THE OH NO! MOMENT – REALIZING THE SUBCONTRACTOR EXCEPTION WAS ELIMINATED FROM THE “YOUR WORK” EXCLUSION

Screen Shot 2014-07-23 at 9.55.11 PMThe recent Eleventh Circuit decision in J.B.D. Construction, Inc. v. Mid-Contintent Casualty Co., 2014 WL 3377690 (11th Cir. 2014), demonstrates the unfortunate applicability of the “your workexclusion in CGL policies when the subcontractor exception (see image) to this exclusion was eliminated from the policy through an endorsement.  This subcontractor exception to the “your work” exclusion is important…I repeat, important…to the general contractor and anyone performing construction work that subcontracts out their work. Realizing the subcontractor exception to the “your work” exclusion has been removed or eliminated through an endorsement will create the dreadful “Oh No!” (or one its many wonderful euphemisms) moment!  Just ask the contractor in J.B.D. Construction.

 

In this case, a general contractor was hired to construct a fitness center as an addition to an existing building. The fitness center was going to be constructed with prefabricated components making up the shell, slab, and flooring.  The general contractor engaged subcontractors to install the prefabricated components and subcontractors to install the required mechanical, electrical, and plumbing.

 

After construction, water damage was discovered in the fitness center caused by leaks from the roof, windows, and doors. The water damage consisted of blistering stucco, rusting steel, and the peeling paint.  The general contractor implemented repair measures to stop the water intrusion.  The owner, however, refused to pay the general contractor its final payment.  The general contractor filed a lawsuit for this payment and the owner filed a counterclaim due to the leaks for breach of contract, negligence, and a violation of building code. The owner’s counterclaim alleged that the general contractor’s deficient work caused “damages to the interior of the property, other building components and materials, and other, consequential and resulting damages” as well as “damage to other property.”  J.B.D. Construction, supra, at *2.

 

At issue was whether the general contractor’s commercial general liability (CGL) carrier owed the insured-general contractor a duty to defend and duty to indemnify. In particular, the general contractor tendered the owner’s counterclaim to its insurer for defense and indemnification.  While the CGL insurer was conducting its investigation to determine if it would provide a defense, the general contractor settled the counterclaim with the owner, paying the owner from its own funds.  The general contractor then notified its insurer of the settlement and required reimbursement (indemnification) for the settlement amount in addition to legal/defense costs it incurred. Thereafter, the insurer tendered an amount it determined it owed for legal fees minus the policy’s deductible, but did not reimburse the general contractor for the settlement amount.

 

images-2The trial court granted the insurer’s motion for summary judgment in part finding that if any of the owner’s claims were for costs to repair the defectively installed roof, windows, and doors, these costs were NOT covered by the policy—they were excluded under the “your work” exclusion.  The trial court further stated that the insurer did NOT have a duty to defend or indemnify the general contractor in the counterclaim because there was nothing  in the counterclaim that alleged damage to property other than to the fitness center (the “your work”).

 

The “your work” exclusion in the policy excluded:

 

l.  Damage to Your Work

“Property damage” to “your work” arising out of it or any part of it and included in the “products-completed operations hazard.”

 

This exclusion did not include what is commonly known as the subcontractor exception to the “your work” exclusion that says this exclusion does not apply if the damaged work or work out of which the damage arose was performed by a subcontractor.  This is the Oh No! moment!  It turned out that the subcontractor exception was eliminated through an endorsement that completely changed the application of the “your work” exclusion.

 

 

The Eleventh Circuit made it clear that removing or replacing defectively installed work is not property damage covered by the CGL policy.  Ok.  That should be clear.  But, what about resulting damage or damage that arose from the defective work? With the subcontractor exception to the “your work” exclusion, resulting damage should be covered if the defective work was performed by a subcontractor; in other words, damage to another subcontractor’s work (e.g., drywall, flooring) should be covered if the damage arose out of a separate subcontractor’s defective work (e.g., roofer, glazer).  The question, though, is whether this resulting damage is covered if the subcontractor exception was eliminated from the “your work” exclusion. Hence, if a roof leaks and causes damage to other property or work not performed by the roofing subcontractor, would this resulting damage be covered?  The Eleventh Circuit held NO as any claims against the general contractor for damage to the fitness center (“your work”) arising from the general contractor or its subcontractors’ defective work are NOT covered under the policy:

 

Originally, the MCC Policy [CGL policy] also included a subcontractor exception to the “your work” exclusion, which stated that the “your work” exclusion did “not apply if the damaged work or the work out of which the damage arises was performed on your behalf by a subcontractor.” As originally written, therefore, the MCC Policy covered claims for damage to J.B.D.’s [general contractor] “work” arising from the faulty construction of J.B.D.’s subcontractors. However, this exception was eliminated by Endorsement CG 22 94 101 01. By eliminating the subcontractor’s exception, the MCC Policy no longer covered any claims for damage to J.B.D.’s “work” arising from work performed by J.B.D.’s subcontractors.

