Does a Contractor’s Commercial Liability Insurance Cover Construction Defects?

By: Joseph L. Hardesty

One of the most frequently disputed insurance coverage issues in the construction industry is whether a commercial general liability insurance policy covers defective construction work.  In Kentucky, the Kentucky Supreme Court has held that CGL insurance, standing alone, does not cover a contractor’s construction defects.  However, the Kentucky Supreme Court and a subsequent federal court decision have raised the possibility that damages that result from defect work may be covered under a contractor’s CGL insurance policy.

In the case of Cincinnati Ins. Co. v. Motorists Mut. Ins. Co., decided in 2010, the Kentucky Supreme Court addressed the issue of whether a homeowner’s claim for defective construction against a homebuilder is, standing alone, a claim for property damage caused by an “occurrence” under the homebuilder’s CGL policy. The case was brought by buyers of a newly constructed home against their homebuilder, claiming that the homebuilder’s work was so defective that the home was beyond repair and would need to be razed.  The homebuilder sought to recover damages to remediate the defective work under its CGL policy.  The policy provided that the CGL carrier would pay those sums that the insured becomes legally obligated to pay as damages because of “property damage” caused by an “occurrence.”  The policy defined “occurrence” as an “accident.”  The court found that construction defects were not an “accident.”  The court adopted the majority view that a contractor’s CGL insurance policy does not cover defective construction work.  The court relied on the doctrine of fortuity in reaching this conclusion.  The court found that under the doctrine of fortuity, for there to be an “accident” for which there is coverage, it must be shown that the loss was not intended and that the loss was a “chance event” beyond the control of the insured.  The court reasoned that the defective work was not an “accident” even though the builder did not intend to build a defective house because the term “accident” is something that does not result from a plan or design and does not result when a third party controls the event.  Therefore, the court concluded that the defective work was not “fortuitous” or an “accident,” because the homebuilder had control over the construction of the house.

Hence, the Kentucky Supreme Court has made it clear that the cost of remediating construction defects is not covered under a CGL policy.  However, in a footnote in the decision, the court left open the question of whether property damage that results from construction defects is covered by a contractor’s CGL policy.

This issue was addressed by the United States District Court for the Eastern District of Kentucky in the case of Liberty Mutual. Fire Ins. Co. v. Kay & Kay Construction, Inc. This case involved a claim by Walmart for damage to the foundation of one of its newly constructed stores due to defective site work by a subcontractor.  The issue in the case was whether the site work subcontractor’s CGL policy covered the resulting damage to the Walmart foundation.  In an order issued on January 13, 2012, the court held that if defective work damages something other than the insured’s work, it is an occurrence/accident covered by the contractor’s CGL policy.  In other words, the court held that a CGL policy does not cover an accident of faulty workmanship but it does cover faulty workmanship that causes an accident.  Hence, the court held that the resulting damage to the Walmart foundation caused by the defective site work was covered by the site work subcontractor’s CGL policy.

Based on these cases, the rule in Kentucky would seem to be that a contractor’s defective work, standing alone, is not covered by a CGL policy and the cost to repair that work is not covered.  However, damages that result from defective construction work may be covered if the Kentucky state courts choose to follow the federal district court’s ruling in Liberty Mutual.

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