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Stephen Raucher’s article Businesses Suffer When Disaster Strikes, Too is published in the Los Angeles Daily Journal on December 7, 2018.

In light of the terrible fires plaguing California, policyholders should keep in mind some basic principles should they find themselves needing to make a claim, or even if they just want to re-evaluate their property insurance policies. Many of these pointers are unique to California law.

• Fire losses must be reported “without unnecessary delay.”
• Policyholders must provide a sworn proof of loss within 60 days of the loss.
• Policyholders must cooperate with the insurer in its investigation of the claim.
• Such cooperation typically includes an obligation to submit to an examination under oath, which can even be a condition to payment.
• The policyholder has a right to be represented by counsel in connection with such an examination, though at his or her own cost.
• The standard fire insurance policy requires that any lawsuit against the insurer be filed within 12 months of the loss, although that can be extended to 24 months if the loss is related to a declared state of emergency.
• Property insurance policies may call for appraisal in the event of a dispute over loss value. Appraisal is similar to arbitration, but less formal. Appraisal cannot be compelled if the loss is related to a declared state of emergency.
• Depending on the policy language, loss is generally based either on “actual cash value” or “replacement value.”
• Actual cash value is measured by the fair market value of the damaged structure as of the date of loss.
• As its name suggests, replacement cost is the reasonable amount necessary to repair and replace with similar construction. Replacement cost coverage is better (and more expensive) for the policyholder.
• Insurers must comply with the Fair Claims Settlement Practices Regulations, which generally require that a claim be accepted or denied within 40 days. Failure to satisfy the regulations can give rise to a bad faith claim by the policyholder.

When the spotlight is on them during times of well-publicized disasters, most carriers responsibly adjust their policyholders’ claims. However, there are always exceptions, and policyholders should not hesitate to seek legal assistance at any stage of the process in order to protect their rights.

Insurance Law is published by the State Bar Litigation Section in its California Litigation Review (2017 Edition), co-authored by RRB attorney Stephen L. Raucher, along with Michael Sohigian, who have provided insurance updates together for the fifth consecutive year.

On Monday, April 16, 2018, Stephen L. Raucher was one of the panelists presenting a continuing legal education program entitled “Fourth Annual Update on Developments in Insurance.” The program examined the most important new cases from 2017 regarding insurance coverage and bad faith, focusing particularly on liability and property policies.

California’s First Appellate District recently squelched an excess liability carrier’s attempt to shift responsibility for settlements resulting from a pipeline explosion onto a co-defendant’s umbrella insurer, holding that the latter policy’s “professional services” exclusion barred coverage. Energy Insurance Mutual Limited v. ACE American Insurance Company, 14 Cal.App.5th 281 (2017). In doing so, the Court of Appeal gave broad effect to the exclusion, potentially narrowing the path to coverage in construction cases.

The insured under the excess policy, Kinder Morgan, Inc., owns and operates oil and gas pipelines. Kinder Morgan hired two temporary employees provided by Comforce Corporation — the insured under the umbrella policy — as construction inspectors in connection with a water supply line project. Kinder Morgan also had one of its own employees at the project serving as a “line rider,” whose primary function was to perform daily surveillance in order to protect the pipeline system from damage. During the course of the project, a petroleum line was punctured and the resulting explosion killed five employees and seriously injured four others, and also caused extensive property damage.

Subject to a $1 million self-insured retention, Kinder Morgan was insured under a $35 million “excess liability” policy. In addition, Energy Insurance Mutual Limited (“EIM”) issued Kinder Morgan a “following form” $100 million excess policy above that. Meanwhile, Comforce was insured under a $1 million primary commercial general liability (“CGL”) policy, as well as a $25 million umbrella policy, both issued by ACE American (“ACE”). The umbrella policy contained a professional services exclusion.

In settling the lawsuits arising from the explosion, EIM agreed to pay more than $30 million for the claims against Kinder Morgan. EIM then sued ACE for contribution under the Comforce umbrella policy, alleging that Kinder Morgan was an additional insured under that policy.

The Court of Appeal upheld the trial court’s grant of summary judgment in favor of ACE based on the professional services exclusion, which provided as follows: “This insurance does not apply to any liability arising out of the providing or failing to provide any services of a professional nature.”

The court noted that “A CGL policy is intended to cover general liability, not an insured’s professional or business skill.” (Emphasis in original). Citing Tradewinds Escrow, Inc. v. Truck Ins. Exchange, 97 Cal.App.4th 704 (2002), the opinion went on to explain that “California courts have defined ‘professional services’ as those arising out of a vocation, calling, occupation, or employment involving specialized knowledge, labor, or skill, and the labor or skill involved is predominantly mental or intellectual, rather than physical or manual.” The court then noted that the exclusion extends beyond services traditionally considered “professions,” such as medicine, law or engineering.

With these definitions in mind, the court ruled that the tasks assigned to the construction inspectors supplied by Comforce fell within the professional services exclusion. Moreover, because the exclusion used the term “arising out of,” the court further held that the exclusion extended to all of the claims alleged in the underlying case, including ordinary negligence, trespass and nuisance. In reaching its conclusion, the court distinguished North Counties Engineering, Inc. v. State Farm General Ins. Co., 224 Cal.App.4th 902 (2014), which had held that ordinary labor and construction work did not fall within a professional services exclusion.

EIM further argued that, because the umbrella policy contained a “separation of insureds” provision (or severability clause), there could still be coverage for Kinder Morgan as an additional insured even if the exclusion barred coverage for Comforce. The separation of insureds provision stated that, other than with respect to the limits of liability, the policy applies: “1. As if each INSURED were the only INSURED; 2. Separately to each INSURED against whom claim is made or SUIT brought.”

