A Tale of Two Provinces … No Longer

Provinces frequently vary in their approaches to legal issues. But it is rare in the world of Canadian insurance law for two Canadian provinces to express diametrically opposed views over the interpretation of identical provisions of a widely used liability insurance policy such as the commercial general liability (CGL) policy. However, until the Supreme Court of Canada released its decision in Progressive Homes Ltd. v. Lombard General Insurance Company of Canada on Sept. 23, 2010, this very situation existed in Canada concerning the coverage available for contractors under the CGL policy for construction deficiency claims. The appellate courts of British Columbia and Ontario held polar opposite views over the entitlement of contractors to coverage for defects in their work, particularly in circumstances in which subcon- tractors performed portions of such work on behalf of the contractor.

B.C., ONTARIO AND THE CGL

In British Columbia, perhaps due to the prevalence of leaky condo litigation in the province, judges had enforced the perceived “intention” of the CGL policy to exclude coverage for the defective work of the insured. It was assumed as common ground that a CGL policy was not intended to provide a warranty for a contractor’s shoddy construction. This approach was highlighted in the Supreme Court’s decision in Swagger Construction Ltd. v ING Insurance Co. of Canada. In Swagger, the court found ING owed no duty to defend a contractor against numerous allegations of construction deficiencies by the University of British Columbia in a building constructed by Swagger. Although the court relied on other grounds as well, it found against coverage primarily on the basis that faulty construction does not qualify as an “occurrence,” as it is not accidental.

Ontario courts have taken the polar opposite approach, finding in favour of coverage. This was highlighted in the Ontario Court of Appeal’s decision in Bridgewood Building Corp. (Riverfield) v. Lombard General Insurance Co. of Canada (2006). A housing developer, Bridgewood, supplied homes with defective concrete supplied by a subcontractor. Both levels of Ontario courts found Lombard owed a duty to defend, since the defects in the foundations constituted “property damage” and such damage was caused by an “occurrence.” Furthermore, the courts found, the CGL policy’s “work performed” exclusion as it applied to completed operations was inapplicable: the exclusion specifically excepted work a subcontractor performed on the insured’s behalf.

To understand the basic coverage issues at play, one must start with the basic principle that CGL policies are triggered by the damage resulting from a negligent act, and not the negligent act itself. In order to fall within coverage, there must be “property damage” alleged. Such damage must be caused by an “occurrence,” defined in the policy as an accident. If these conditions are met, the damage would fall within the policy’s insuring agreement. The question then becomes the applicability of the CGL policy’s various “work performed” exclusions. Since most damage in the construction context occurs after the contractors have left the site, coverage is provided — or excluded, depending on how one looks at it — by the “completed-operations hazard.” The coverage provides as follows, based on the following advisory wording in IBC Form 2100: “This insurance does not apply to: ‘property damage’ to ‘your work’ arising out of it or any part of it and included in the ‘products completed operations hazard.'”

This exclusion does not apply if the damaged work, or the work out of which the damage arises, was performed on your behalf by a subcontractor.

PROGRESSIVE HOMES: BACKGROUND

In Progressive Homes, B.C. Housing sued Progressive as a result of defects in a housing complex Progressive constructed, seeking a defence and indemnity from its CGL carrier, Lombard. Lombard denied coverage. The matter ended up before the B.C. Supreme Court and, subsequently, the B.C. Court of Appeal. The Swagger approach was already part of the fabric of B.C. law, and so the court in each case simply followed suit in deciding Progressive Homes. Both the B.C. Supreme Court and the B.C. Court of Appeal supported Lombard’s denial, holding that damage resulting from faulty workmanship cannot be considered fortuitous or accidental and therefore does not qualify as an “occurrence.” The court agreed the subcontractor exception in the “work performed” exclusion might have some application if the work was performed for the insured by a subcontractor, but the court felt that coverage would exist only if a distinct item was installed by a subcontractor — such as a loss caused by an exploding boiler, for example.

