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Construction Defects: Do You Have Coverage for Bad Work?

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A young couple with a growing family decided to sell their current home and build a new one. They contracted with a builder, and four months later moved into a beautiful new house. They were very happy for a while. Over time, they noticed pools of water in the basement, though the pipes overhead were dry. The basement walls began to show spots of dampness, followed by mildew growth and the accompanying odor. The remediation firm hired to examine the basement told them that it appeared their home was sitting over an underground spring. Surprised to hear this, they hired another firm to test the soil and received the same diagnosis: The home builder had erected their house over a spring. The couple’s next step was to hire a lawyer who served the builder with a lawsuit.

The builder notified its liability insurance companies of the lawsuit, assuming that it would have coverage for the claim. However, there are several factors that affect the builder’s coverage. First, the company must determine whether the problems with the home are an "occurrence." The standard commercial general liability policy defines an occurrence as "an accident, including continuous or repeated exposure to substantially the same general harmful conditions." Courts have differed over what constitutes an accident (and, therefore, an occurrence.) Some have said that damage arising out of a contractor’s faulty workmanship is not an accident, not an occurrence, and not insured. Others have found that, so long as the contractor neither expected nor intended for the damage to occur, the damage was accidental and the insurance should cover it.

Second, was the damage "property damage," which the policy defines as "physical injury to tangible property" and "loss of use of tangible property that is not physically injured"? Courts have found fine distinctions between different types of construction defects in this regard as well. They have held that a defect limited only to the particular component where it appears is not property damage. However, they have also ruled that a defect in one component that spreads and damages another component is property damage to the second component. In this case, the insurance should apply to the damage to the second component.

Several coverage exclusions (policy provisions defining the types of losses the insurance does not cover) may also apply to defect claims. Even if a defect passes the occurrence and property damage tests, the policy still might not offer coverage if it resulted from faulty workmanship. The insurance does not apply to property damage to "that particular part of any property that must be restored, repaired or replaced because (the insured’s work) was incorrectly performed on it." The nature of the problem determines exactly what "that particular part" of the property is. A court may find that, since the home builder erected a house over an underground spring, the entire house is defective. Conversely, it may find that only the foundation is defective, allowing coverage for the rest of the building. Another provision excludes coverage for property damage arising out of the contractor’s work after the work has been completed, unless the work was done by a subcontractor the contractor hired. Still another excludes coverage for property damage to impaired property arising out of a defect, deficiency, inadequacy or dangerous condition in the contractor’s work. Taken together, these provisions severely restrict insurance coverage for a major construction error like this one.

Contractors who are unclear about their insurance coverage should discuss their questions with a professional insurance agent. Insurance companies intend the commercial general liability policy to be a financial backstop against unforeseen injuries and damages, not a warranty of a contractor’s work.


Click here to return to Amity Insurance E-Newsletter April 27, 2010.