Builders Risk Insurance – Faulty Workmanship Exclusion

03 / 04 / 2008

The “faulty workmanship” exclusion was very recently considered by the B.C. Supreme Court in Ploutos Enterprises v. Stuart Olson, 2008 BSCS 271. In the Ploutos case, the insurer (Commonwealth Insurance Company) was entitled to exclude coverage for a general contractor based on the faulty workmanship exclusion.

The decision is notable for restating the necessity of damage to property other than the faulty item itself; and for emphasizing a policy rationale to support this interpretation.

Commonwealth Insurance Company issued a builders risk policy for a condominium project, with the developer, the general contractor (Stuart Olson) and Stuart Olson’s subcontractors as named insureds.

Hardwood flooring installed in the condominium failed and had to be completely removed and replaced using a different installation method. The suit concerned (i) determining the party responsible for the removal and replacement costs and (ii) whether the Commonwealth insurance policy provided coverage.

The Commonwealth policy had an exclusion clause for “the cost of making good faulty workmanship, construction materials or design unless physical damage not otherwise excluded by this Policy results, in which event this Policy shall insure such resulting damage.”

Commonwealth argued the exclusion clause operated because of faulty workmanship, faulty design and faulty construction materials.

The Court held that the exclusion clause applied. As such, Commonwealth was justified in refusing insurance coverage. The reasons may be summarized as follows:

1. The damaged item was the very thing that was designed in a faulty or improper manner or which constituted faulty workmanship. Moisture testing carried out on the hardwood flooring amounted to faulty workmanship. The lack of a moisture barrier amounted to a faulty design and faulty equipment.

2. There was no “resultant damage” to anything except the hardwood floor itself. Resultant damage is damage to some part of the insured property other than the part that was designed in a faulty manner.

3. Use of the word “unless” in the exclusion clause did not change its meaning (other forms of the exclusion use the word “but”).

4. The Court noted that even if it accepted that the word “unless” gave the clause some different meaning, the phrasing “shall insure such resulting damage” must be taken to mean that what is insured is resulting physical damage and only resulting physical damage.

5. Policy reasons suggested that the general contractor should not be able to recover. The Court held that “It would be an inappropriate spreading of the risk if an insured were able to recover such loss. The contractor or designer would theoretically be able to charge a full price for the work, save money by being careless, and then rely on the insurer to pay for the cost of correcting the mistakes.” The Court noted that a contrary argument would be inconsistent with the notion that “policies of insurance should be interpreted in a manner consistent with the general economic purpose of insurance.”

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