***

Therefore, the “your work” exclusion, absent the subcontractor’s exception, bars coverage for damages to the completed fitness center or its components (J.B.D.’s “work”) arising from J.B.D. or its subcontractor’s defective construction.

J.B.D. Construction, supra, at *6-7.

 

Now, even though the Eleventh Circuit held that there was no CGL coverage (thus, no duty for the insurer to indemnify the general contractor), the insurer still had a duty to defend.  How could this be?  Because the duty to defend is broader than the duty to indemnify and is dictated by the allegations in the complaint.  If a complaint potentially triggers coverage, the insurer has a duty to defend unless there is an exclusion that applies to bar coverage based strictly on the allegations in the complaint.  Since the complaint alleged buzz language “damage to other property” caused by the general contractor’s actions, this arguably included damage to non-fitness center property that would be covered and not considered the general contractor’s work.  Based on this, and even though the Eleventh Circuit held that the insurer did not have to reimburse the general contractor for the settlement amount paid the owner, it found that the insurer breached the duty to defend by not defending the general contractor with respect to the counterclaim.  The insurer argued that it tendered  defense costs to the general contractor based on the attorney’s fees the general contractor incurred from the date of the tender to the insurer through the settlement with a deduct for the deductible.  The Eleventh Circuit did not buy this argument stating that the general contractor accepted the money making it clear that it was not in satisfaction of the general contractor’s claim for additional payments/costs.  For this reason, the Eleventh Circuit remanded the case back to the trial court to determine whether the general contractor is entitled to damages, including consequential damages, as a result of the insurer’s breach of its duty to defend the general contractor.

 

 

Practical Considerations

 

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  • For the general contractor (or subcontractors that engage sub-subcontractors) – Look at your CGL policy.  Does it have the subcontractor exception to the “your work” exclusion?  If so, is there an endorsement that eliminates this subcontractor exception.  In this case, it was endorsement CG 22 94 101 01 (see image without subcontractor exception) that simply did not include the subcontractor exception language.  You do NOT want this endorsement as it strengthens the “your work” exclusion for many construction defect claims. Again, as a contractor that subcontracts work, you do NOT want an endorsement eliminating the subcontractor exception.

 

  • For the party asserting the complaint and party receiving the complaint– Remember the duty of the insurer to defend its insured is broader than the duty to indemnify so include buzz language in the complaint that there is “damage to other property” other than the work itself It is always good to review the insurance policy of a party that you are suing to see whether there is an endorsement that eliminates the subcontractor exception to the “your work” exclusion.  But, irrespective of whether you have the policy, including general buzz language could at least bring an insurer to the table and give an argument to the insured-defendant to get its insurer to defend the allegations in the complaint.  If the insurer refuses to defend, there may be a potential avenue to explore that the insurer breached its duty to defend that may entitle the insured to certain, provable damages.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

CONSTRUCTION RENTAL EQUIPMENT SUPPLIERS AND THE ENFORCEMENT OF LIEN RIGHTS

imagesConstruction rental equipment suppliers play a large role in the performance of construction projects, whether it is through furnishing a crane, barge, excavator, scissor lift, scaffolding, loader, compressor, generator, shoring, pump, etc. Routinely, the trade subcontractor that needs the equipment to perform its contractual scope of work procures the rental equipment.

 

Well, how do these rental equipment suppliers enforce lien rights on private projects if they remain unpaid?

 

To begin with, they need to serve preliminary notices such as the Notice to Owner within 45 days from initial furnishing, which is the date rental equipment is delivered to the site.  The lien must then be recorded within 90 days from final furnishing, which is the last date the rental equipment is on the job site and available for use.  These dates should (hopefully) be pretty easy to determine as suppliers document the date rental equipment was delivered to the job site and the date the equipment was picked-up from the job site.  If not, these dates should be obtained by the renting party’s records.

