Risk Management

Worthless pieces of paper

Exclusions are rendering some policies useless

By Donald S. Malecki, CPCU

Considering that the demand for a standard market to write contracting risks is greater than the supply places a great deal of pressure on producers. The reason is that producers not only must understand the functions of excess and surplus lines but also must be aware that it is largely a “buyer beware” market.

This means that producers must understand that the coverages obtained may be a lot different than what might have otherwise been available had the insurance for a general contractor or subcontractor been placed with a standard market insurer.

Much will depend on the insurer. Some insurers, for example, may use the standard ISO coverage forms and then add a variety of endorsements that can whittle coverage to the point where insurers are giving these risks as little coverage as is possible.

It often does not matter to the excess and surplus lines insurer what the individual risk characteristics of the risk may be, e.g., general contractor, subcontractor, sub-subcontractor, nature of specialty, longevity of specialization and loss history. The question is whether producers know this, since the coverage written can be so limited as to do nothing but result in a false sense of security to insureds.

Let the producer beware

It must have been shocking for a roofing subcontractor, who was required to obtain a CGL policy naming the property owner and general contractor as additional insureds, to learn that its policy excluded roofing claims. If this was not a startling revelation to the subcontractor, it certainly was to the additional insureds. The subcontractor’s CGL policy also included an employer’s liability exclusion that nullified coverage of the additional insureds who were not even considered to be the employers!

In this case of 720-730 For Washington Avenue Owners Corporation v. Utica First Insurance Company, (Slip 29443, Sup. Ct. Bronx County, N.Y. 2009), the property owner contracted with DNA Contracting (general contractor) which, in turn, hired Rauman Construction Company (subcon­tractor) to do masonry and roof replacement work.

The general contractor’s contract with the subcontractor required the subcontractor to purchase a CGL policy and name the property owner and general contractor as additional named insureds. (Many people, including lawyers, do not know the difference between an additional insured and additional named insured. Based on the facts of this case, the intent was to obtain additional insured coverage.)

What prompted this litigation was that the subcontractor’s employee was injured during construction and commenced an action against the property owner and general contractor.

When the property owner tendered the claim against it for defense and indemnification, the tender was denied by the subcontractor’s insurer based on the aforementioned exclusions. The general contractor’s insurer, therefore, assumed the defense of the property owner and commenced this action, in the property owner’s name, against the subcontractor’s insurer.

The roofing exclusion read as follows: “It is hereby agreed and understood that such insurance as is afforded by coverage L-bodily injury, property damage coverage and coverage N-products/completed operations coverage does not apply to bodily injury, property damage, products or completed work arising out of any roofing operations, which involve any replacement roof or recovering of the existing roof.”

It is not necessary to restate the entire employer’s liability exclusion. Only the first part needs to be mentioned which read: “This insurance does not apply to (i) bodily injury to any employee of any insured, to any contractor hired or retained by or for any insured or to any employee of such contractor, if such claim for bodily injury arises out of and in the course of his/her employment or retention of such contractor by or for any insured, for which any insured may be liable in any capacity…”

If one were to compare the above employer’s liability exclusion to the one found in the standard ISO CGL policy, the difference would be readily obvious. With the ISO exclusion, coverage is precluded for the insured who is determined to be the employer of the employee making claim. Thus, this exclusion would not have been applicable with this case.

In the policy issued to the subcontractor, however, the exclusion applied to “any employee of any insured.” With the word “any” in this exclusion, it did not matter whether the insured was the employer or not, coverage was excluded. This exclusion, incidentally, should come as no surprise to seasoned producers because some insurers have used this exclusion for years.

In response to the property owner’s argument for coverage, the subcon­tractor’s insurer maintained that since the property owner had admitted that the subcontractor’s employee was working in the course of his employment at the time of injury, and performing roofing operations, no further discovery was necessary. Both the employer’s liability and roofing exclusions, the insurer said, applied to preclude coverage.

Noting that the property owner had not contended that the exclusions relied on by the insurer were vague, ambiguous or inapplicable, the court identified the sole issues of this case to be whether those exclusions were violative of public policy and whether, despite the language of those exclusions, the insurer might still be obligated to provide defense. The court answered those questions in the negative.

In granting the insurer’s motion for summary judgment, the court reluctantly declined to invalidate the employer’s liability and roofing work exclusions which resulted in what the judge called a “worthless and inadequate” insurance policy.

