Expert Commentary

Ewing v. Amerisure

Contractors are breathing easier in light of the Texas Supreme Court's ruling in Ewing Constr. v. Amerisure that the contractor's obligation to perform its construction work in a good and workmanlike manner does not constitute the assumption of a liability for purposes of applying the contractual liability exclusion in a commercial general liability (CGL) policy. Nevertheless, the issue may continue to arise, as the court appears to have left room for application of the exclusion on a case-by-case basis depending on the particular language in the construction contract.


Construction Defect Coverage
January 2014

Recent Texas cases applying Exclusion b., the contractual liability exclusion, to breach of contract claims in the context of construction defect have garnered national attention. However, that attention may no longer be warranted going forward. The concern over the applicability of the contractual liability exclusion to construction defect claims in Texas appears to have been relatively short-lived, due to the Texas Supreme Court's opinion in Ewing Constr. Co. v. Amerisure Ins. Co., ___ S.W.3d ___, 2014 Tex. LEXIS 39 (Tex. Jan. 17, 2014), determining that the contractual liability exclusion does not apply to the typical liabilities of a contractor under a construction contract. That concern originated in December 2010 with the Texas Supreme Court's opinion in Gilbert Texas Constr. LP v. Underwriters at Lloyd's, London, 327 S.W.3d 118 (Tex. 2010). In the 3-plus years since that decision, construction insureds, insurers, and their counsel wrestled with the applicability of the exclusion to construction defect claims that invariably involve breach of contract claims. While that may no longer be necessary as to most claims, the circumstances of the rise and fall of the contractual liability exclusion in Texas illustrate problems that arise when peripheral exclusions are sought to be applied in a context for which they were never contemplated. To better understand how this situation arose, it is helpful to first review the genesis of the issue in Gilbert and then the resolution of the issue in Ewing.

Recap of Gilbert v. Underwriters at Lloyd's

In Gilbert, the insured entered into a contract with Dallas Area Rapid Transit Authority (DART) as general contractor to construct a commuter railway system. During the course of the project, heavy rains damaged neighboring buildings owned by RT Realty (RTR). RTR sued DART and Gilbert, claiming third-party beneficiary status as to the contract between Gilbert and DART, asserting that Gilbert was liable to RTR for breach of contract. This claim was based upon a contractual provision with DART that obligated Gilbert to protect all existing improvements and utilities at or near the work site and on adjacent property of a third party and to repair any damage to them.

In the event Gilbert failed to perform the repairs, the contract further provided that DART could undertake the repairs and charge the costs back to Gilbert. Underwriters at Lloyd's, Gilbert's excess insurer, argued that the contractual liability exclusion applied to deny coverage for Gilbert. That exclusion states that the 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."

The Texas Supreme Court surprisingly agreed with Underwriters even though the court acknowledged the nearly universal caselaw dating back to Olympic, Inc. v. Providence Wash. Ins. Co., 648 P.2d 1008 (Alaska 1982), holding that the contractual liability exclusion applies only to the "assumption of liability" of a third party in the indemnification context—that is, in an indemnity or a hold harmless agreement. Nevertheless, the complicating factor in Gilbert was the novel contractual provision that obligated Gilbert to repair or pay for third-party property damage and conferred third-party beneficiary status on neighboring property owners, paving the way for RTR's direct claim against Gilbert for breach of contract. These provisions closely resembled the type of assumption of liability arguably within the scope of the contractual liability exclusion.

Ewing Construction v. Amerisure

The construction industry waited with bated breath as to whether the reasoning of Gilbert would be extended to other contract provisions. The construction industry did not need to hold its breath very long. In Ewing Constr. Co. v. Amerisure Ins. Co., 814 F. Supp. 2d 739 (S.D. Tex. 2011), the federal district court did just that. Ewing Construction had contracted with a school district to construct a tennis facility that later was alleged to be defective. Amerisure, Ewing's CGL insurer, denied coverage, even though the cracking and flaking of the tennis courts throughout the project clearly constituted an "occurrence" involving "property damage" under Texas law in Lamar Homes, Inc. v. Mid-Continent Cas. Co., 242 S.W.3d 1 (Tex. 2007). The trial court agreed with Amerisure and broadly applied Gilbert as standing for the proposition that the contractual liability exclusion applies when an insured has its implied warranties as to performance of the work under its contract in a good and workmanlike manner.

