Construction Defects and Insurance Claims

Investigation of the Construction Defect Claim

Construction defect suits are now flooding the courts of North America in greater numbers every year. Construction Defects and Insurance is a series of books available at Amazon.com designed to help the property owner, builder, construction professional, insurer, insurance professional, construction defect plaintiffs’ lawyer, construction defect defense lawyer, and those who support them faced with construction defect issues to effectively avoid or resolve claims of such defects. It covers identification of construction defects, and explains how to insure, investigate, prosecute, or defend litigation that results from claims of construction defect.

Construction Defects and Insurance addresses a wide audience about this escalating, expensive and excessive problem that makes it hazardous to build any structure without sufficient and broad insurance protection. The attorney representing a defendant or plaintiff in a construction defect suit will find this manual a useful resource to help counsel understand the claims of multiple parties, insurers, and experts involved. The party against whom a claim is being made will find this manual valuable in efforts to use the insurance protection for which the  party paid. The uninsured or underinsured will also find this manual a resource that will help the party and his/her/or its attorneys assert appropriate defenses that may avoid a major money judgment.  If the property has construction defects this manual will serve as a practical tool to help evaluate the facts and determine whether counsel is required to protect the rights of the owner, occupier, lessor or lessee of the property.

The majority of construction defect suits and appellate decisions arise in a few litigious jurisdictions but are spreading across the country like Kudzu.[1] The courts of Texas, Florida, New York, Colorado, and California have generated a great deal of the law on the subject that is then applied or adopted by other states whose courts have not seen the same volume of construction defects litigation. The author has attempted to obtain and cite authorities from across North America to be as helpful as possible to the wide audience this book is designed to serve.

Appendices including forms, checklists, and samples are provided to assist in the prosecution or defense of a construction defect case.

What Is Involved?

All buildings have an expected life span. None, except Egyptian Pyramids, were designed to last eons. Yet, even the pyramids in Egypt will erode to a mound of sand given enough time, wind, water and the movement of tectonic plates. Their demise will be an expected result of age and erosion rather than a construction defect. Venerable, well constructed, structures seldom fail because of their advanced age. Usually, they are torn down and replaced with new structures before they have time to waste away.

Regardless of the methods or materials used, all structures can fail before the end of their useful life. Such a failure can cause damage to people or property. The failure of a component part of a structure that causes damage to a person or property can be considered a construction defect. If the component was not installed correctly, was not appropriate for the structure, or was defectively constructed, the manufacturer, seller, and/or installer of the component may be held responsible for the damages caused.

When structures fail, the damages can include, among other things:

  • a total collapse of the structure and injury to its occupants;
  • an inability to keep rain water out of the structure;
  • cracking, settling, or subsidence of concrete flatwork;
  • cracking, settling, or tilting of walls;
  • doors that do not fit;
  • windows that do not operate;
  • walls out of plumb;
  • walls, doors, and windows that leak;
  • foundations that settle, crack, or subside as a result of subsidence or hydroconsolidation of the soils on which the foundation is placed;
  • mold growth on floors, walls, and ceilings;
  • acidic emissions from Chinese-manufactured drywall; or
  • damage to the property or persons of third parties.

Who is Involved?

Construction defect claims and suits are proliferating. Courts across North America are overflowing with multi-party lawsuits brought by condominium associations, Canadian Strata Organizations, owners of tract homes, and commercial property owners. As construction defect claims proliferate it has become increasingly likely that most people will either pursue or defend a construction defect claim at some point in their lifetime.

The dollars involved in construction defect litigation have grown exponentially. If a problem exists in a multiple unit condominium association or a housing tract, minor repairs of the defects multiply over the various units to millions of dollars. In addition, the complexity of a construction defect suit usually results in hundreds of hours of work for attorneys, the need for separate counsel for each party defendant like the owner, architect, general contractor and each subcontractor. The attorneys fees generated in such a case with multiple parties are high and settlements and judgments are often extremely large.

