Insurer Must Pay Liability Claim That Policyholder Assigned To a 3rd Party.

Home Owners Management Enterprises, Inc. v. Mid-Continent Cas. Co., No. 05-11370 (5th Cir. Aug. 26, 2008) see Home Owners Decision.

What happens when a policyholder's legal liability is covered by its CGL policy, but a third party has a contractual obligation to the policyholder, unrelated to the CGL insurance, and pays the judgment for the policyholder?  Can the third party recover the judgment from the insurer even though the policyholder no longer owes money on the judgment?  The answer in this case is Yes.  The U.S. Fifth Circuit Court of Appeals held that the policyholder remained legally liable for the purposes of insurance, and the insurer was still obligated to pay a covered claim.

This is a home construction defects case, which was pending when the the Texas Supreme Court ruled in Lamar Homes, Inc. v. (you guessed it) Mid-Continent Cas. Co., 242 S.W.3d 1 (Tex. 2007) that construction defects could be the result of accidental conduct, and so constitute covered "occurrences" under a CGL policy.  Presumably, insurers are bringing fewer and fewer of these type suits.

The Builder sold a house to Mr. and Mrs. Homeowner.  The sales contract included a limited warranty underwritten by Warranty Underwriter Insurance Co. (WUIC).  Homeowners discovered structural and cosmetic damages resulting from construction defects and sued WUIC and Builder.  As required under the warranty, WUIC paid an arbitration award to Homeowners. 

Here's where the plot thickens.  The warranty agreement requires Builder to indemnify WUIC for any payments under the warranty, and Builder was insured under astandard Mid-Continent CGL policy.  WUIC demanded reimbursement from builder, and Builder ended up assigning to WUIC Builder's rights under the CGL policy.

Builder early on had submitted a claim for defense and indemnity to Mid-Continent, who denied the claim mostly for reasons removed by the Lamar Homes decision.  After WUIC paid the award, it sued Mid-Continent, who again denied coverage but this time based on this argument:

Even if Builder's faulty construction was covered under the policy, Builder no longer owes anything to Homeowners and so no longer has legal liability.  The policy covers only the insured's legal liability.  Therefore, Mid-Continent's obligation under the policy was extinguished when WUIC paid the award on behalf of Builder.

The court said it was "not impressed with the argument."  The policy did not specify to whom the insured was legally liable, and Builder remained liable for its conduct.  It made no difference for coverage purposes that Builder's liability was now owed to WUIC, not Homeowners.  WUIC was entitled to step into Builder's shoes and enforce its claim for reimbursement to Mid-Continent.