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Vol. 4, Iss. 2
February 18, 2015

Construction Defect: Court’s Lesson On Drafting A “Designated Work” Exclusion

 

Liability insurers know that writing contractors can be challenging. Some just don’t. Others do -- but not without using a buffet of manuscript endorsements that are designed to manage the risk by eliminating unwanted exposures. I have written about lots of these endorsements in past issues of Coverage Opinions.

One such endorsement is a so-called “Designated Work” exclusion. It’s a simple enough concept. It provides that no coverage is owed for damages arising out of certain types of work performed by the insured, say, apartment buildings with more than x number of units or buildings over a certain height. The insurer is saying – we’ll insure you, but we just don’t have the risk appetite for certain things. And, it may be case that the insured, when applying for the insurance, stated that it didn’t do that kind of work anyway.

The interpretation of a “Designated Work” exclusion was at issue in Gemini Insurance Co. v. North American Capacity Ins. Co., No. 14-121 (D. Nev. Feb. 6, 2015), involving a demand by one insurer, Gemini, for reimbursement of defense costs from another insurer, North American, for a pedestrian construction defect claim. North American argued that it had no obligation on account of a “Designated Work” exclusion in its policy. The exclusion applied to the insured, Olsen Construction Company’s, “own work,” defined as “(1) new construction of residential units, (2) remodeling or conversion of an existing apartment, or (3) operations conducted by [Olsen] or on [Olsen’s] behalf for residential homeowners associations.”

North American argued that it had no duty to defend Olsen because the pleadings in the underlying case alleged that Olsen performed operations for a homeowner’s association. Therefore, Olsen’s conduct fell squarely within the designated work exclusion. Gemini countered that the exclusion was ambiguous because it did not clearly identify whether it referred only to conduct during the policy period [2005 to 2006], or if it also applied to work performed by Olsen before the policy went into effect. North American’s response was no, no, no: the absence of a time limitation merely indicates that the contracting parties (North American and Olsen) had no intention of including any type of time limitation in the Designated Work Exclusion.

Gemini also argued that the phrase “operations conducted by you or on your behalf for residential homeowner associations” was ambiguous because it was unclear whether it applied to Olsen, given that Olsen contracted with another company, and did not have a direct relationship with the homeowner’s association.

First, the court held that the phrase “conducted by you or on your behalf” was unambiguous as to what work is covered. However, the court also concluded that “the designated work exclusion as a whole is ambiguous with respect to the dates for which it applies, meaning that the Court must interpret the exclusion in the light most favorable to the insured. If, for example, the exclusion only applies to Olsen’s work performed during the policy period [2005 to 2006], then it does not exclude coverage for Olsen’s work between 2002 and 2003, which could have resulted in property damage during the policy period.

[The court then went on to discuss the insurers’ other debate – the applicability of a “Pre-existing Damage” exclusion. This is another of those manuscript endorsements used by insurers to manage their construction defect exposure.]

Whether North American’s “Designated Work” exclusion was limited to conduct during the policy period, or had no time limitation on it, could have probably gone either way. No doubt some courts would have ruled differently. But the take-away is this. Given the possible existence of a continuous or injury-in-fact trigger for construction defects, giving rise to an insurer’s obligation to provide coverage for damage during its policy period, on account of an insured’s prior work, it makes sense for insurers to clarify that any “Designated Work” exclusion is not limited solely to the insured’s work performed during the policy period containing the exclusion. I suspect that that it what an insurer is trying to achieve with such an exclusion.

 
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