The targets of construction defect litigation are many and varied. Construction defect claims can be presented to any of the following:

  • property owners,
  • builders and contractors,
  • buyers,
  • sellers,
  • part manufacturers,
  • suppliers of materials used in original construction or repairs,
  • designers,
  • property managers,
  • architects,
  • engineers,
  • geotechnical engineers and geologists,
  • surveyors,
  • subcontractors,
  • real estate inspectors,
  • real estate brokers and sales people, or
  • real estate investors or developers.

Property Owners

The property owner who is faced with any of the construction defects detailed in Chapter I-5 has several avenues of recourse based upon legal remedies available in the U.S. The remedies available to a person who has been damaged by a construction defect are described by the legal concepts explained below.

Negligence

Negligence has the same definitions regardless of the state where it is alleged. It has been defined as: “a legal duty owed to the Plaintiff by the Defendant; a breach of that duty; an actual injury to the Plaintiff; and a showing that the breach was a proximate cause of the injury.”[2] “A breach of duty exists when it is foreseeable that one’s conduct may likely injure the person to whom the duty is owed.”[3]

The California Supreme Court upheld a judgment for property damage caused by negligent residential construction in Sabella v. Wisler, 59 Cal.2d 21, 27-30 (1963). The defendant had built a house and offered it for sale to the general public. As it turned out, the defendant’s negligent preparation of the lot, in combination with a subcontractor’s careless plumbing work, later caused leaks, subsidence, and damage to the house. The purchasers sued for negligence. The builder, arguing unsuccessfully against the imposition of tort liability, held that “the liability of a contractor should be determined by the consideration and weighing of the various factors bearing upon liability.” It was held that the builder was responsible for the ensuing damage.

The Nevada Supreme Court, in answer to a question posed by a federal district court, concluded that, in a commercial property construction defect action in which the plaintiffs seek to recover purely economic losses through negligence-based claims, the economic loss doctrine applies to bar such claims against design professionals who have provided professional services in the commercial property development or improvement process.[4]

Formerly, once a builder had completed a structure and the purchaser had accepted it, the builder was not liable to a third party for damages suffered because of the work’s condition, even if the builder was negligent.[5] The purchaser had remedies against the builder in contract and warranty. Injured third parties had no clear remedy until the Supreme Court, following the trend that began with MacPherson v. Buick Motor Co., 111 N.E. 1050 (N.Y. 1916), qualified the general rule exonerating manufacturers from third party claims with an exception applicable whenever “the nature of a [manufactured] thing is such that it is reasonably certain to place life and limb in peril when negligently made.”[6] The Supreme Court had already held that the manufacturers of defective ladders, elevators, and tires could be liable to persons not in contractual privity with them yet foreseeably injured by their products; the Supreme Court had no trouble applying the same rule to someone responsible for a defective railing in Hale v. Depaoli (1948) 33 C2d 228.

On the other hand, in Arizona, the Court of Appeal in Carstens v. City of Phoenix, 75 P.3d 1081, 206 Ariz. 123 (Ariz. App.Div.1 09/09/2003) refused to allow plaintiffs to sue the building inspectors for negligence because there was no bodily injury or property damage suffered. The Court of Appeal justified its holding by expounding on the history of the legal theories requiring actual damage:

In Arizona, it is well-established that a homeowner may not recover in tort against a contractor for economic losses attributable to defective construction when the negligence has not caused personal injury or damage to property other than the defective structure itself. Our Supreme Court first recognized the applicability of the economic loss rule in construction defect litigation in Woodward v. Chirco Constr. Co., 141 Ariz. 514, 687 P.2d 1269 (1984). In Woodward, homeowners sued the builder of their house for both breach of the implied warranty of workmanlike performance and habitability and negligence after large cracks developed in the house walls and foundation, the fireplace separated from the wall, a family room wall shifted forward, the kitchen ceiling began to bow, and the floor warped. … On appeal, this court affirmed the dismissal of the negligence claim, but reversed the court’s ruling on the implied warranty claim because the six-year statute of limitation on that claim had not expired.

