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Vol. 6, Iss. 5
May 17, 2017

Insurer Loses Interesting And First Impression Montrose Endorsement Case

I’ve been saying this for a while. In general, insurers have had mixed results in construction defect cases when it comes to enforcing the Montrose (known loss) endorsement. Some courts have interpreted them narrowly and applied a strict “sameness” test (my term) between the “property damage” that existed pre-policy inception date and that which took place during the policy period, for which coverage was being sought. Further, it is the “property damage” itself that must be known by the insured prior to the policy period and not the cause of the “property damage.” You could put it this way – if it looks like a mallard duck, and quacks like a mallard duck, it’s only a mallard duck and not a perching duck. [Of course, construction defect cases are not what ISO had in mind when it put pen to paper on the Montrose endorsement.]

In Alkemade v. Quanta Indemnity Co., No. 14-35605 (9th Cir. Apr. 20, 2017), the insurer failed in its effort to exclude coverage based on a Montrose Endorsement. And, as in other cases with the same result, the court reasoned that the “property damage” that existed pre-policy inception date, and that which took place during the policy period, for which coverage was being sought, was not sufficiently the same. Further, the court concluded that knowledge of the risk of property damage is not the same as knowledge of property damage.

Meltebeke Built Paradise Homes, Inc. sold a new home to the Alkemades. It had an inadequate crushed rock foundation that sat atop expansive soils. For nine years, the Alkemades’ home suffered extensive structural damage. Eventually, Meltebeke repaired all existing damage and hired an engineering firm to install a helical pier foundation. Nobody disputed that the helical piers would have prevented any future damage to the Alkemades’ home had they been installed correctly. However, they were not. As a result, the Alkemades’ home suffered the same type of structural damage. The Alkemades sued for the damage caused by Meltebeke’s negligent supervision of the helical pier installation.

Two of Meltebeke’s insurers refused to defend Meltebeke, arguing that, based on the Montrose Endorsement, Meltebeke’s knowledge of the damage, caused by the original, defective construction, prevented coverage.

Following a settlement and assignment between the Alkemades and Meltebeke, the Alkemades sued Meltebeke’s insurers. The insurers prevailed before the Oregon District Court: “Meltebeke’s knowledge prior to the policy period of expanding soils, which caused structural damage . . . , means Meltebeke knew of a risk of property damage from expanding soils prior the policy periods. . . . The same type of structural property damage, from the same danger Meltebeke knew of - and attempted unsuccessfully to address - for 10 years prior to the policy period, necessarily means that according to the terms of the policy, Meltebeke knew of the property damage prior to the policy period.”

However, the Ninth Circuit -- calling the case one of first impression in Oregon -- reversed, holding that damage sustained because of a negligent repair is not a continuation, change or resumption of the original property damage. Hence, Meltebeke did not have the requisite knowledge of property damage, before the policy period, to preclude coverage under the Montrose Endorsement.

To be sure, the court noted that it was applying a “low bar” to the Alkemades’ task: they simply needed to establish that their interpretation of the Montrose endorsement was plausible and reasonable. The court concluded that it was.

The court reached this conclusion for a few reasons:

“[W]ithin the context of the known damages provision, words of limitation are used to assess whether ‘the . . . ‘property damage’’at issue was a ‘continuation, change or resumption’ of ‘such . . . ‘property damage’’ previously known. Use of the definite article ‘particularizes the subject which it precedes’ and indicates that the claimed damage must be the same as the known damage,’ i.e., that ‘the claimed damage must be related to the known damage.’ The Alkemades’ interpretation is reasonable because it requires a causal relatedness between the previously known damage and the damage at issue.”

“[T]he Alkemades’ interpretation avoids reading new terms into the policy. Under the interpretation adopted by the district court, Meltebeke’s knowledge of ‘a risk of property damage’ meant Meltebeke ‘knew of the property damage prior to the policy period.’ But the known damages provision does not say knowledge of a ‘risk’ prevents coverage. The plain language says knowledge of ‘property damage’ prevents coverage.”

“[T]he Alkemades’ interpretation fits with Oregon’s right to repair statutes and others mandating insurance coverage for contractors. Property owners in Oregon are not allowed to commence legal action related to construction defects against a contractor unless the property owner has notified the contractor of the mistake and given him or her an opportunity to propose a solution. See Or. Rev. Stat. §§ 701.565, 701.570(5)(c)(A), 701.580. Contractors must also carry insurance for this work. See id. § 701.073(1). Under Quanta’s or GFIC’s interpretation, any repair contractor’s knowledge of the conditions that led to the need for a failed repair would preclude coverage. But repair contractors must know of the damage they are asked to repair. Under Quanta’s or GFIC's interpretation, such a contractor’s knowledge of the previous property damage would preclude coverage for a later negligent act even though that contractor would not have been liable for the previous damage.”

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