Progressive sought leave to appeal to the Supreme Court of Canada. Presumably given the diametrically opposed approaches in Ontario and British Columbia, the court agreed to hear the appeal. Ultimately, and in a move that came as a surprise to few commentators outside of British Columbia, the court adopted the Ontario approach.

THE SUPREME COURT’S DECISION

The Supreme Court rejected Lombard’s position that the phrase “property damage” necessarily excludes damage to the insured’s own defective construction. Nothing in the policy drew a distinction between damage to the insured’s work and resulting damage to third party property, the court found. In fact, such an interpretation, if accepted, would render the “your work” exclusion meaningless, since the insured’s own work would never fall within the insuring agreement in the first place and therefore need not be excluded.

Next, the Supreme Court held faulty workmanship can constitute an “occurrence,” depending on the factual circumstances. An “occurrence” only requires the result be unexpected or unintended from the standpoint of the insured. Since no one made any allegations that Progressive’s construction defects were intentional or expected, the allegations qualified as an “occurrence.”

Finally, the Supreme Court addressed the potential application of the policy’s “work performed” exclusion. Various forms of the exclusion appeared in the numerous Lombard policy forms at issue, given the multiple years of exposure. But the court unanimously held none of the various versions of the exclusion applied when the subcontractor performed the impugned work on behalf of the insured or when the damage was solely to work performed by a subcontractor. In the end, the court held Lombard owed Progressive a duty to defend.

Beyond B.C.’s borders, the Supreme Court’s finding that defective construction qualifies as “property damage” will be significant. The court did note, however, that such defects are required to be physical in nature and may have to be visible or apparent. It is also safe to say a duty to defend will likely be owed to a contractor in circumstances in which the subcontractor performed any of the impugned work.

Of greater concern should be the Supreme Court’s acceptance of the notion that an insured’s “work” can be divided into component parts when the language in the “work performed” exclusion uses the phrase “that particular part” of the insured’s work. The court hinted there might well be coverage for the non-defective components of the insured’s own work when such language is used.

For example, assume a general contractor builds a home. The house is sound, but the windows were installed poorly and leak. If the “work performed” exclusion excludes only “that particular part” of the insured’s work that is defective, the CGL carrier might well be on the hook to repair all of the damage to the home except the defective windows. I would suggest few Canadian courts would have found coverage in such a scenario prior to Progressive Homes.

The insurance industry is now left to ponder the future and must consider its options. In doing so, it must share some blame. Historically, i t has been widely accepted the CGL is far from the ideal policy form for contractor-related liabilities. Nevertheless, there seems to have been no general momentum away from its ongoing use.

Discussion of any policy revisions will no doubt take time. But the immediate concern for insurers with open construction matters in B.C. where a defence had been denied is the likelihood that many insureds will now seek recovery for the amounts spent defending such actions. The insured can generally seek recovery of defence costs incurred by it right up to the date of settlement or judgment and, depending on limitation issues, for some period of time thereafter.

Moving forward, and to the extent insurers are unprepared to accept the often dramatic cost of defending large-scale construction defect cases, the only option would seem to be a change in the policy language or the use of a more appropriate contractor’s liability policy. Insurers will also have to prepare for the application of the Progressive Homes in non-construction related contexts, as the principles from the decision are not limited to construction.

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The Supreme Court rejected Lombard’s position that the phrase “property damage” necessarily excludes damage to the insured’s own defective construction. Nothing in the policy drew a distinction between damage to the insured’s work and resulting damage to third party property, Canada’s highest court found.

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In British Columbia, perhaps due to the prevalence of leaky condo litigation, judges had enforced the perceived ‘intention’ of the CGL policy to exclude coverage for the defective work of the insured. It was assumed as common ground that a CGL policy was not intended to provide a warranty for a contractor’s shoddy construction. Ontario courts have taken the polar opposite approach, finding in favour of coverage.

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The immediate concern for insurers with open construction matters in B.C. where a defence has been denied is the likelihood that many insureds will now seek recovery for the amounts spent defending such actions.

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The insurance industry is now left to ponder its options. In doing so, it must share some blame. Historically, it has been widely accepted the CGL is far from the ideal policy form for contractor-related liabilities.