A plumbing contractor had a general duty under tort law, separate from any contractually assumed obligation, to exercise reasonable care in any work undertaken, including taking precautions to avoid dangerous gas explosions.[7]

In a California case, a contractor who was renovating the insureds’ bathroom accidentally drove a nail through a pipe while hanging new drywall. The nail caused no leak at the time and went unnoticed until years later, when corrosion around the nail caused a leak as well as extensive water and mold damage. The insurer denied coverage on the ground that damage arising from third-party negligence was excluded whenever it interacted with an excluded peril, including corrosion or leakage of water. The insureds filed suit, arguing that the contractor’s negligence in driving the nail through the pipe was a covered peril and was the efficient proximate cause of their loss. Under the efficient proximate cause doctrine, when a loss is caused by a combination of covered and excluded risks, the loss is covered if the covered risk was the efficient proximate cause of the loss. On appeal, the court noted that the efficient proximate cause doctrine was superseded by the California Supreme Court’s analysis in Julian v. Hartford Underwriters Ins. Co., 110 P.3d 90 (Cal. 2005). In Julian, the court held that an insurer is not prohibited from drafting and enforcing policy provisions that provide coverage for some, but not all, manifestations of a particular peril. The court held that the homeowners policy effectively excluded coverage for consequential damage arising from a contractor’s negligence (a covered peril) whenever it interacted with an excluded peril, such as corrosion or water leakage.[8]

When a loss was not excluded under the policy, coverage exists under the ensuing loss provision because there is no rule of law excluding coverage under an efficient proximate cause analysis, and the insurer is precluded from changing the ground for its denial of coverage, there is no basis for a jury to determine the efficient proximate cause of the loss. The dispositive question in analyzing ensuing loss clauses is whether the loss that ensues from the excluded event is covered or excluded. If the ensuing loss is also an excluded peril or an excluded loss under the policy, there is no coverage. But if the policy covers the peril or loss that results from the excluded event, then the ensuing loss clause provides coverage.[9]

Strict Products Liability

Strict products liability is a tort concept that is different than the tort of negligence by judicial fiat, eliminating the element of duty. To prove a manufacturer of a product is strictly liable, all that the plaintiff need prove is that the product was manufactured by the defendant, that the product was defective, and that the defect was the proximate or legal cause of the damage. By eliminating the obligation of the plaintiff to prove the duty to protect against harm, which is assumed to exist whenever a product is manufactured, the individual plaintiff—who does not have the power of a manufacturer—is placed on an equal footing with the manufacturer and has a better chance to recover for injuries.

California was the first state to embrace the doctrine of strict products liability in Greenman v. Yuba Power Products, Inc., 59 Cal.2d 57 (1963). In Kriegler v. Eichler Homes, Inc., 269 Cal. App.2d 224, 74 Cal.Rptr. 749 (1969), the Court of Appeals applied the new tort to mass-produced homes, reasoning that in “today’s society, there are no meaningful distinctions between [the] mass production and sale of homes and the mass production and sale of automobiles and that the pertinent overriding policy considerations are the same.” The relevant policy considerations, the Kriegler court explained, were the average homebuyer’s reliance on the builder’s skill and implied representations of fitness, and the public interest in assigning the cost of foreseeable injuries to the developer who created the danger. Since Kriegler, owners of mass-produced homes have been able to sue the builders under the doctrine of strict products liability, thereby avoiding the need to prove that the builder had a duty to protect the homeowner against loss. The basic requirement for strict product liability is that one who sells or leases a defective product which is dangerous to the user or consumer or to his property is subject to liability for physical harm caused by the defective product to the ultimate user or consumer, or to his property, if the seller or lessor is engaged in the business of selling or leasing such product, and the product is expected to and does reach the user or consumer without substantial change in its condition after it is sold or leased.[10]Over time, the concept of recoverable physical injury or property damage expanded to include damage to one part of a product caused by another, defective part. Examples include cases in which poorly prepared lots subsided, damaging the houses built thereon.[11] To date the theory of strict liability has only been extended to a defendant developer/contractor that is a mass producer of residential housing units. None of the cases have specified the number of housing units required to deem a builder a mass-producer of residential housing for purposes of imposing strict liability.[12]

Plaintiffs, attempting to go further, sought damages from a developer who had failed to properly install shear walls in dwellings and exposed the dwellings to future damage from wind or earthquake. None of the dwellings had yet been damaged, but the plaintiffs claimed the damage would certainly occur in the future.