The Court of Appeal agreed that the relevant question in light of the severability clause was not whether Comforce had engaged in professional services, but whether Kinder Morgan did. However, the court found that the record established that Kinder Morgan was not just a passive owner of the pipeline, but rather had trained and supervised the inspectors provided by Comforce, and had used its own full-time employee as a line rider. Accordingly, the separation of insureds provision did not assist EIM.

In a decision which softens the normally harsh rules confronting policyholders with respect to rescission of insurance policies, California’s First Appellate District recently reversed a summary judgment of rescission. Duarte v. Pacific Specialty Ins. Co., 13 Cal.App.5th 45 (2017). The basis for doing so was the ambiguity of the questions at issue in the insurance application.

The policyholder, Duarte, obtained liability coverage effective April 19, 2012 for a residential rental property he owned. In June 2012, a tenant at the property filed a habitability lawsuit, which the carrier, Pacific Specialty, refused to defend. Duarte filed an action for declaratory relief to establish the duty to defend. Pacific Specialty asserted a number of affirmative defenses in response, including a right to rescind due to material misrepresentations in the application. The trial court granted summary judgment in favor of Pacific Specialty, but the Court of Appeal reversed.

Pacific Specialty asserted that Duarte untruthfully answered “no” to the following questions: “(4) Has damage remained unrepaired from previous claim and/or pending claims, and/or known or potential (a) defects, (b) claim disputes, (c) property disputes, and/or (d) lawsuits?” and (9) “Is there any type of business conducted on the premises?”

The appellate court began by acknowledging that material misrepresentations or concealments are grounds for rescission of an insurance policy, and actual intent to deceive need not be shown. Moreover, “the fact that the insurer has demanded answers to specific questions in an application for insurance is in itself usually sufficient to establish materiality as a matter of law.” Id. at 53, citing Thompson v. Occidental Life Ins. Co., 9 Cal.3d 904 (1973). However, the court went on to note that, as with the construction of insurance policies generally, ambiguities in the application are construed against the insurer, and that the insurer cannot rely on answers given based on vague or ambiguous questions. Id. at 54.

With respect to Question No. 4, the record did show that the tenant had complained about issues with the property in February 2012, prior to the policy’s inception. However, this was insufficient in light of the “utterly ambiguous” nature of the question. In particular, the court noted that the question did “not include any form of the verb ‘to be,’ and therefore it is not at all clear that it asks, ‘Are there any pending claims?’” Id. at 60 (emphasis in original). Instead, the court agreed with Duarte that the question could reasonably be interpreted as asking “whether the property has unrepaired damage associated in some way with previous or pending claims.” Id. at 61 (emphasis added). Since Pacific Specialty had not shown that the insured knew of any unrepaired damage, it could not meet its burden on summary judgment as to this question.

As to Question No. 9, Pacific Specialty pointed to evidence that Duarte knew that the tenant had sometimes sold motorcycle parts from the basement to show that his answer was inaccurate. However, Duarte argued that he reasonably interpreted the phrase “business [being] conducted on the premises” to refer to “regular and ongoing business activity.” The Court of Appeal agreed that Duarte’s interpretation was reasonable, and that there was accordingly a disputed question of fact as to whether Duarte misrepresented the existence of a business on the premises in the insurance application. Summary judgment was therefore reversed.

The lesson of Duarte for policyholders when confronted with a rescission claim is to pay careful attention not only to the answers provided on the insurance application, but to the questions themselves. Since ambiguities will be interpreted against the insurance company, convoluted, vague or confusing questions may be a policyholder’s best friend.

In a victory for policy holders, California’s Second Appellate District recently held that when an insurance policy expressly provides coverage for litigation expenses on appeal, an exclusion requiring repayment to the insurer upon a “final determination” of the insured’s culpability applies only after the insured’s appeals have been exhausted.  Stein v. Axis Ins. Co., 10 Cal.App.5th 673, 676 (2017).

In 2007, a medical device company, Heart Tronics, Inc., purchased a $5 million directors and officers liability insurance policy from Houston Casualty Company (HCC).  The policy covered litigation expenses incurred in connection with both civil and criminal proceedings, including appeals, based on an alleged breach of duty by officers and directors, or their functional equivalents.

An exclusion in the policy provided that “Except for Defense Expenses, the Insurer shall not pay Loss in connection with any Claim” occasioned by willful misconduct.  Upon a “final determination” that the insured committed willful misconduct, the insured would be obligated to repay HCC for any defense expenses paid on the insured’s behalf.

When an officer of Heart Tronics was convicted of federal securities fraud and tendered his appeal of the conviction to HCC, HCC denied coverage, arguing, in part, that the conviction was a “final determination” of willful misconduct.  Thus, the insurance dispute turned on the meaning of “final determination.”  HCC argued that since, under federal law, a trial court judgment is deemed a final adjudication until reversed on appeal, the officer’s criminal conviction should also be deemed a final determination.

The Court of Appeal disagreed and in applying the ordinary rules of contractual interpretation to the policy, found no reason to apply the meaning of “final adjudication” proffered by HCC.  The Court of Appeal also noted that even under federal law, an adjudication that is “final until reversed” is not final for all purposes, and that an appellate ruling is more final than a trial court’s judgment.  Moreover, the exclusion provision by its own terms provided that the exclusion did not apply to defense expenses.  Thus, the contractual language of the policy precluded HCC’s argument.

Policy drafters and holders should note that the Stein holding may not apply in all cases, and that the outcome of these kinds of disputes ultimately depends on policy language.  For example, the Court of Appeal noted that the phrase, “judgment or other final adjudication,” in an exclusion construed in two cases relied upon by HCC, was disjunctive such that either condition would alone suffice to trigger the exclusion.   This was not the case in Stein, where the exclusion was not disjunctive, and only a “final adjudication” triggered the exclusion.