Under Washington law, it is conventional wisdom that a carrier should defend the insured under a reservation of rights and file a declaratory judgment action. Coverage by estoppel, or losing the right to challenge coverage if the duty to defend is unreasonably denied, plus other penalties Washington’s punitive extra-contractual scheme imposes, are why carriers usually should defend under a reservation of rights and file a declaratory judgment action. But a recent case from Washington’s federal court demonstrates that—under the right facts—a liability insurer may still deny the duty to defend without defending under a reservation of rights and filing a declaratory action.
In Chase Constr. North West, Inc. v. AIX Specialty Ins. Co., AIX issued a CGL policy to Chase Construction, a contractor. AIX’s policy excluded: “‘property damage’ … arising from any work … in connection with any condominium.” This exclusion, however, does not apply to repair or remodel work done on individual condominium units, if this work is done under a contract with the individual unit’s owner. Chase Constr. North West, Inc. v. AIX Specialty Ins. Co., No. C15-19, 2015 WL 12001272, *2 (W.D. Wash. June 23, 2015), aff’d, No. 15-35591, 2018 WL 882467 (9th Cir. February 23, 2018).
Condominium or multi-unit exclusions, like AIX’s, are increasingly seen in commercial liability policies issued to contractors. CGL policies are not supposed to insure a contractor’s poor workmanship. Over the decades, case law and changes in policy language have eroded this understanding of CGL coverage. As a result, insurers began excluding liability coverage for a class of risk rather than a type of damage. Instead of only excluding property damage to the insured’s work product, exclusions like AIX’s preclude liability coverage if the insured works on projects outside the risk the policy was intended to cover. Hence, a CGL policy with a condominium or multi-unit exclusion, similar to AIX’s, would be appropriate for, and priced accordingly, a contractor specializing in smaller residential projects. This language excludes coverage for more expensive commercial liability arising from construction defects to a multi-unit project. Therefore, if the insured contractor is sued for botching a kitchen remodel it did for an individual condominium unit owner, the exclusion would not apply. The exclusion would apply if the insured is sued for botching the replacement of the roofs on two buildings within the condominium complex, which is what happened here.
In the underlying defense suit in Chase Constr., the Oakbrook Country Club Condominium Association sued Chase Construction for defectively replacing the roofs on two condominium buildings that contain numerous residential condominium units. Rather than defending Chase Construction under a reservation of rights and filing a declaratory judgment action, AIX carefully explained in a denial letter that its policy excludes liability for : “‘property damage’ … arising from any work … in connection with any condominium.” Thus, AIX denied any duty to defend or indemnify Chase Construction.
Chase Construction sued AIX, alleging it wrongly denied liability coverage. It also alleged AIX was liable for bad faith or extra-contractual damages.
In summary judgment motions, Chase Construction argued the exception for work on a single condominium unit is ambiguous. Chase Construction focused on the word “unit.” Relying on a dictionary defining “unit” as “any group of things or persons regarded as an entity,” Chase Construction argued that each of the buildings with the roofs it worked on—which the complaint alleged contain multiple residential condominium units—could be a “unit” just as an individual condominium could be a unit. Hence the exclusion is ambiguous because unit can be understood to mean one housing unit or a building containing more than one individual housing units. AIX argued dictionaries define unit in many ways. Chase Construction chose the one definition of unit that suited its argument, but it ignored the context of how the word unit is used in the policy and proposed an unreasonable construction of AIX’s exclusion.
Granting summary judgment in favor of AIX, western Washington’s federal court dismissed all coverage and extra-contractual claims, including those brought under Washington’s Insurance Fair Conduct Act (“IFCA”). The court concluded “no sensible insured” would interpret the exclusion as argued by Chase Construction. Chase Constr., 2015 WL 12001272 at *4. Holding that AIX’s exclusion is unambiguous, the Ninth Circuit Court of Appeals affirmed. 2018 WL 882467 at *2.
Most of the time, Washington insurers should defend under a reservation of rights and file a declaratory judgment action to avoid penalties, such as coverage by estoppel. Chase Constr. demonstrates that—under the rights facts—the duty to defend can still be denied in good faith, without the expense of defending under a reservation of rights and suing the insured in a declaratory action – Mark Mills