The California Supreme Court explained in Aas v. Superior Court of San Diego County, 24 Cal.4th 627, 12 P.3d 1125, 101 Cal.Rptr.2d 718 (Cal. 2000), why it refused to decide that homeowners and a homeowners’ association might recover speculative damages in negligence from the developer, contractor, and subcontractors. Applying what the Supreme Court called “settled law,” it limited the recovery to economic losses in tort actions. It concluded:

Home buyers in California already enjoy protection under contract and warranty law for enforcement of builders’ and sellers’ obligations; under the law of negligence and strict liability for acts and omissions that cause property damage or personal injury; under the law of fraud for misrepresentations about the property’s condition; and an exceptionally long 10-year statute of limitations for latent construction defects (Civil Code, § 337.15). While the Legislature may add whatever additional protections it deems appropriate, the facts of this case do not present a sufficiently compelling reason to preempt the legislative process with a judicially created rule of tort liability.

Breach of Contract

Owners may sue the builder or developer and the builder or developer may sue the owners under theories based upon breach of the original construction contract. When any party to the contract fails to comply with any obligation set forth in the purchase and sale documentation, and the escrow instructions. Typically, this is something that goes beyond a failure of the builder to build the project in accordance with the plans and specifications.

In Whitecotton v. Silverlake Homes, L.L.C., 2009 WL 2045224 (Tex. App.—Beaumont March 2,Page 9 2009, no pet.) (Tex. App. Dist.9 07/16/2009), the Texas Court of Appeal found that the trial court reasonably concluded the plaintiffs, who refused to allow the contractor to repair, did not prove a failure by the defendant to perform the contract without legal excuse, or prove that any damages were a result of defendant’s breach. Whenever a builder is sued for breach of contract, it is essential that the plaintiff has evidence that the contract was breached.

When such claims are made, courts often invoke the doctrine of substantial performance, which typically provides that the builder be required to pay the contract price with the deduction for the reduced market value of the home/unit, caused by the failure of the builder to strictly comply with the plans and specifications.[13]

Breach of Express Warranty

Similar to breach of contract theories, the purchase documentation between the developer and the homeowner often expresses warranties regarding the condition of the property. If there is an issue as to breach of an express warranty, the principles of contract law apply and the party harmed is entitled to damages necessary to fulfill the contract.

Breach of Implied Warranty

Courts hold builders and sellers of new construction to an implied promise that the completed structure was designed and constructed in a reasonable and workmanlike manner. A builder or seller of real property is subject to the theory that a home built for sale to the public is intended to be used for a specific purpose. Privity of contract, that is actual contact between the person harmed and the defendant, is not always required under this particular theory of liability.[14]

Fraud

Homeowners who sue because of construction defects often allege fraud on the grounds that the developer intentionally misrepresented the quality of construction in advertisements or other representations made at the time of sale. For example, the allegations may include a claim that the developer had no intention of following certain design specifications or providing the promised quality and materials.

Fraud generally requires an intentional misrepresentation of a material fact or the intentional concealment of a material fact, which causes the other party to  act to their detriment as a result of the misrepresentation or concealment.

If fraud can be proved damages include all available tort damages and may often include punitive or exemplary damages.Claims of fraud or other forms of intentional conduct carry with them difficult insurance issues since intentional acts are universally excluded from liability insurance policies and many states make insurance for fraud against the public policy of the state.

Negligent Misrepresentation

Negligent misrepresentation is an assertion of a fact that is not true, by one who has no reasonable ground for believing it to be true. Typically, whenever claims of fraud or intentional misrepresentation are pleaded, lesser offenses such as negligent misrepresentation are usually included as one of many causes of action alleged in the construction defect suit. Even when the misrepresentation is only negligent, rather than intentional, if the plaintiff honestly relied upon the misrepresentation to his detriment, the plaintiff will be entitled to tort damages for the misrepresentation.

Breach of Fiduciary Duty

When a condominium or Strata Association is first constructed, the directors and officers of the initial association are employees or officers of the developer until the units are sold to members of the public who take over the control of the homeowners’ association.

