Mere Allegation that a Contractor “Caused” Work to be Performed Implies The Existence Of Subcontractors And May Trigger the Subcontractor Exception to the “Your Work” Exclusion.

Forrest Construction, Inc. v. The Cincinnati Insurance Company, 703 F.3d 359 (6th Cir. Jan. 11, 2013) (applying Tennessee law)

On January 11, 2013, the U.S. Court of Appeals for the Sixth Circuit held that an insurer cannot rely on the “your work” exclusion if the underlying complaint against a general contractor potentially suggests that the allegedly faulty work was performed by a subcontractor. The court held that the allegation that a general contractor “caused” work to be performed in the construction of an allegedly defectively built home implied the existence of a subcontractor and, therefore, triggered the subcontractor exception. In a standard CGL policy, coverage is excluded for damage to the insured’s own work, except if the damaged work or the work out of which the damages arises was performed on the insured’s behalf by a subcontractor.

The insured, Forrest Construction, was a general contractor hired to construct a home. A dispute over payment arose and Forrest Construction sued the homeowners. The homeowners countersued alleging construction defects. Specifically, the homeowners alleged that Forrest Construction “recklessly performed, or caused to be performed, work of such poor workmanship that it caused an unsafe condition” and “recklessly constructed the foundation or recklessly caused to be constructed the foundation” [emphasis added].

Forrest Construction tendered the defense of the underlying lawsuit to its CGL insurer, Cincinnati. Cincinnati refused to defend and issued a denial letter asserting that the policy excluded from coverage damage to “your work,” which is work performed by the insured or any work “arising out of it or any part of it.” Cincinnati acknowledged that the “your work” exclusion” does not apply “if the damaged work or the work out of which the damage arises was performed on your behalf by subcontractors.” But Cincinnati asserted in the denial letter that the underlying pleadings did not suggest that any of the work was performed by an entity besides Forrest Construction itself.

Forrest Construction was forced to defend itself in the underlying lawsuit and was ordered to pay damages to the homeowners due to the faulty construction. Forrest Construction then sued Cincinnati alleging, among other things, that Cincinnati had breached the insurance contract and acted in bad faith by failing to defend Forrest Construction in the underlying lawsuit. The trial court held that Cincinnati had breached its contract and Cincinnati appealed.

The appellate court affirmed the trial court’s ruling in favor of Forrest Construction, finding that the allegations of the underlying complaint against it triggered Cincinnati’s duty to defend and that the “your work” exclusion did not preclude coverage. The appellate court found that the underlying complaint against Forrest Construction did, in fact, contain references to work done by an entity other than the insured because it alleged that Forrest Construction “caused” work to be performed. The appellate court reasoned that the usual way a contractor would “cause” work to be performed would be by hiring a subcontractor. Accordingly, the appellate court concluded that the language of the underlying complaint sufficiently alleged that work may have been performed by another entity such that the subcontractor exception to the “your work” exclusion applied. Therefore, the appellate court held that Cincinnati was wrong to deny coverage on the basis of the “your work” exclusion.

Cincinnati also argued that laches and late notice barred coverage on the basis that it was Forrest Construction’s responsibility to request reconsideration of Cincinnati’s denial of coverage. Cincinnati asserted that if Forrest Construction has simply advised Cincinnati that subcontractors were involved, Cincinnati probably would have agreed to provide a defense. The appellate court rejected this argument, holding that an insured has no duty to continue negotiations with its insurer once the insured receives a denial letter.

Liability insurers generally determine whether they owe a duty to defend by comparing the allegations of the underlying complaint to the terms of the insurance policy. This task can be especially difficult when the underlying complaint is vague or silent on key facts that the insurer needs to know in order to take a coverage position. The Forrest Construction decision underscores how far courts will go to construe the allegations of the complaint in favor of the insured when an insurer denies coverage and leaves its insured to defend itself. The Forrest Construction decision also highlights the importance of proactive claim handling because insurers cannot always expect their insureds to come forward with information on their own accord. In the appropriate case, an insurer should reach out to the insured for obtain more information about the underlying claim before taking a coverage position.

For more information on the issues discussed above, or any other insurance coverage questions, please contact Adam H. Fleischer,AFleischer@BatesCarey.com or Michael Passman, MPassman@BatesCarey.com.