Tred Eyerly – July 28, 2014
Relying upon precedent from the Texas Supreme Court, the Fifth Circuit upheld the District Court’s denial of coverage based upon the policy’s contractual-liability exclusion. Crownover v. Mid-Continent Cas. Co., 2014 U.S. App. LEXIS 12158 (5th Cir. June. 27, 2014).
The Crownovers entered a construction contract with Arrow Development, Inc. to construct a home. Paragraph 23.1 of the contract contained a warranty-to-repair clause, which provided Arrow “would correct work . . . failing to conform to the requirements of the Contract Documents.” After the work was completed, cracks began to appear in the walls and foundation of the Crownovers’ home. Additional problems with the heating, ventilation, and air conditioning system caused leaking in exterior lines and air ducts inside the home.
When Arrow refused to correct the problems, the Crownovers initiated arbitration. The arbitrator found that the Crownovers had a meritorious claim for breach of the express warranty to repair contained in paragraph 23.1 of the construction contract. Damages were awarded.
Arrow filed for bankruptcy.The bankruptcy court allowed the Crownovers to pursue their claims against Mid-Continent. Suit was filed. The District Court granted summary judgment to the Mid-Continent based upon the contractual-liability exclusion. The exclusion stated that “this insurance does not apply to ‘property damage’ for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement.” There was an exception to the exclusion for “liability . . . that the insured would have in the absence of the contract or agreement.” The district court noted that the arbitrator only ruled on the express warranty to repair contained in paragraph 23.1. The arbitrator declined to decide whether Arrow was liable to the Crownovers on any other ground. Therefore, the District Court held that because Arrow “became legally obligated to pay the arbitration damages on the basis of its contractually assumed liability,” the contractual-liability exclusion applied with no applicable exception to the exclusion.
The Crownovers argued the “implied warranty of good workmanship” continued to apply to the contract because there was no express disclaimer of the warranty. The District Court refused to adopt this argument, however.
The Fifth Circuit affirmed. Two decisions from the Texas Supreme Court were controlling, Gilbert Texas Constr., L.P. v. Underwriters at Lloyd’s London, 327 S.W. 3d 118 (Tex. 2010) and Ewing Constr. Co. v. Amerisure Ins. Co., 420 S.W. 3d 30 (Tex. 2014).
The arbitrator found that Arrow had breached the express warranty to repair contained in paragraph 23.1 of the contract. Drawing from Gilbert, the Fifth Circuit reasoned that while contractually agreeing to repair damage resulting from a failure to exercise reasonable care or agreeing to perform work in a good and workmanlike manner would mirror a contractor’s duty under general law, contractually agreeing to repair damage resulting from a failure to comply with the requirements of the contract would not.
The Crownovers relied upon paragraph 14.4 of the contract, which stated that “the Contractor warrants that the Work will be free from defects not inherent in the quality required or permitted, and that the work will conform with the requirements of the Contract Documents.” This provision, according to the Crownovers, was the equivalent to the implied warranty of workmanship that already existed under Texas law. Under Gilbert, the contractual-liability exclusion applied only if Arrow “assumed” a duty in its contract that it did not already have under the law. But paragraph 14.4 was not the basis for liability under the arbitration award. Rather, paragraph 23.1, which contained the “express warranty to repair,” was the provision that the arbitrator decided Arrow had breached. Further, a builder could violate paragraph 14.4 by doing non-conforming work, but the failure to promptly correct such work as required by paragraph 23.1 was a separate violation of the contract.
Consequently, the exclusion applied and the District Court was affirmed.
As noted by Lee Shidolfsky, a Texas coverage lawyer on the forefront of these issues, the Fifth Circuit’s finding that coverage would exist for contractually agreeing to repair damage resulting from a failure to exercise reasonable care in performing work, but would not exist for contractually agreeing to repair damage resulting from a failure to comply with the requirements of the construction contract, seems odd. Further, in Gilbert, the contractor contractually assumed liability to a third party by agreeing (on a strict liability basis) to repair third-party property damage. No such liability would have existed without such an agreement because the contractor had governmental immunity from such claims by third parties. So the facts in Gilbert were very different from what the Fifth Circuit considered here.
We are informed that the Crownovers will seek a rehearing before the Fifth Circuit.
via Insurance Law Hawaii: Coverage for Construction Defect Barred by Contractual-Liability Exclusion.