 

Before recording the lien, the rental equipment supplier needs to determine the lien amount. The rental equipment supplier will typically lien for the entire amount of the rental equipment it furnished to the renting party / lessee for the project pursuant to the contractual rate(s) in the rental agreement.  This is generally the appropriate strategy because Florida’s Lien Law provides in pertinent part:

 

The delivery of rental equipment to the site of the improvement is prima facie evidence of the period of the actual use of the rental equipment from the delivery through the time the equipment is last available for use at the site, or 2 business days after the lessor of the rental equipment receives a written notice from the owner or the lessee of the rental equipment to pick up the equipment, whichever occurs first.”

Fla. Stat. s. 713.01(13). 

 

This language is important to the rental equipment supplier because if the supplier has the documentation as to when the rental equipment was delivered and picked-up, then this should shift the burden to the owner to prove that the rental equipment was not actually used on the project to diminish the amount of the lien.

 

Notably, the language in Florida’s Lien Law regarding rental equipment used to provide: “to the extent of the reasonable rental value for the period of actual use (not determinable by the contract for rental unless the owner is a party thereto),” meaning that the onus was on the rental equipment supplier not in privity with the owner to determine actual usage of the equipment on the project and the reasonable value for the period the equipment was actually used on the project.  This verbiage has since been removed from Florida’s Lien Law (in 2007), such that burden is really shifted to the owner to prove that the equipment was not actually used on the job site irrespective of when it was delivered and when it was picked-up.  While an owner may still argue that the supplier must also prove the “reasonable value” of the equipment actually used on the job site (with the reasonable value differing from the contract rental rate), this argument is based on the statutory language and case law interpreting the verbiage that has since been removed from Florida’s Lien Law. See, e.g., Rosenholz v. Perrine Development Co., 340 So.2d 1264 (Fla. 4th DCA 1976) (interpreting older version of Fla. Stat. s. 713.01 and finding that contractual rental rate, although unchallenged, did not support the reasonable rental value because the supplier did not introduce evidence of the reasonable, actual use of the equipment required for the lessee’s scope of work).  In other words, to the extent the owner wants to maintain this argument, it really should have the burden challenging (a) the actual use of the equipment, perhaps by resorting to daily reports showing the equipment was not actually used and (b) the reasonable rental value should be different than the contractual rental rate based on evidence supporting this position.

 

Now, even under the older verbiage in Florida’s Lien Law, a rental equipment supplier did not have to jump through hoops in an action against a payment bond for a private project (issued per Florida Statute s. 713.23) to prove both the actual use of the rental equipment and the reasonable rental rate for that equipment.  See, e.g., Insurance Co. of N. America v. Julien P. Benjamin Equipment Co., 481 So.2d 511, 513 (Fla. 1st DCA 1985) (“We distinguish from this [language in the payment bond] the language found in the statute [Fla. Stat. s. 713.01], which, in our view, is substantially more restrictive and clearly requires actual proof of the time of use of rental equipment and the reasonable value thereof unless the owner of the project is shown to have been a party to the rental contract covering such equipment.”).

 

Therefore, it is important for the rental equipment supplier to keep records documenting the delivery date and pick-up date from the specific project in which it plans to lien.  The owner, especially an owner that did not contract for the rental equipment, needs to obtain this information and, to the extent there are daily reports from the lessee (party that rented the equipment), cross-reference the equipment with the daily reports to examine when the equipment was actually used.  While the owner may still choose to argue the “reasonable rental value” for the equipment based on “actual usage,” this burden should fall on the owner with evidence supporting the reasonable rental value the owner believes should apply based on actual usage.  Sometimes, even though these arguments may have teeth, it may be efficient for the owner to negotiate a resolution with respect to equipment it recognizes was utilized on its project in the performance of the work.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

ARE YOU SURE YOU WANT TO ARBITRATE?!?

imagesArbitration is a hot topic in dispute resolution as parties need to dictate in their contracts whether they want to arbitrate disputes arising out of their contract or, if not, litigate their disputes.   Recently, I discussed a Third District Court of Florida case where the court held that when a party is challenging the legality of a contract, that determination MUST be decided by the arbitrator;  and, the arbitration award will NOT be vacated simply because the arbitrator may have decided the issue wrong.

