Contractor's Professional Liability—The Products Liability Exclusion
Tim Prosser | September 29, 2023
Each year, contractors face an increasingly diverse array of exposures and a growing list of options for managing those exposures. A common solution is the transfer of risk via a portfolio of insurance products—but coordinating the purchase of multiple insurance products is often complicated by the inconsistency in coverage terms between different insurers. This is especially true of professional liability policies.
Typically, the intent of a professional liability policy is to insure the policyholder against third-party claims alleging negligence in professional services rendered by or on behalf of the policyholder. Unlike other lines of coverage, such as general liability or auto liability, contractor's professional liability policies are not standardized, meaning that their terms and conditions vary widely from one policy to another. While much has been written on the topic of contractor's professional liability, our goal in this series is to examine an oft-overlooked corner of the contractor's professional liability arena: professional liability arising out of product-related claims.
The potential for professional liability claims may seem apparent when one considers services such as engineering or construction management; however, contractors also face liability arising out of their design, installation, specification, or fabrication of products that are utilized in the construction process. Examples of such products can include prefabricated wall panels, utility racks, custom structural members, and other replicated building components. Unfortunately, contractor's professional liability policies view product exposure differently than the general provision of professional services. This inconsistency in intent creates an obligation among insurance professionals to consider what product exposures their clientele face and to what extent a professional liability policy might manage those exposures.
Within a contractor's professional liability policy, there are three main areas where policy language can impact coverage outcomes with respect to product-related professional liability.
- Products liability exclusion
- Warranty exclusion
- Faulty workmanship exclusion
This article focuses on the first item—the products liability exclusion. We begin with a review of some common policy language, followed by a hypothetical claim example, and conclude with a series of questions to provide insurance professionals with a starting point from which they can broach this subject with their clientele.
Common Products Liability Exclusions
Nearly all commercially available professional liability policies will attach some form of a products liability exclusion. The intent of such language is to establish the insurer's intent to cover product-related claims as compared to claims arising from professional negligence that are independent of product concerns. With relatively few exceptions, most product exclusions will utilize language comparable to the following.
Coverage is not provided for claims which arise out of the design, fabrication, and/or manufacture of goods or products sold or supplied by the insured or on the insured's behalf.
The exclusion demonstrates that the bar for triggering a professional liability insuring agreement is set higher for product-related claims than for claims that are not tied to product performance. This differentiation between product claims and other professional negligence claims is further complicated by the fact that each professional liability insurer will take a unique approach when amending their product liability exclusion, resulting in a dizzying range of potential coverage implications. Fortunately, our review and examination of some of the various professional liability offerings in the marketplace find that product exclusions typically can fit into three broadly similar categories.
Hypothetical Exclusion A: Blanket Product Liability Exclusion
This exclusion presents the strictest possible language and typically excludes professional liability claims that are driven by any degree of failure in the insured's products. Coverage under such a policy is typically contingent on a third-party claim arising directly out of the insured's provision of professional services, which is outside of any service that could be considered product design. In addition, such an exclusion cannot be expected to provide an exception for customized products including customized technology products (such as facility management software). This is the most restrictive variation of the products liability exclusion and many like it can be found in various contractor's professional liability policies.
Hypothetical Exclusion B: Product Exclusion with a Design Exception
This approach broadens coverage in favor of the insured and is also common in the marketplace. In this case, an exception is offered for claims arising out of installed products designed by or on behalf of the insured for a unique project and/or client. These exclusions often contain a give-back for product claims tied to the provision of technology products, such as facility management software.
Hypothetical Exclusion C: Product Exclusion with a Manufacture Exception
Here we have one of the most favorable approaches to the product exclusion, where the insurer may grant exceptions for both the manufacture and design of customized goods or products that are installed during construction. However, it is important to note that this broadened coverage is reserved only for products that are customized for a single project or client. This language is often accompanied by additional exceptions for software and other technology products provided by the insured in the provision of contracting and/or professional services.
