Insurance Policy Dispute in Chinese Drywall Litigation

Homebuilders, homeowners and commercial contractors are in limbo whether damage caused by the tainted drywall and its removal will be covered by their respective insurers. In nearly all cases involving Chinese drywall, experts say a court's decision will vary by state and, in some cases, by jurisdiction within that state.

As defined by the Insurance Services Office Inc., standard pollution exclusions in a general liability policy define pollution incident as an emission, discharge, release or escape of pollutants into or upon land, the atmosphere or any watercourse or body of water provided that such emission, discharge, release or escape results in environmental damage.

Further, the exclusion states that pollutants include any solid, liquid gaseous or thermal irritant or contaminant, including smoke, vapor, soot, fumes, acids, alkalis, chemicals and waste.

Lawyers, risk management consultants, brokers and insurers agree that the terms of the exclusion are broad. Some, however, say the exclusion shouldn't apply in cases involving Chinese drywall because it never was meant to apply to a situation like this.

Insurers believe that (using the pollution exclusion) is their best likelihood of success to bar coverage, said Matthew L. Jacobs, a partner in Jenner & Block L.L.P.'s Washington office and a member of its insurance litigation and counseling department. I think it's completely inapplicable in this situation, but I think insurers are betting on defining the pollutant as gases, vapors and fumes?and that the drywall constitutes a pollutant.

More than 500 million pounds of the tainted drywall was imported into the United States between 2004 and 2007, most of it traced to Chinese subsidiaries of German manufacturer Knauf Plasterboard Tianjin Co. Ltd. Consumers who bought homes built with the drywall, mainly in the Southeast, allege a sulfuric-type gas released by the drywall not only emitted a noxious smell but also damaged wiring and some appliances. 

 

More than 3,000 lawsuits have been filed in U.S. courts on the issue affecting nearly 100,000 homes. Insurers also have filed lawsuits against builders (see story, page 19).

Craig Stanovich, principal and consultant with Holden, Mass.-based Austin & Stanovich Risk Managers L.L.C., said insurers have relied on the language within the pollution exclusion that focuses on release of a contaminant or irritant to deny coverage to builders and homeowners.

Industrial pollution was the intent of the pollution exclusion, Mr. Stanovich said, meaning that it was designed to protect insurers against discharge of pollutants from manufacturers, such as an oil spill. If you read the exclusion literally, you'll see that's what it was designed for. The intent of the exclusion was never to apply for something like this. I think insurers intend to use it as a defense until judges uphold it.

In March, a New Orleans Parish Civil District Court ruled that Audubon Insurance Co.'s pollution exclusion in its homeowners policy could not be used as an affirmative defense to deny coverage of a Chinese drywall claim. The case, Simon Finger and Rebecca Finger vs. Audubon Insurance Co., hinged on an all-risks policy the couple purchased from Baton Rouge, La.-based Audubon, a subsidiary of American International Group Inc.

Audubon denied the claim, citing its pollution and contamination; gradual or sudden loss; and faulty, inadequate or defective exclusions as the reason for denial. However, Judge Lloyd J. Medley ruled that the burden of proof is on the insurer to define what claims are denied, adding that exclusions must be interpreted as narrowly as possible to provide maximum coverage for the insured.

Louisiana's judicial climate typically is favorable to the policyholder, Jenner & Block's Mr. Jacobs said, adding that Florida is more pro-insurer. But he said the Chinese drywall event is similar to previous issues with polyurethane, which has been found to include carbon monoxide, nitrogen oxide and hydrogen cyanide, yet it is used in products such as sealants and adhesives.

The difference is, on polyurethane there is a warning label on it that says it's toxic, Mr. Jacobs said. Drywall doesn't have that?This exclusion was intended for the purpose of industrial pollutants when it was written. They didn't know it would be applying to Chinese drywall.  

The task force was to investigate policy form language and claims settlement practices regarding pollution exclusions.

The task force found the exclusions have been used to disavow coverage even though there was no underlying pollution incident which would justify the use of the exclusion. The task force also said its members were concerned that the broad definition given to the term 'pollutant' creates an opportunity for abuse.

Doug Garfinkel, executive vp at AmWINS Brokerage of Illinois in Chicago, said there has not been an abrupt rush to amend pollution exclusions on policies, though the broker has seen specific language excluding coverage for Chinese drywall coverage.

With pending litigation, insurers may be hesitant to specifically modify their current policies until courts adjudicate the intent and scope of the various pollution exclusions, Mr. Garfinkel said. I suspect if insurers modify the language further, plaintiffs will attempt to show the courts that such actions only validate their claims that coverage should be affirmed.

Copyright 2010 Crain Communications Inc. All Rights Reserved. May 20, 2010