 

The Florida Supreme Court also chimed in on this issue in a non-construction case.  In Visiting Nurse Association of Florida, Inc. v.  Jupiter Medical Center, Inc., 39 Fla. L. Weekly S503b (Fla. 2014), the issue was whether a court can vacate an arbitration award because of an illegal contract.  In this case, the party moving to vacate the arbitration award argued that the arbitration panel reached a decision based on an interpretation of an agreement that would render the agreement illegal.  The Florida Supreme Court nixed this argument stating: “the claim that an arbitration panel construed a contract containing an arbitration provision to be an unlawful agreement is an insufficient basis to vacate an arbitrator’s decision pursuant to the FAA [Federal Arbitration Act] or the FAC [Florida Arbitration Code].” Jupiter Medical Center, supra.

 

If a party wants to be able to challenge an arbitration award based on the potential illegality of the entire contract, they should include this specific right in their contract that allows the court and not the arbitrator to determine the illegality and enforceability of the contract.  The contract should also provide that the parties can move to vacate the award based on the illegality of the contract. However, by preserving such arguments or rights, the party is severely watering-down the fundamental purpose of arbitration which is to timely and efficiently resolve disputes.  Yes, technical arguments such as the illegality of a contract will have more weight in court where there is a right to appeal.  But, this should be known on the front-end when selecting arbitration as the method of dispute resolution in order to achieve a timely, efficient, and final resolution versus a resolution in  court where the losing party will have a right to appeal and prolong the dispute resolution process.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

SURETY BONDING – THE NUTS & BOLTS

images-2Surety bonding is necessary in construction, particularly on federal and Florida public projects where the contractor is required to furnish a payment and performance bond.  Even certain owners of large-scale private projects want their contractor to obtain a payment and performance bond.  Understanding the nuts and bolts of surety bonding is valuable for the contractor that wants to increase job opportunities and/or increase their bonding capacity.

 

 

There are three main parties to the surety bond:

 

1. The surety– the entity (typically, a division of an insurance company) that issues the payment or performance bond for the contract price; the surety guarantees obligations on behalf of its principal, whether it is the performance of the contract (performance bond) or the payment to those entities working under the contractor providing labor, services, or materials (payment bond)

 

2. The principal – the entity (contractor) that procured the bond from the surety and who the surety is issuing the bond on behalf of; the principal along with personal and corporate guarantors will execute a General Agreement of Indemnity before the bond is issued outlining the rights and remedies of the principal/guarantors and the surety

 

3. The obligee – the entity (or entities) that can make a claim against the bond and who the bond is ultimately designed to benefit

 

Not every contactor can get a payment and performance bond.  This means that not every contractor can perform public work that requires a bid bond to be furnished with the bid/proposal and then a payment and performance bond upon the award of the contract.  This is because sureties undertake rigorous underwriting to best assess their risk before issuing bonds. And, many contractors, even if bonds are issued, will have a bonding capacity meaning the surety will not issue an unlimited dollar amount for the bond(s) issued or will not issue an unlimited number of project bonds at the same time. Rather, it will issue a bond or bonds totaling the bonding capacity of the contractor.

 

To obtain a bond, a contractor will go to a surety bond agent/broker, commonly referred to as the producer.  The producer represents select sureties.  Certain sureties cater to certain market niches or contractors and the producer tries to fit the contractor with the surety that best fits the needs, strengths, and qualifications of the contractor. The producer will work with the contractor to fill out required forms and review and collect the material and information that will be needed by the surety in the underwriting process. As a contractor, it is important to develop a strong relationship with a producer that understands your construction business and capabilities and can assist you with obtaining bonding capacity.

 

images-3In the underwriting process, the surety will want to determine the financial strength, creditworthiness, and condition of the contractor by analyzing extensive financial documentation along with the contractor’s operational ability to perform a contract based on the contractor’s history, equipment, personnel, etc.  Underwriting needs to obtain and assess financial and operational material to best assess the surety’s risk (based on the surety’s appetite or market) because if the surety has to pay out a claim on the bond it will absolutely be looking to recoup the costs it incurs from the bond principal as well as the guarantors that executed the General Agreement of Indemnity.  Among other things, the surety will run a credit check for the principal and likely the owners/guarantors; will analyze balance sheets, income statements, and other financial information to understand the contractor’s cash flow, working capital, net worth, and profitability history and forecasts; will want to know of judgments and lawsuits; will likely contact references; and will want to specifically understand past projects completed and current projects underway, including the project in which the bond is being requested, from an estimating and accounting standpoint, personnel and management standpoint, insurance standpoint, and possibly a scheduling standpoint.  The surety will do its homework because the very last thing a surety wants to do is pay a claim or expose itself to massive liability with a bond claim from a contractor that failed to pay its subcontractors or abandoned a job without any true recourse to recoup money expended.  The surety will consider the personal and corporate guarantors it requires from a contractual indemnity standpoint per the General Agreement of Indemnity and may require cash collateral or property collateral to be pledged for underwriting approval.   Again, developing the relationship with the producer that understands your business is crucial as the producer will understand the underwriting process and facilitate the transmission of information and material between the contractor and the surety.