In doing so, this court referred to another decision where this state’s court of appeals stated: “The public policy of this state when the legislature acts is what the legislature says that it will be. Conversely, when statutes and insurance department regulations are silent, we are reluctant to inhibit freedom of contract by finding insurance policy clauses violative of public policy.”

The court also stated that, while the subcontractor’s insurance policy may have been misleading and rendered meaningless due to the exclusions, both the property owner and general contractor had a duty to do a “due diligence” review of the policy presented by the subcontractor.

Had they read the policy when it was first presented, said the court, they might have observed the exclusions and rejected the policy as not being in compliance with the construction contract requirements. Having said to do so, the court stated that both the property owner and general contractor left themselves exposed.

It probably would not have been worth the effort to explain to the court that third parties, such as the property owner and general contractor, do not normally have the privilege of reviewing someone else’s policy. The court generally does not want to hear excuses no matter how legitimate they may be. Unfortunately, the only vehicle for verifying coverage and limits is a certificate of insurance and none of the exclusions relied on by the insurer would have been reflected in a certificate anyway.

Not an unusual situation

It is not surprising that a policy as bad as this one was issued. Some insurers have long been getting away with selling worthless policies. It cannot be said here that a liability policy involved in the case of Nautilus Insurance Company v. 1452-4 N. Milwaukee Avenue, LLC, et al., 562 F.3d 818 (U.S. Ct. Appeals 7th Cir. 2009) was worthless. But it did prove to be of no value to the named insured with regard to a claim.

Briefly, the facts are that a property owner (named insured) was sued because excavation on its property by contractors caused damage to adjoining premises. Unfortunately, the named insured was found to be without coverage because of a contractor-subcontractor exclusion.

This exclusion stated that no coverage applied to property damage “arising out of operations performed…by contractors or subcontractors,” as well as damage arising out of the named insured’s “own acts or omissions in connection with its general supervision of such operations.”

The insurer also maintained that if that exclusion did not preclude coverage, the policy also was subject to a classification limitation exclusion. This precluded coverage if the named insured had used its property in a way that was not disclosed in the policy declarations, endorsements or supplements. It is a common exclusion not necessarily restricted to the excess and surplus lines market.

What begs a question here is whether the property owner in the Nautilus Insurance Company case was cognizant of its policy exclusions. Another question is how can a property owner who does not perform any contracting work obtain coverage for liability imputed to it for hiring careless and/or incompetent contractors to perform work on the owner’s property?

Traditionally, liability policies, such as an owners, landlords and tenants policy, provided coverage for property owners who hired contractors to perform work at the premises. The coverage was provided as part of the premises-operations hazard without additional charge.

This independent contractor exposure was not viewed as a big exposure, since liability was of a vicarious nature; that is, what the policy provided was coverage for any liability imputed to the property owner because of the acts or omissions of the contractor. This coverage was no big deal then.

Apparently, some insurers, in excluding this exposure, probably believe it is another way to shave coverage or at least to pay smaller defense costs—given that the duty to defend is broader than the duty to pay for damages.

One can conclude that insofar as the policy was concerned, about the only liability coverage it provided was for trips and falls. It is getting so that trips and falls are about the only claims covered by standard liability coverage forms—judging from the numerous exclusions that have been added since 1986.

Risk management

It is without question that policyholders have an obligation to read their own policies. But what are the obligations of producers in such cases? While producers do not have to read the policy for the policyholder, they should know what they are selling. What is especially troublesome is how a producer could not know that a policy written for a roofing contractor excluded coverage for roofing claims.

Realistically, some producers are placed in a difficult situation when policies issued provide little in the way of protection. If they inform their insureds that the policy is absolutely worthless, the producers will either lose the account or be asked to obtain better coverage.

What producers should do in great detail with an excess and surplus lines policy is to determine the extent of coverage. If the producer is unable to comply with the insured’s request, they need to detail what they are not able to obtain, preferably in writing.

Producers also should make clear to the insured that while the policy is not as broad as the insured would have liked, it is the best that is available after searching all of the producer’s markets.

In the final analysis, producers have to tread very carefully, because those producers who have been sued have said that being tied up in litigation is a timely and costly proposition that is worth avoiding at all costs.