its insurer as soon as practicable. Policies also generally provide that the policyholder may not make a voluntary payment, assume an obligation or incur any expense without its insurer's consent.

Arizona law holds that "faulty workmanship, standing alone, cannot constitute an occurrence as defined in [a CGL] policy, nor would the cost of repairing the defect constitute property damages." Coverage is precluded only if the policyholder expected or intended to do the act and to cause injury or damage. However, when "accidental" property damage results from continued exposure to faulty construction, that property damage is an "occurrence" as defined by the plain terms of the policy.

In Adams Roofing, a roofing company performed faulty work for a homeowners association. The association filed suit alleging that "[t]he work ... performed ... was not completed in accordance with the contract requirements and was not performed in a good and workmanlike manner." There was no allegation that the faulty work caused other property damage. The court held that faulty workmanship did not constitute an occurrence within coverage of a CGL policy.

In contrast, the plaintiffs in the underlying construction defect case in Lennar alleged damage resulting at least in part from faulty workmanship, including cracks in the walls, baseboard separation, and floor tile grout cracks and separation. These allegations contained in the plaintiffs' original complaint and in subsequent disclosure statements detailing the property damage were sufficient to allege an occurrence under the applicable policies.

Even if a subcontractor acted intentionally and intended the work to be faulty (i.e., not accidental), the intent of the subcontractor will not be imputed to a general contractor or owner who is an additionally named insured.

Occurrence policies only provide coverage for property damage that occurs during the policy period. There can be no "occurrence" within the meaning of an insurance policy until a plaintiff sustains actual damage. This rule applies even if the property damage occurring during the policy period is incremental. Thus, insurers must provide coverage for ongoing property damage that occurs during the policy period even if other similar damage preceded that damage.

Whether the policy is Claims-Made or Per Occurrence, the triggering of coverage creates two express and distinct duties of the insurance company: the duty to defend and the duty to indemnify. These concepts are discussed more fully below.

The Duty to Defend

The duty to defend arises at the earliest stages of litigation and generally exists regardless of whether the insured is ultimately found liable. The insurer would have the duty to defend a suit alleging facts that, if true, would give rise to coverage, even though there would ultimately be no obligation to indemnify if the facts giving rise to coverage were not established. Indeed, the duty to defend extends to claims potentially covered by the policy, including those that are groundless, false or fraudulent.

If any claim alleged in the complaint is within the policy's coverage, the insurer has a duty to defend the entire suit because it is impossible to determine the basis upon which the plaintiff will recover (if any) until the action is completed.

The Duty to Indemnify

In Arizona. an insurer's indemnity duty may be triggered even in the absence of a legal proceeding or a court order requiring the insurer to make payment. A "legal obligation to pay" means any obligation by law, including an obligation created by statute, contract or the common law. The duty to indemnify includes voluntary costs incurred prior to notice, provided the insured's actions did not have all actual and substantial adverse effect on the insurer's right to defend, settle or adjust the claim.

Although providing prompt notice to the insurer is critically important, it will not bar coverage if the policyholder's actions did not have an actual and substantial adverse effect on the insurer's right to defend, settle or adjust the claim.

Commercial General Liability (CGL) Coverage

Most construction clients will at the very least maintain commercial general liability insurance. In a CGL policy, the insurance company typically agrees to pay those sums that the policyholder becomes legally obligated to pay as damages because of "bodily injury" or "property damage" to which the insurance applies. "Bodily Injury" is defined as bodily injury, sickness or disease sustained by a person, including death. "Property Damage" is defined as physical injury to tangible property, including all resulting loss of use of that property.

Additionally, the CGL policy requires the insurance company to defend the insured against any "suit" seeking the aforementioned damages. Suit is defined as any civil proceeding in which damages, because of bodily injury or property damage to which the insurance applies, are alleged including arbitration proceedings or other alternative dispute resolution proceedings.

Generally, the policy requires the policyholder to notify its insurance carrier of an "occurrence" as soon as possible. Also, if a claim or suit is brought, the policyholder is supposed to notify its insurer as soon as practicable. Policies also generally provide that the policyholder may not make a voluntary payment, assume an obligation or incur any expense without its insurer's consent.

Although providing prompt notice to the insurer is critically important, it will not bar coverage if the policyholder's actions did not have an actual and substantial adverse effect on the insurer's right to defend, settle or adjust the claim.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.