Contractor's Products Liability Claim Example
Now that we have a clearer understanding of the various approaches to products liability, let's examine how each of the above hypothetical exclusions might respond to a professional liability claim example.
Under hypothetical Exclusion A, the blanket product liability exclusion, we would expect a denial of coverage due to the broad nature of the exclusion, which precludes coverage for any claim arising due to the failure of goods or products supplied by the insured. While coverage may exist for other instances of professional negligence unrelated to the façade panels, the products liability exclusion could erect a significant hurdle for the design builder.
Under hypothetical Exclusion B, the design builder should again expect a declination of coverage. Despite the existence of a give-back for product design claims and the allegations of negligent design, this hypothetical exclusion specifically states that coverage would not apply to products manufactured by or on behalf of the insured, thus likely barring coverage.
Hypothetical Exclusion C is where our design builder may begin to see some relief since the exceptions for manufacturing and design are both satisfied. Furthermore, the wall system is custom in nature and is exclusively utilized for this project. Assuming the other terms and conditions of the policy are met, the design builder should not expect the product exclusion itself to prevent coverage.
Even a brief review of available insurance language reveals just how much variation exists within the marketplace regarding the products liability exclusion. More importantly, our examination of the hypothetical claim example above highlights the potential consequences that such variations can produce. But, beyond the review and analysis of policy language, insurance professionals can proactively address this issue through a discussion of potential product exposures with their clients.
When evaluating the potential for professional liability claims, consider posing some of the following questions.
Do the insured's contracts generally call for the provision of facility management software or other similar technology products? Contractors are often expected to offer facility management software within their scope of services. Facility management software is crucial for the efficient operation of various HVAC, audio/visual, lighting, and other building systems; a failure in the performance of such software can result in third-party claims against the contractor for professional negligence. Since software is often viewed as a product, it could, therefore, fall within the products liability exclusion unless the proper exception is provided.
Does the insured perform, or hire others to perform, design services for products utilized in the construction process? If so, are such products generally customized in nature and limited to a single project or contract? Many policy forms differentiate the design of a product or good from the overall design of a project. This could lead to a mismatch in expectation should a product design issue arise during construction. Contractors engaged in the design or engineering of construction components should examine the way in which their professional liability policy treats product liability to see if there is an appropriate give-back for design. However, note that even with a give-back for product design, a contractor's professional liability policy generally limits coverage for customized or unique products and is not suitable for insuring the design of components that are intended to be mass produced for multiple projects or clients.
Does the insured perform, or hire others to perform, manufacturing or fabrication services for products utilized in the construction process? If so, are such products generally customized in nature and limited to a single project or contract? If the insured engages (directly or indirectly) in the practice of fabrication or manufacturing of custom components for construction, the product liability exclusion should be examined to ensure that it addresses these operations. A give-back solely for design services within the product exclusion may not prove sufficient if manufacturing exposures are present.
Does the contractor engage in the design and/or manufacture of products or components that are then sold to a third party without the contractor also performing installation? In addition to the considerations highlighted above, insurance professionals and contractors should consider that contractor's professional liability programs typically only extend coverage when the insured is acting in their capacity as a contractor in the business of construction. The supply or sale of products for mass distribution, without associated installation services, would likely cause a contractor to be viewed as a distributor or manufacturer, thus limiting the availability of coverage under a contractor's professional liability policy regardless of how lenient their product exclusion may be.
Conclusion
In many ways, the discussion around product liability and contractor's professional liability is timely. As budgets begin to tighten and project stakeholders demand faster turnarounds in their projects, many expect modular construction and prefabrication practices to increase in popularity. This trend will lead to more contractors engaging in what could be considered product design and/or fabrication, making the intersection between product liability and contractor's professional liability an increasingly important aspect of professional liability exposures. Until a uniform approach to this exposure is taken by providers of insurance, both contractors and insurance professionals need to remain cognizant of the various approaches to this issue.
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