A developer and its employees may be liable to a condominium or Strata homeowners’ association for actions taken by some or all of the members of the governing board, when the board is controlled by developer employees. This is generally the case during initial construction and until the common areas have been accepted by the association.[15]

Directors of homeowners’ associations have become increasingly frequent targets of construction defect claims based upon alleged breaches of fiduciary duty during their term of responsibility. The standard of care is usually referred to as the business judgment rule. The rule shields homeowner association directors from liability for mistakes in business judgments that are made in good faith and believed to be in the best interest of the corporation. For example, the California Corporations Code provides, in part:

(a) A director shall perform the duties of a director, including duties as a member of any committee of the board upon which the director may serve, in good faith, in a manner such director believes to be in the best interests of the corporation and its shareholders and with such care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances. (b) In performing the duties of a director, a director shall be entitled to rely on information, opinions, reports or statements, including financial statements and other financial data, in each case prepared or presented by any of the following: (1) One or more officers or employees of the corporation whom the director believes to be reliable and competent in the matters presented. (2) Counsel, independent accountants or other persons as to matters which the director believes to be within such person’s professional or expert competence. (3) A committee of the board upon which the director does not serve, as to matters within its designated authority, which committee the director believes to merit confidence, so long as, in any such case, the director acts in good faith, after reasonable inquiry when the need therefore is indicated by the circumstances and without knowledge that would cause such reliance to be unwarranted. (c) A person who performs the duties of a director in accordance with subdivisions (a) and (b) shall have no liability based upon any alleged failure to discharge the person’s obligations as a director. (Emphasis added.)[16]

Before beginning the prosecution or defense of a construction defect suit it is imperative that a thorough investigation be completed to determine which of the various theories of liability are available and what defenses can be asserted to those theories.

It is within the province of the trier of fact to determine after hearing the evidence whether a fiduciary duty exists between the parties based on a position of trust, for the material breach of which the victim was defrauded of the entitlement to honest services by the defendants. “Fiduciary” does not mean a “formal, or classic, fiduciary duty.” Rather a fiduciary duty is not limited to a formal “fiduciary” relationship well-known in the law, but also extends to a trusting relationship in which one party acts for the benefit of another and induces the trusting party to relax the care and vigilance which it would ordinarily exercise. [17] This interpretation of fiduciary duty for the purposes of the criminal law can also expose builders, contractors, sub-contractors, owners and designers to damage for breach of fiduciary duty.

ENDNOTES

[1] Kudzu spreads by vegetative expansion and by seeds, which are contained in pods and mature in the autumn. It spreads rapidly and is difficult to eradicate. When left uncontrolled will eventually grow over almost any fixed object in its proximity including other vegetation.

[2]               Bartley v. Euclid, 158 F.3d 261 (5th Cir. 11/03/1998); Morris v. Wal-Mart Stores, Inc., 330 F.3d 854, 2003 Fed.App. 0175 (6th Cir. 06/04/2003).

[3]               Horne v. Beason, 331 S.E.2d 342, 344 (S.C. 1985; Vinson v. Hartley, 477 S.E.2d 715, 720 (S.C. Ct. App. 1996).

[4]               Terracon Consultants Western, Inc. v. Mandalay Resort Group, 206 P.3d 81 (Nev. 03/26/2009).

[5]               Fanjoy v. Seales, 29 Cal. 243, 249-250 and Hale v. Depaoli (1948) 33 Cal.2d 228, 230–232 (1865).

[6]               Kalash v. Los Angeles Ladder Co., 1 Cal.2d 229, 231-232 (1934).

[7]       Valley Forge Insurance Co. v. Sam’s Plumbing, LLC, 207 P.3d 765, 220 Ariz. 512 (Ariz. App.Div.2 03/19/2009) U.S. Fid. & Guar. Co. v. Davis, 3 Ariz. App. 259, 263, 413 P.2d 590, 594 (1966).

[8] Freedman v. State Farm Insurance Co., 93 Cal.Rptr.3d 296, 173 Cal. App.4th 957 (Cal. App. Dist.2 05/05/2009).