 

 

The surety charges a premium for the issuance of the bond.  Payment and performance bonds are often single premium bonds.  Depending on the producer you ask, the premiums typically range from 1-3% of the bond amount.   Naturally, there are contractors that will have to pay in excess of 3% of the bond amount based on the associated credit risk with issuing the bond.

 

Once underwriting runs its course and the contractor is approved for the requested bonds, the producer typically signs the bonds on behalf of the surety.  The producer is given a power-of-attorney to sign bonds as an attorney-in-fact on behalf of the surety.

 

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

THE ALL MIGHTY GENERAL AGREEMENT OF INDEMNITY WITH THE SURETY

images-2Sureties do not issue bonds (e.g., payment or performance bonds) unless the principal and the principal’s personal guarantors execute a General Agreement of Indemnity (“Indemnity Agreement”).  The Indemnity Agreement routinely requires that the principal / guarantors: (1) defend and indemnify the surety for all losses, liability, claims, attorney’s fees, and expenses that the surety may incur and (2) post collateral security into a reserve account set up by the surety to cover any claim on the bond; the surety may seek an injunction to compel such collateral if the principal / guarantors refuse.  Yes, these are powerful provisions in favor of the surety if a claim is asserted against the principal’s bond (especially a performance bond claim) or if the surety, to offset liability or exposure, pays a claimant on behalf of the principal.  The leverage lies with the surety with respect to the provisions in the Indemnity Agreement and the worst thing a bond principal can do when a claim is asserted against the bond is to outright refuse to work with and cooperate with the surety (based on the powerful provisions in the Indemnity Agreement).

 

 

The opinion in Developers Surety and Indemnity Co. v. Hansel Innovations, Inc., 2014 WL 2968138 (M.D.Fla. 2014), exemplifies what can happen if a bond principal refuses to cooperate with a surety even if the principal has potentially meritorious arguments.  In this case, a surety issued a performance bond to a fire protection subcontractor.  During the course of construction (and, arguably due to the general contractor’s nonpayment), the subcontractor experienced cash flow problems.  The general contractor expressed concerns as to the subcontractor’s financial wherewithal to complete the contract work and made demand on the surety.  The subcontractor requested financial assistance from its performance bond surety and the surety agreed to pay the subcontractor and its vendors in excess of $100,000 provided the subcontractor execute a separate financing and collateral agreement (as the surety expected to recoup its “loan”).  Subsequently, the general contractor advised the surety and subcontractor of performance issues with the subcontractor’s work.  The subcontractor, however, refused to complete its work and address the performance issues unless the surety continued to fund the subcontractor’s work, released the guarantors from personal liability, and pursued claims against the general contractor.  Based on the subcontractor’s stance, the surety retained another subcontractor to complete the work and incurred additional costs.  The surety filed a lawsuit to, among other rights afforded under the Indemnity Agreement, require the subcontractor and guarantors to post $200,000 in collateral security into a reserve account.  The subcontractor and guarantor failed to post collateral upon demand.

 

 

The surety, as it customarily will do, moved for a preliminary injunction in accordance with the Indemnity Agreement for the court to order the subcontractor and guarantors to post collateral.   One of the requirements for a court to order a preliminary injunction is for the surety to establish that it is substantially likely to succeed on the merits.  This is not a challenging hurdle for a surety given the powerful provisions in the Indemnity Agreement. (Please see the following articles for more information on a surety’s right to demand collateral security and the requirements for a preliminary injunction in federal court: https://floridaconstru.wpengine.com/a-suretys-right-to-demand-collateral-security/ and https://floridaconstru.wpengine.com/a-suretys-right-to-demand-collateral-security/.)

