Gilbert Tex. Construction, L.P. v. Underwriters at Lloyd's London, No. 08-0246 (Tex. June 4, 2010), see Decision
This Texas Supreme Court decision opens a whole can of worms insurance-wise, particularly in the construction industry, when a plaintiff sues a contractor for faulty workmanship, alleging only breach of contract, not negligence. The case may have little effect beyond the peculiar facts presented, but insurers will argue that the decision limits the supreme court's 2007 Lamar Homes decision, which allowed CGL coverage of some faulty construction lawsuits brought under a breach-of-contract cause of action.
Gilbert was hired by a municipal transit authority to construct a light rail system. After very heavy rains, a business adjacent to the project was flooded and sued Gilbert for negligent construction and for breach of contract. Although the plaintiff was not a party to the municipal contract, it asserted rights as a third-party beneficiary based on the following language in the contract:
The Contractor shall protect from damage all exisiting improvements and utilities (1) at or near the work site and (2) on adjacent property of a third party . . . [and] repair any damage to those facilities, including those that are property of a third party, resulting from failure to exercise reasonable care in performing the work.
Gilbert's general liability insurers (Lloyd's provided excess coverage) agreed to defend under a reservations of rights. Gilbert moved for summary judgment, and the trial court dismissed the negligence claims because Gilbert was entitled to claim the same governmental immunity enjoyed by the transit authority. Gilbert later settled the contract claim for $6.175 million. Lloyd's refused to contribute to the settlement, arguing no duty to indemnify Gilbert under the following standard exclusion, called a "contract" or "assumption of liability" exclusion:
[This insurance does not apply to] "Bodily injury" or "property damage" for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement. This exclusion does not apply to liability for damages: (1) assumed in a contract or agreement that is an "insured contract"; or (2) that the insured would have in the absence of the contract or agreement.
An "insured contract" is defined to include indemnity agreements under which the named insured assumes the tort liability of another to pay damages for bodily injury or property damage.
Lloyd's argument is simple on its face: (1) Gilbert expressly agreed to assume liability for damage to adjacent property; (2) the agreement does not meet the policy definition of an "insured contract"; and (3) absent the contract, Gilbert would have no liability because all other claims had been dismissed. Nevertheless Gilbert sued Lloyd's. The trial court granted summary judgment in favor of Gilbert, but the appellate court reversed, basically accepting Lloyd's argument that the "contract exclusion" applied.
At the time, I thought the appellate court was off base and said so in this blog ("Assumption of Liability" Exclusion Misapplied in Coverage Lawsuit). Like Gilbert, I understood that the "contract exclusion" and the "insured contract" exception applied only to indemnity agreements in contracts. I thought the appellate court failed to distinguish between an "assumption of duties" and an "assumption of liabilities," which, I argued, means the insured's assumption of another's liability, not its own.
Surprise! The Texas Supreme Court affirmed the appellate court decision, holding that Gilbert had expressly assumed the liability for the damage in question. The court noted that several other states, as well as the federal 5th Circuit Court of Appeals, had construed the "contract exclusion" narrowly, as I had. Still, some other jurisdictions had interpreted the exclusion broadly, as in this case.
So, where are we? Earlier I mentioned the Lamar Homes decision, which held that an allegation of accidental misconduct may constitute a covered "occurrence" under a liability policy, even though the plaintiff sues only under a breach-of-contract cause of action. The Gilbert court says that its decision does not disturb the Lamar Homes ruling, but certain questions remain. The two most important are: how broadly should courts interpret (1) "assumption of liability," and (2) liability the insured "would have in the absence of the contract or agreement."
Assumption of Liability.
The insurance industry will probably try to expand the Gilbert ruling to include any alleged breach of contract, putting us back in the pre-Lamar Homes days when insurers argued that only tort claims could trigger CGL coverage. In Lamar Homes, a homeowner sued his own builder for faulty construction, which the insurer argued was a breach-of-contract claim and so not covered by the policy. The insurer lost. However, may insurers now use Gilbert to argue that any breach-of-contract claim falls within the "contract exclusion"?
Let's assume that the builder's contract contains no express assumption of liability. The builder simply agrees to build such and such a structure using such and such specifications. Homeowner sues in contract for damage due to accidental yet faulty construction. Insurer refuses to defend builder under the "contract exclusion," arguing that every contract carries an implied duty to perform in a reasonable, workmanlike manner. May the "assumption of liability" be implied, or must it be stated expressly, as in Gilbert? If implied assumptions trigger the exclusion, then, insurers will argue, no breach-of-contract action can be covered. Also, from now on, insurers will flyspeck every contract for any term that might arguably constitute an assumption of liability.
Insureds might consider adding a provision to their business contracts that they assume no liabilities except those expressly assumed in the contract.
Liability in the absence of contract.
The "contract exclusion" does not apply if the insured would be liable absent the contract. Gilbert was left facing only a contract claim for arguably accidental misconduct because it was protected by governmental immunity against tort claims. Outside of government contracts, contractors don't have this defense and may be sued for negligence. But what if the plaintiff chooses to sue only in contract, even though the insured could be subject to tort liability? Is that liability the insured "would have" in the absence of the contract? Insurers will no doubt argue that an insured would have no liability for something not alleged in the complaint.
Also, are insureds compelled to raise defenses that could eliminate all tort claims and insurance coverage to boot? Defenses such as governmental immiunity and statute of limitations are affirmative defenses that the defendant may choose to waive. This potentially creates a dilemma for defense counsel who must choose between the insured's instruction to forgo a tort-killing defense and insurer's insistence to raise it.
These and many other thorny issues will no doubt be disputed hotly in months to come.
David S. White, Thompson & Knight LLP
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