The Critical Path: Tools for Resolving Construction Disputes : California Construction Lawyer & Attorney for Dispute Resolution in Los Angeles, San Diego & the S.F. Bay Area

In response to an onslaught of construction defect cases, California enacted statutory procedures to encourage settlement of claims before a lawsuit is even filed. But those procedures usually involve attorneys and experts, and they cost money, so are insurance companies obligated to pay the defense costs even though a lawsuit has not officially been filed? In a case of first impression, a California Court of Appeal has answered that question in the affirmative.

 In Clarendon America Insurance Company v StarNet Insurance Co. (2010) Cal App 4^th, Centex Homes was the developer of a residential development in Simi Valley, California known as Westwood Ranch. In July 2006, the Westwood Ranch Homeowners Association served a notice of commencement of legal proceedings pursuant to California Civil Code section 1375 on Centex that set forth a list of alleged construction defects at Westwood Ranch. This step was taken in compliance with the Calderon Act which requires that developers and homeowners associations engage in a prelitigation effort to settle construction defect claims. If the claims can nor be settled, the homeowners association is then authorized to file a lawsuit.

StarNet Insurance had issued two successive CGL policies to one of Centex’s subcontractors on the project, and Clarendon America Insurance had issued a CGL policy to another subcontractor. Centex was a named additional insured on the policies issued by both carriers.

In December 2007, Centex filed a complaint against Clarendon seeking payment of defense fees and costs incurred in defending against the construction defect claims in the prelitigation proceeding known in California as the Calderon Process. Clarendon filed a cross-complaint against the other insurers, including StarNet, seeking a declaration they were obligated to provide Centex a defense and/or coverage. In the first amended cross-complaint, Clarendon sought indemnity, declaratory relief, and contribution from the additional insurers. Clarendon reached settlements with all of the other CGL insurers except StarNet.

StarNet moved for summary judgment asserting the prelitigation process did not constitute a "suit" within the meaning of the defense agreement in the StarNet CGL policies. The trial court denied the motion, holding the prelitigation procedure “ is a civil proceeding in which damages are alleged and therefore falls within the StarNet CGL policies' definition of ‘suit’…Additionally, the definition of 'suit' also includes alternative dispute resolution procedures to which the insured submits with the insurer's consent…Thus, even if the Calderon process is not considered to be a 'civil proceeding' if that phrase is narrowly interpreted to mean 'court action[,'] but rather is considered an 'alternative dispute resolution proceeding[',] there is a question of fact as to whether or not Star[N]et has a duty to defend once the Calderon process has begun."

After analyzing the language of StarNet’s policy according to the standard rules of insurance policy interpretation, the Court of Appeal made this important observation:

The Calderon Process is more than a prelitigation alternative dispute resolution requirement: It is part and parcel of construction or design defect litigation initiated by an association and, as such, cannot be divorced from a subsequent complaint.

In affirming the trial court’s ruling, the Court stated, “The function and significance of the Calderon Process in construction or design defect litigation, and the StarNet CGL policies' definition of "suit" to include civil proceeding, lead to the reasonable inference the parties' intended StarNet would have a duty to defend the insured in the Calderon Process. Extending the duty to defend to the Calderon Process is therefore consistent with a hypothetical insured's reasonable expectations.”

This is good news for contractors, developers and, of course, homeowner associations. Hopefully CGL carriers will be more forthcoming in participating in prelitigation procedures such as the Calderon Process in California. This holding should lead to more prelitigation resolutions of construction defect cases and facilitate the public policy reasons for the enacting such laws.

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The resolution of construction defect cases and the availability of insurance coverage go together like the Los Angeles Lakers and NBA Championships (sorry Celtics fans). In addition to coverage issues that arise when defect claims are made, contractors and subs will want to quickly tender the defense of claims to their carriers. Generally speaking, policies of insurance include limitations on the time in which claims can be made, so my rule has always been, “When in doubt, send the notice of claim out.”

When a claim arises, some may question if they have insurance coverage or if they are entitled to  have the cost to defend the claim paid by their insurance companies. Don’t. Assume the claims are covered and make your carrier confirm in writing one way or the other.  First, an insurance carrier’s duty to defend is broader then its duty to indemnify. That means, in most states, you are entitled to a defense if it is possible that the claim is covered. On the other hand, a carrier is only required to indemnify the claim (in other words, pay the settlement or judgment) if the defect is actually covered by the terms of the policy. 

By tendering the claim to your carrier, you will trigger statutory time lines by which the carrier must confirm in writing its position on its coverage and defense obligations. Sometimes an insurance company will agree to defend the claim under a reservation of rights. That means the insurance company believes the possibility of coverage exists, triggering its duty to defend but it is reserving the right to withdraw the defense if it is established that there is no coverage under the terms of the policy.

Especially for large claims, you should not be surprised if the insurance company sues you at the same time it is defending you on the construction defect claim. The suit will not be for monetary damages but rather, for a declaration by the court of the rights and duties of the parties under the terms of the insurance contract. The insurance company will argue its interpretation of the policy language and why there is no coverage, and you will have to argue why there is coverage. While inconvenient for you, this is the prudent course of action for the carrier. When the tender of defense or coverage is wrongfully denied, the policyholder has the right to sue for contract damages, bad faith, and in some cases, punitive damages. Rather than risk being wrong, a carrier will often ask the court to decide questions about coverage.

If the tender of defense or coverage is denied, you should engage legal counsel to help you evaluate your options. There are outstanding insurance coverage lawyers who can help you. Look for one who specializes in insurance coverage of construction claims.  Construction defects present unique issues in terms of coverage that a generalist made not understand.

My next post will continue this theme about insurance coverage for construction defect claims. I plan to address recurring problems when successive policies are implicated by the claims and how so-called self-insured retention may affect the obligations of umbrella or excess carriers.

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