 

 

The subcontractor argued that bad faith or unclean hands, evidenced by an improper motive, extinguished the surety’s substantial likelihood that it would succeed on its claim.  The subcontractor argued this because it did not want to post collateral.  In support of bad faith, the subcontractor contended that when the general contractor raised performance issues the subcontractor was 99% done with its work with the remaining work simply commissioning the fire sprinkler system and completing as-built drawings.  It further argued that the general contractor placed it in a dire financial position because the general contractor did not pay it for over one year and did not pay it for change order work that was performed at the general contractor’s direction.  (Not an uncommon subcontractor argument!)  The subcontractor also stated that it only signed the financing and collateral agreement because the surety assured it that the surety would assist the subcontractor in collection efforts against the general contractor if the subcontractor signed the agreement and continued with the work.  Then, the surety discontinued funding the subcontractor at the eleventh hour to help the subcontractor complete the work while contemporaneously failing to assist the subcontractor in collecting any money from the general contractor.  The Magistrate, though, was not persuaded by the subcontractor’s bad faith argument taking the position that it cannot be bad faith for the subcontractor to be induced into completing its work on a project it was hired to complete.

 

 

The subcontractor may have very strong arguments that it was truly placed in a cash flow crunch because the general contractor refused to pay for contract work plus additional work.  Thus, the subcontractor was forced to finance a job that it was never in a financial position to finance.  Then, when it agreed to complete its work with the surety’s assistance, it did so with the understanding that the surety would assist the subcontractor in recovering monies that the subcontractor should have been paid all along for contract and change order work that would also be used to reimburse the surety.  But, as shown in this case, truly establishing bad faith is very, very difficult and should not be sugarcoated with the sentiment that the provisions in the Indemnity Agreement do not have any teeth, because they do!

 

 

Keep in mind that a performance bond guarantees performance under a contract.  Once a bond is furnished, it is rarely advisable to abandon a job or refuse to perform because it puts the surety in a compromising position where it will likely need to complete the subcontractor’s performance in order to mitigate its exposure and liability.  Here, the subcontractor’s surety was willing to finance the subcontractor’s work until the subcontractor was virtually complete.  All the subcontractor had to do was complete its work when it was 99% complete and work with and cooperate with the surety since the best course of action in the long run may have been for these entities to work together to recover monies that the general contractor owed the subcontractor and/or figure out how the subcontractor would reimburse the surety.  However, based on what the surety may have construed as an obstinate position by the subcontractor, the surety incurred additional expenses and elected to pursue its options against the subcontractor and guarantors under the all mighty Indemnity Agreement.

 

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

“FORFEITURE” PROVISIONS IN INSURANCE POLICIES

UnknownInsurance policies contain what are referred to as “forfeiture” provisions.  These are provisions where an insured through its actions / conduct can arguably forfeit coverage under the policy for a peril or claim that would otherwise be covered under the policy.  Typical examples of forfeiture provisions are post-loss obligations contained within the policy such as submitting timely notice, submitting a proof of loss, or complying with an examination under oath provision in a policy. As it pertains to these post-loss obligations (submitting timely notice, submitting a proof of loss, or agreeing to submit to an examination under oath), an insured should comply with them in order to remove any argument from the insurer that the insured forfeited coverage through non-compliance.

 

The recent case of Axis Surplus Ins. Co. v. Caribbean Beach Club Association, Inc., 39 Fla. L. Weekly D1350c (2d DCA 2014), demonstrates how an insurer can waive a forfeiture provision in a policy.  In this case, the insured condominium had a property insurance policy.  Fire was a covered peril under the policy.  The policy also contained additional coverage (at an additional insurance premium) through an Ordinance or Law Coverage endorsement.  This endorsement stated:

 

 

“b. With respect to the Increased Cost of Construction:

(1) We will not pay for the increased cost of construction:

(a) Until the property is actually repaired or replaced, at the same or another premises; and

(b) Unless the repairs or replacement are made as soon as reasonably possible after the loss or damage, not to exceed two years. We may extend this period in writing during the two years.”

 

A fire damaged the property in April 2003.   After the governing authority inspected the damage, in late 2004, it implemented the 50% rule that provided “if a building is more than 50% damaged, any reconstruction or repair must comply with current building codes.”  This is the reason the insured condominium paid the additional premium for the Ordinance or Law Coverage endorsement. The implementation of this rule resulted in a huge increase to required construction costs because this meant that the condominium would need to replace the damaged building to comply with current flood elevation codes.

