Insurance coverage for construction defects in South Carolina: The supreme court v. the legislature

August 21, 2013

Insurance LawIn South Carolina, the state supreme court and the legislature have been locked in a battle over which branch of the government determines the scope of liability insurance coverage for construction defects. After the South Carolina Supreme Court ruled in Crossman Communities of North Carolina Inc. v. Harleysville Mut. Ins. Co., No. 26909 (Jan. 7, 2011), vacated on rehearing, 395 S.C. 40, 717 S.E.2d 589 (2011) that faulty workmanship can never be a covered “occurrence” under a commercial general liability (CGL) policy, the legislature moved swiftly to overrule the court’s decision. Senate Bill 431, enacted as Act No. 26 of the South Carolina Acts and Joint Resolutions and ratified on May 17, 2011; Harleysville Mutual Insurance Company v. the State of South Carolina, 401 S.C. 15, 736 S.E.2d 651 (2012) (unpholding prospective application of Act No. 26).

In July, the South Carolina high court fired another salvo in its ongoing battle. In Bennett & Bennett Construction v. Auto Owners Insurance Co., __ S.E.2d __, 2013 WL 3723214 (S.C., July 17, 2013), the court held that two exclusions in the standard form CGL policy remove a large swath of coverage that the South Carolina legislature thought it restored in the legislation overruling Crossman I.  Given its success in having Crossman reversed by legislative fiat, the South Carolina construction industry is likely to mount a similar challenge to Bennett.

The Supreme Court’s Opinion

The issue before the court in Bennett & Bennett was whether a brick subcontractor’s liability policy covered damage to decorative brick the insured had installed on a home. The damage did not occur until after the insured had completed the installation and sent a final invoice. During an inspection of the property, the general contractor discovered mortar and slurry dried onto the face of the brick in a few areas, and directed the insured to remedy what should have been a minor problem. The insured hired a cleaning subcontractor to clean the brick. Both the manufacturer of the brick and the general contractor had warned the insured not to use pressure washing or acid to clean the brick. Despite the warning, the cleaning subcontractor used a pressure washer and acid solution that discolored some of the bricks and removed their decorative finish.

The general contractor replaced the brick and then sued the insured and the insured’s CGL carrier to recover the cost of doing so. The trial court entered judgment for the general contractor, and the insurer appealed to the South Carolina Supreme Court.

The supreme court reversed, finding that each of two exclusions in the Auto Owners policy precluded coverage. Exclusion j(5) precludes coverage for “property damage” to

That particular part of real property on which you or any contractors or subcontractors working directly or indirectly on your behalf are performing operations, if the “property damage” arises out of those operations….

The supreme court disagreed with the trial court’s conclusion that exclusion j(5) does not apply to operations that occur after the insured’s work is completed. The court agreed with the trial court that exclusion j(5) contains a temporal limitation, just not the limitation the trial court imposed. The supreme court explained that completion of the insured’s work marks the point at which the policy’s general aggregate limits no longer apply and coverage must be sought under the policy’s completed operations provision, not the point at which exclusion j(5) no longer applies.

The supreme court focused on the phrase “performing operations” in determining the temporal limitations of exclusion j(5). Noting that the word “operations” is not defined in the policy, the court turned to dictionary definitions and concluded “that the temporal limits of the exclusion are coterminous with the performance of acts.” Accordingly, the court held that subcontractor damaged the brick while “performing operations”—cleaning the brick with a pressure washer and acid solution.

The supreme court also held that the trial court erred in relying on exclusion n, which states that the policy does not cover:

Damages claimed for any loss, cost or expense … incurred … for the … repair, replacement, adjustment, removal or disposal of … “Your work” … If such … work … is withdrawn … from use … because of a known or suspected defect, deficiency, inadequacy, or dangerous condition in it.

Previously, in Auto Owners v. Newman, 385 S.C. 187, 684 S.E.2d 541 (2009), the South Carolina Supreme Court had held exclusion n barred coverage under a CGL policy for the cost of removing and replacing defectively installed stucco because it was the insured’s work. The court likewise ruled here that the exclusion precluded coverage for replacement of the decorative brick insured subcontractor had installed. The court pointed out that homeowner chose the bricks for their aesthetic characteristics, and  M&M was forced to replace the brick face because of a deficiency in those aesthetic characteristics. Thus, the insured’s work was replaced because of a deficiency or inadequacy within the meaning of exclusion n.

My next post will analyze arguments the construction industry is likely to raise in lobbying the legislature to adopt legislation prohibiting the construction the South Carolina Supreme Court placed on the exclusionary language before it, at least in future cases.