Ninth Circuit Joins the "Great Weight of Authority" and Limits Insurance Coverage for Ensuing Loss
November 6, 2007
The Ninth Circuit recently affirmed the 2005 decision of the District of Oregon in Wal-Mart Stores, Inc. v. Gulf Insurance Company.[1] In affirming the District Court's decision, the Ninth Circuit acknowledged "the great weight of authority" precluding Insureds from recovering under ensuing loss clauses in property insurance policies for faulty or defective construction excluded by the policy. The Ninth Circuit's action upholds a District Court decision soundly rejecting the argument made in recent years that ensuing loss exceptions in property insurance policies nullify the exclusions they accompany.
A few words of background about ensuing loss clauses. When an excluded cause of loss, such as an earthquake or earth movement, leads to a covered cause of loss, such as fire, a property insurance policy may cover the ensuing loss because it is viewed as a fire loss (covered) and not an earthquake loss (excluded). The classic example of a covered ensuing loss arises when an earthquake leads to fires. The damage from the fires may be covered as ensuing loss, even though the earthquake is not covered.
Another example of ensuing loss arises when excluded faulty workmanship leads to a fire or other covered loss. Sometimes, an Insured may argue that the ensuing loss exception should be used not just as a limited provision preserving coverage for ensuing insured losses, but as a means to effectively nullify the exclusion for design defects and faulty workmanship. Such was the case in Wal-Mart Stores, Inc. v. Gulf Insurance Company.
In the Wal-Mart case, the retailer argued that its Insurer should pay to remedy a defectively designed concrete floor in the retailer's distribution center despite an exclusion for the cost of making good defective design or faulty workmanship. In rejecting the invitation to interpret the ensuing loss exception as effectively voiding the entire exclusion rather than simply preserving coverage for otherwise insured losses that ensue, the District Court gave this example to illustrate the purpose and intent of the ensuing loss exception:
For instance, if defectively installed roof flashing allows water to leak into the wall cavity, then subsequent damage caused by water, such as dry rot or mold to the interior of the house is caused by the faulty workmanship and is not covered. If however, the water migrates into an electrical box and causes an electrical short which in turn causes a fire, then the fire damage is a covered ‘ensuing loss.'
Id. at 3.
The Ninth Circuit's affirmance in Wal-Mart places the Circuit in line with the "great weight of authority" over the last five years, correctly limiting ensuing loss exceptions to covered losses that ensue from an excluded condition or event and declining to stretch the exception to swallow the exclusion it accompanies. See, e.g., Fiess v. State Farm Lloyds, 202 S.W.3d 744, 748, 752 (Tex. 2006); Merz v. Markel Ins. Co., 2004 WL 392890 (Cal. App. Ct. 2004); Boughan v. Nationwide Prop. & Cas. Co., 2005 WL 126781 (Ohio.App.3d 2005); National Union Fire Ins. Co. v. Texpak Group, N.V., 906 So.2d 300, 302 (Fla. App.3d 2005); GTE Corp. v. Allendale Mutual Ins. Co., 372 F.3d 598, 616 (3d Cir. 2004); Swire Pacific Holdings, Inc. v. Zurich Ins. Co., 845 So.2d 161, 167-68 (Fla. 2003); Weeks v. Co-operative Insurance Companies, 817 A.2d 292, 296 (N.H. 2003); Montefiore Medical Center v. American Protection Ins. Co., 226 F. Supp.2d 470, 479 (S.D.N.Y. 2002); Cooper v. American Family Mut. Ins. Co., 184 F. Supp.2d 960, 964-65 (D.Ariz. 2002). The "great weight of authority" illustrates that courts generally understand that the ensuing loss exception is a narrow exception intended to preserve existing coverages for ensuing covered losses and not a clause that turns an excluded condition or event into a covered one.
[1] The 2007 Ninth Circuit summary disposition is at 2007 U.S. App. LEXIS 23859. The 2005 District Court decision is at 2005 WL 1231076.
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