 

Initially, the insurer was cooperating with the insured condominium and was prepared to pay for the replacement work for the fire damage since fire damage was a covered peril.  It engaged a contractor that prepared a replacement estimate and intended to pay the full replacement cost.  However, in late June 2005, more than two years after the fire damage, the insurer told its insured condominium that it will not pay the increased costs of construction pursuant to the endorsement as it would rely on the two-year clause contained in the endorsement that provided: “Unless the repairs or replacement are made as soon as reasonably possible after the loss or damage, not to exceed two years. We may extend this period in writing during the two years.”  In other words, since the repairs were not made within two years from the loss or damage and never extended by the insurer, the insurer was denying the increased construction costs as a consequence of the governing authority requiring the repairs to comply with current code requirements.

 

The insured filed a lawsuit against the property insurer arguing that the insurer waived the right to rely on the two-year repair period in the endorsement.  The insured argued that the two-year provision was essentially a forfeiture provision that an insurer can waive.  The Second District agreed that the two-year provision was a forfeiture provision and, relying on Florida law, explained:

 

Florida law abhors forfeitures. As a result, [i]f an insurer intends to stand on any forfeiture reservation, it should inform the insured as soon as practicable after it has ascertained facts upon which it bases its forfeiture.  It is equally well established that when an insurer has knowledge of the existence of facts justifying a forfeiture of the policy, any unequivocal act which recognizes the continued existence of the policy or which is wholly inconsistent with a forfeiture, will constitute a waiver.

Caribbean Beach Club Association, supra (internal citations and quotations omitted).

 

Based on this law, the Second District held that the insurer waived its right to rely on this two-year forfeiture provision.  The insurer knew about the two-year provision to complete repairs from the date of loss and never brought it to its insured’s attention knowing full well that its insured expected that the insurer was going to pay the claim including the increased costs of construction as the result of the local governing authority implementing the 50% rule.  And, the insurer continued to adjust the claim even after the two-year window actually expired.   Since the insurer was not substantially prejudiced by the insured’s noncompliance with the two-year provision, and the insurer could not support that it was prejudiced, the Second District found that the two-year window did not apply and the insured was entitled to the increased costs of construction per the endorsement. To that end, the Court further held:

 

The trial court correctly found as a matter of law that the two-year clause was a forfeiture provision waived by Axis [insurer]. When an insurer acquiesces to an insured’s failure to strictly adhere to a timetable of payment or performance, courts are inhospitable to the insurer’s sudden invocation of strict enforcement of forfeiture provisions.”

Caribbean Beach Club Association, supra.

 

For more information on forfeiture provisions, such as complying with post-loss obligations in a policy, please see: https://floridaconstru.wpengine.com/complying-with-post-loss-policy-conditions-under-an-insurance-policy/.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

MILLER ACT REQUIREMENT FOR SUPPLIER ON AN ONGOING OR OPEN ACCOUNT

UnknownSuppliers oftentimes rent or furnish supplies or equipment on credit to a customer (such as a subcontractor) on an ongoing or open account.  Under this scenario, the supplier typically has its customer enter into a credit application (ideally, where there is a personal guarantor) and then there may be a sales or rental agreement (or purchase order) documenting the costs of the supplies bought or rented in accordance with the account.

 

The case of Romona Equipment Rental, Inc. ex rel. U.S. v. Carolina Casualty Ins. Co., 2014 WL 2782200 (9th Cir. 2014), illustrates an argument raised against a supplier of rental equipment in a federal Miller Act payment bond action when the supplier rented equipment to a subcontractor on an open account.  In this case, the subcontractor entered into a credit application with the supplier that established the open account for the subcontractor to rent equipment on a federal construction project.  The rental equipment that the subcontractor would utilize would be documented by rental agreements and corresponding invoices. The subcontractor entered into 89 rental agreements with the supplier where the supplier furnished the rental equipment on credit.   Around this time, the prime contractor terminated the subcontractor from the project leaving the subcontractor owing the supplier substantial sums of money for the rental equipment.