In entering into the contract, Ewing "assumed" the liability for its own performance under that contract. This holding ignored the standard interpretation of "assumption of liability"—that is, that the contractual liability exclusion does not apply to direct contractual liability but, rather, where the insured assumed the tort liability of a third party as in a hold harmless or indemnity agreement. In addition, the district court did not distinguish the construction contract before it from the type of performance obligation before the court in Gilbert.

Ewing appealed and the Fifth Circuit Court of Appeals affirmed in Ewing Constr. Co. v. Amerisure Ins. Co., 684 F.3d 512 (5th Cir. 2012), essentially employing the same reasoning as the trial court. On rehearing, the position of Ewing drew considerable support from the construction industry, and, having approached the precipice and looked over the edge, the Fifth Circuit stepped back on rehearing, apparently due to the notoriety that the case was receiving and the importance of the issue. It withdrew its opinion and, at the request of both parties, certified the question of whether the liability assumed by the contractor in its construction contract is excluded by the contractual liability exclusion to the Texas Supreme Court in Ewing Constr. Co. v. Amerisure Ins. Co., 690 F.3d 628 (5th Cir. 2012).

Specifically, the court certified the following two questions:

  1. Does a general contractor that enters into a contract in which it agrees to perform its construction work in a good and workmanlike manner, without more specific provisions enlarging this obligation, "assume liability" for damages arising out of the contractor's defective work so as to trigger the contractual liability exclusion?
  2. If the answer to question one is "yes" and the contractual liability exclusion is triggered, do the allegations in the underlying lawsuit alleging that the contractor violated its common law duty to perform the contract in a careful, workmanlike, and non-negligent manner fall within the exception to the contractual liability exclusion for "liability that would exist in the absence of contract"?

The Texas Supreme Court accepted the certified questions and issued its opinion 18 months later, on January 17, 2014, disagreeing with the Fifth Circuit's reasoning in its withdrawn opinion.

In addressing the questions before it, it was necessary for the court to also address its prior opinion in Gilbert. In that regard, the court stated that in Gilbert it determined that "assumption of liability" means that the insured has assumed a liability for damages that exceeds the liability it would have under general law. Otherwise, the words "assumption of liability" would be meaningless and surplusage, citing American Family Mut. Ins. Co. v. American Girl, Inc., 673 N.W.2d 65 (Wis. 2004). In addition, Texas law also favors interpretation of contracts as a whole so that none of the language in them is rendered surplusage. Therefore, the court agreed that the term "assumption of liability" must be given meaning and determined that the contractor had assumed a liability beyond general law in obligating itself to repair or pay for damage to third parties.

As stated, the first question before the Ewing court was whether the contractual liability exclusion applies to property damage arising out of defective work performed under a contract in which a general contractor agrees to perform its construction work in a good and workmanlike manner, without any more specific provisions. Unanimously answering the first question "no," the court determined that the school district's allegations that Ewing failed to perform in a good and workmanlike manner were substantively the same as its claims that Ewing negligently performed under the contract because they contained the same factual allegations and alleged the same misconduct. In other words, allegations that the contractor failed to perform in a good and workmanlike manner and that it negligently performed under the contract were substantively the same. Therefore, the court concluded that a contractor that agrees to perform its construction work in a good and workmanlike manner, without more, does not enlarge its duty to exercise ordinary care in fulfilling its contract and thus does not "assume liability" for damages arising out of its defective work that will trigger the contractual liability exclusion.1

Concluding that its answer to the first certified question was "no," the court declined to answer the second question as to whether an exception to the contractual liability exclusion for liability that would exist in the absence of a contract applied.

The Simpler Approach

The Texas Supreme Court went to great lengths to distinguish an insured's contractual obligation to perform its work in a good and workmanlike manner under "general law" from what it regarded as the more onerous obligation of the contractor in Gilbert to repair or pay for damage to third-party property. That exercise required considerable interpretation of the contract terms in both Gilbert and Ewing in order to make that distinction. Particularly in Gilbert, the first opinion on the issue, the court could have embarked on a somewhat different analysis—that is to follow the majority view that the contractual liability exclusion is confined to the assumption of only third-party liabilities such as those assumed in indemnification or hold harmless agreements. It declined to do so in Gilbert, observing that if the insurance industry had intended to confine the exclusion to the assumption of third-party liabilities, it could have so stated in the endorsement.