[9] Vision One, LLC; and Vision Tacoma, Inc v. Philadelphia Indemnity Insurance Company, and RSUI, 276 P.3d 300, 2012.WA.0000622< http://www.versuslaw.com, (Wash. 05/17/2012)

[10]  Rosalinda Iturralde, Individually and In Her Capacity As Personal v. Hilo Medical Center, A Hawaii Non-Profit Corporation, No. 28792, 2012.HI.0000204< http://www.versuslaw.com> (Haw.App. 03/30/2012)

[11]  Stearman v. Centex Homes, 78 Cal. App.4th 611, 613 (2000).

[12]  Kriegler v. Eichler Homes, Inc., 269 Cal. App.2d 224, 74 Cal.Rptr. 749 (1969).

[13]  Martin v. Karsh, 142 Cal. App.2d 468, 298 P.2d 635 (1956).

[14]  Id.

[15]  Raven’s Cove Townhomes v. Knuppe Dev. Co., 114 Cal. App.3d 783, 171 Cal.Rptr. 334 (1981).

[16]  California Corporations Code § 309.

[17]  United States of America v. Brano Milovanovic; Tony Gene, No. 08-30381 (9th Cir. 04/24/2012)


© 2019 – Barry Zalma

This article, and all of the blog posts on this site, digest and summarize cases published by courts of the various states and the United States.  The court decisions have been modified from the actual language of the court decisions, were condensed for ease of reading, and convey the opinions of the author regarding each case.

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant  specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 50 years in the insurance business. He is available at http://www.zalma.com and zalma@zalma.com.

Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.

His newest book:

THE HOMEOWNERS INSURANCE POLICY

HOW TO BUY AN APPROPRIATE HOMEOWNERS POLICY AND SUCCESSFULLY MAKE A CLAIM TO THE INSURER

Insurance is a contract between a person seeking insurance and an insurer. It is obtained by making contact with the insurer as a prospective insured seeking insurance. The homeowners policy is a specialized policy of insurance that protects the homeowner from certain risks of loss to the real and personal property at the home, the exposure the insured faces for injury to a household employee, and the exposure the insured faces to liability for bodily injury or property damage caused to third parties. The book explains how to buy a homeowners policy and how to collect on any claim made to the homeowners insurer.

Paperback Book    Kindle Book

Books from Full Court Press

Insurance Law Deskbook: Learn the insurance basics that are essential to every civil practitioner. The Insurance Law Deskbook is intended to help law students, practitioners, insurance lawyers, professional claims personnel, insured persons, and anyone else involved in insurance. The book, published for the first time under Full Court Press, includes the full texts or digests of insurance-related decisions of the U.S. Supreme Court, the U.S. District Courts of Appeal, state appellate courts, and foreign courts that have molded the American insurance law, as well as vital explanatory chapters, historical context, form letters, and more.

California Insurance Law Deskbook: California has long led the way when it comes to insurance jurisprudence in the United States, and few know more about California insurance law than Barry Zalma. The California Insurance Law Deskbook is intended to help law students, practitioners, insurance lawyers, professional claims personnel, insured persons, and anyone else involved in insurance. Similar to Barry Zalma’s general Insurance Law Deskbook, this title focuses on the state where the author has long resided and practiced as an expert in California law. The book, published for the first time under Full Court Press, includes the full texts or digests of insurance-related decisions of the U.S. Supreme Court, the U.S. District Courts of Appeal, and California appellate courts, as well as vital explanatory chapters and historical context.

Insurance Bad Faith and Punitive Damages Deskbook: Understand the relationship between insurance, the tort of bad faith, and why punitive damages are awarded to punish insurers. Previously, a person suing an insurance company in the United States could only recover contract damages, but when the tort of bad faith was created by the courts contract law was enormously affected, allowing insureds to sue insurers for both contract and tort damages, including punitive damages. Read a thoughtful analysis of how punitive damages apply in the United States to insurance bad faith suits, and why some states allow judges and juries to award punitive damages against insurers in civil litigation.

 

About Barry Zalma

An insurance coverage and claims handling author, consultant and expert witness with more than 48 years of practical and court room experience.
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