 

 

The supplier served the prime contractor with its notice of nonpayment within 90 days of the last day it furnished rental equipment (as it was required to do under the Miller Act since the supplier was not in privity of contract with the prime contractor).  The supplier then filed suit against the prime contractor’s Miller Act payment bond for the unpaid rental charges.  The prime contractor and surety argued that the supplier’s notice of nonpayment was untimely as to ALL the rental equipment furnished to the construction project more than 90 days before service of the notice.  The prime contractor and surety further argued that the supplier failed to mitigate its damages by continuing to supply equipment despite nonpayment. At trial, the district court held that the supplier’s notice of nonpayment covered ALL rental equipment the supplier furnished to the subcontractor for the project in light of the open book account.  The district court further held that the supplier’s duty to mitigate damages occurred 4 days after the subcontractor was terminated and, therefore, the supplier was not entitled to recover for rental equipment after this date.

 

The main issue on appeal to the Ninth Circuit Court of Appeals was whether the supplier’s notice of nonpayment was timely as to ALL rental equipment furnished on an open book account more than 90 days before the notice.   Stated differently, the issue was whether each rental agreement created, in essence, a separate contract with a separate requirement to serve a notice of nonpayment within 90 days from the last date the specific equipment was furnished pursuant to each rental agreement.   The Ninth Circuit, relying on precedent from the First, Fourth, and Fifth Circuits, affirmed that: “if all the goods in a series of deliveries by a supplier on an open book account are used on the same government project, the ninety-day notice is timely as to all of the deliveries if it is given within ninety days from the last delivery.”  Romona Equipment Rental, supra, at *3.   This is a good ruling for suppliers!

 

Interestingly, while the Ninth Circuit agreed with the district court as to the date when the supplier’s duty to mitigate occurred (4 days after the subcontractor was terminated), there was discussion on this issue.  It turned out that the subcontractor originally paid its supplier the first 9 invoices for rental equipment, but then only paid 2 of the remaining  invoices.  The supplier ceased renting equipment to the subcontractor when it learned that the subcontractor was terminated from the project.   Yet, before the subcontractor was actually terminated, the subcontractor and prime contractor were trying to resolve the issues that led to the subcontractor’s termination (not uncommon).  Thus, the supplier had a good faith belief that the issues would get resolved and it would get paid. Also, the subcontractor and supplier had a longstanding relationship and the supplier was currently furnishing equipment on another federal project and was being paid by the subcontractor.  For these reasons, the Ninth Circuit explained that, “Although Ramona [supplier] failed to alert Candelaria [prime contractor] to Otay’s [subcontractor] delinquency until the seventy-eight invoices from Otay were overdue, this does not render the district court’s conclusion-that Romona had commercially reasonable justifications for choosing not to mitigate its damages prior to June 10, 2008 [4 days after the termination]—illogical.”  Romona Equipment Rental, supra, at *4.

 

This dialogue raises an interesting issue regarding the mitigation of damages defense (or duty to mitigate losses/damages) raised by a prime contractor or surety when a supplier goes unpaid for an extended period of time but continues to furnish supplies or equipment.  The point of termination raised an easy line of demarcation as to when the credit for rental equipment needed to be cut off.  But, what if the subcontractor was not terminated and the supplier continued to rent equipment despite nonpayment? Even though the supplier typically expects payment net 30 days and does not have a pay-when-paid provision in its rental agreements or purchase orders, it still many times will give its customer (e.g., subcontractor) the appropriate slack while its customer is awaiting payment, especially a longstanding customer, a good customer, or when it has a good faith belief that it will ultimately get paid.  Also, as it relates to rental equipment, while the supplier can stop furnishing new rental equipment, it is not that easy simply showing up to a project (let alone a federal project) unannounced and removing equipment being rented on a monthly or daily rate.  So, there are definitely commercially reasonable justifications where a supplier will continue to let an account grow when it is not getting timely paid.  The key for the supplier to establish that it tried to mitigate its losses is to lay the foundation that it sent communications to its customer and its customer’s customer (such as the prime contractor) regarding the delinquent account and its expectation that the equipment  be returned when it becomes apparent (or the supplier is concerned) that it may not get paid (or when it no longer has the good faith belief that it will get paid).  In Romona Equipment Rental, although the prime contractor likely knew the subcontractor was renting construction equipment (and was not in a position to pay unless the subcontractor received payment), the prime contractor still argued that the supplier should have notified the prime contractor of the subcontractor’s delinquent account as a means to mitigate damages.

 

For more information on a supplier’s burden of proof in a Miller Act action, please see: https://floridaconstru.wpengine.com/suppliers-burden-of-proof-in-a-miller-act-payment-bond-claim/.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.