Nevertheless, in Ewing, the Texas Supreme Court cited to the American Family v. American Girl case in Wisconsin (see above) for the proposition that the term "assumption of liability" would be superfluous if it applied to obligations undertaken in every contract. However, the next sentence in American Family v. American Girl states that the "exclusion applies where the insured has contractually assumed the liability of a third party, as in an indemnification or hold harmless agreement; it does not operate to exclude coverage for any and all liabilities to which the insured is exposed under the terms of the contracts it makes generally."

Rather than adopting the standard industry (and legal) interpretation, the Texas Supreme Court appears to leave the applicability of the contractual liability exclusion to the peculiar wording of the contractual provision as to liabilities under a construction contract. In other words, resolution of the issue will be done on a case-by-case basis. Obviously, this leads to uncertainty and inability to predict results. It is likely that parties will be particularly attuned to negotiations and draftsmanship to avoid a potential assumption of liability that could run afoul of the contractual liability exclusion. Texas construction insureds are already familiar with this type of chess game in drafting indemnity clauses under Texas common law rules, including the fair notice doctrine, as well as the construction anti-indemnity statute. A possible solution to this problem is to endorse a contractor's CGL policy to comply with the Texas Supreme Court's admonishment that if the contractual liability exclusion is intended to apply only to the assumption of third-party liabilities, it should so say.

While Ewing was pending, some insurers considered doing just that, and even though the Texas Supreme Court's recent opinion in Ewing provides much relief, it may still leave a need for such an endorsement. For example, such an endorsement could state that the 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 of a third party in a contract or agreement."

Business Risk Exclusions

As a final note, the court went beyond the certified questions before it and again addressed the argument that, in refusing to apply the contractual liability exclusion to deny coverage for property damage under the circumstances before it, the court was converting the CGL policy into a performance bond. This argument had previously been rejected in Lamar Homes v. Mid-Continent Cas., and the court reiterated that coverage should be determined based on the exclusions in the policy. Here, the contractual liability exclusion simply did not apply so that it did not bar coverage. Although not directly addressed by the Ewing court, the subcontractor exception to the your work exclusion in the Amerisure policy preserved coverage for the defective work performed by Ewing's subcontractors.

The Texas Supreme Court concluded its opinion by repeating its holding from Lamar Homes that "faulty workmanship will be excluded from coverage by specific exclusions because of the CGL's structure." 242 S.W.3d at 10–11. The court also noted that, in Lamar Homes, it went on to mention certain of those business risk exclusions. Those exclusions were Exclusions j.(5), j.(6), and l. The court described those exclusions as having specific application to the construction industry, based upon Lamar Homes. The court's treatment of the contractual liability exclusion indicates that it likely did not regard that provision as the type of exclusion of specific application to the construction industry. Hopefully, attempts to apply other peripheral exclusions to construction risks will meet with the same ultimate reception.2

Conclusion

The Texas Supreme Court's opinion in Ewing v. Amerisure addressed the major issue, and the contracts that the industry relies upon on an everyday basis should not run afoul of the contractual liability exclusion. Nevertheless, the parties will need to be cognizant of particular liabilities assumed in a contract, and, to avoid possible application of the exclusion, endorsement of the CGL policy to make it clear that the exclusion applies only to third-party liabilities may be the preferable avenue to pursue.


1In footnote 7 in the opinion, the court noted that it did not intend to alter the applicability of the economic loss rule. That rule provides that where an injury arises out of the subject matter of a contract, a cause of action sounds in contract alone (and not tort or negligence). Nevertheless, this observation appears to dovetail with the court's earlier reasoning in Lamar Homes v. Mid-Continent Cas., which was that, for purposes of insurance coverage for defective construction, the label of the cause of action is immaterial as long as unexpected and unintended physical injury to tangible property is involved. 242 S.W.3d at 12–13. Therefore, the economic loss rule should not enter into an Exclusion b. analysis where unexpected and unintended property damage occurs.

2An example of another such exclusion is Exclusion n., the products recall exclusion, to which insurers appear to be resorting in construction defect coverage claims. That exclusion would seldom apply in the construction context since a project is not typically withdrawn from use in the sense of a products withdrawal as contemplated by that exclusion.


Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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