Is Coverage Hiding in Your Insured Contracts?

Insured Contract Definition: How It Works

If there is an occurrence under the policy, a policyholder, or its indemnitee, may have a claim under the policyholder's CGL policy if the policyholder agreed to indemnify the indemnitee for third-party, non-contractual claims. Specifically, an “insured contract” may be defined as:

That part of any other contract or agreement pertaining to your business (including an indemnification of a municipality in connection with work performed for a municipality) under which you assume the tort liability of another party to pay for “bodily injury” or “property damage” to a third person or organization. Tort liability means a liability that would be imposed by law in the absence of any contract or agreement.

ISO Form CG 00 01 12 04.

In 2004, ISO offered an endorsement to amend the insured contract definition, adding the following language after the phrase, “to a third person or organization”: “provided the 'bodily injury' or 'property damage' is caused, in whole or in part, by you or by those acting your behalf.” ISO Form CG 24 26 07 04. In both instances, an insured contract is defined as an underlying agreement where the insured agrees to indemnify an indemnitee for a third party's non-contractual bodily injury or property damage claims against the indemnitee.

For example, a subcontractor may agree to indemnify a contractor against all claims arising out of the subcontractor's performance of its contract. The subcontractor in a typical situation will have CGL coverage for insured contracts. After completion of a project, the owner may sue the contractor for property damage caused, in part, by the subcontractor's negligence. Assuming that the property damage is otherwise a covered occurrence (and not otherwise excluded) under the subcontractor's insurance policy, both the subcontractor and the contractor may be able to assert claims for coverage against the subcontractor's insurer. In such situations, as noted above, parties and even courts may disagree on how to interpret the insured contract exception, including how to determine what constitutes an insured contract and tort liability.

Is the Underlying Contract an Insured Contract?

To determine whether the underlying agreement is an insured contract, courts should look to the language of the agreement and not the pending claims against the indemnitee. In other words, an insured contract exists if a policyholder agrees in an underlying contract to indemnify another party for its non-contractual liability to third parties, regardless of whether a third party sues an indemnitee for tort liability. See, e.g., Leaf River Cellulose, LLC v. Mid-Continent Cas. Co. , No. 2:11-CV-54, 2012 U.S. Dist. LEXIS 73103, *22-23 (SD Miss. May 25, 2012) (detrmining whether an “insured contract” exists via the language of the underlying agreement); Lubrizol Corp. v. Nat'l Union Fire Ins. Co., 200 Fed. Appx. 555, 562 (6th Cir. 2006) (holding that courts must look to the indemnity agreement to determine whether the insured is obligated to assume another's tort liabilities).

In Leaf River, the insurer argued that the court should only look to the underlying claims against the indemnitee to determine whether the insured contract exception applied under the contractual liability exclusion. Leaf River at *22. The insurer argued that because the bodily injury to the third party was not caused in whole or part by its insured, the indemnification provision could not constitute an insured contract. Id. The court disagreed, stating that the “operative phrase” in the insured contract exception is ambiguous and must be interpreted in favor of the insured “because it could either describe the terms of the indemnity agreement or the particular injury at issue in any case to which the policy is applied.” Id. at *23. Accordingly, the court held that if the insured agrees to indemnify another for its tort liability, then such an indemnification provision is an insured contract notwithstanding the underlying third-party claims against the indemnitee. Id .; see also Legge Assocs. v. Dayton Power & Light Co., No. 95-4043, 1997 U.S. App. LEXS 8702, *19 (6th Cir. Apr. 22, 1997) (“Under the policy, once a contract is deemed an 'insured contract,' it is covered.”).

Some courts, however, do not agree with this approach and, instead, look to the underlying claims against the indemnitee to determine whether the damages stemming from an insured contract are covered under the policy. See, e.g., KBS, Inc. v. Great Am. Ins. Co. of N.Y., No. 3:04cv730, 2006 U.S. Dist. LEXIS 88520, *27-28 (E.D.Va. Dec. 7, 2006) (holding that if the underlying third-party claims against the indemnitee do not include “tort liability” claims, “then there is no insured contract status”); Ewing Constr. Co. v. Amerisure Ins. Co., 814 F. Supp. 2d 739, 749 (S.D.Tex. 2011) (holding that the exception is only triggered if the underlying complaint alleges a tort cause of action); Maxim Indem. Co. v. Jimenez, 318 Ga. App. 669, 674 (2012) (noting that the exclusion is inapplicable where the underlying claim is not predicated on tort liability).

Further, a minority of courts hold that if an indemnity agreement is void or unenforceable under state law that prohibits one party from assuming liability for another party's negligence, then there may be no coverage for an insured contract. As set forth by one court, if “an anti-indemnification statute prohibits an indemnitee” from “seeking indemnification for its own negligence, it cannot achieve the same result by requiring its indemnitor to procure insurance for that unenforceable indemnity obligation.” True Oil Co. v. Mid-Continent Cas. Co., No. 02-CV-1024, 2005 U.S. Dist. LEXIS 48477, *79 (D.Wy. Feb. 8, 2005); see also Certain London Mkt. Ins. Co. v. Pa. Nat'l Mut. Cas. Ins. Co., 106 Fed. Appx. 884, 886 (5th Cir. 2004) (holding that there is no valid basis for tort liability where an anti-indemnification statute exists).

Other courts, however, hold that because the policy does not specifically limit “insured contracts” to enforceable indemnity agreements, insurers cannot rely on anti-indemnity statutes as a basis to deny coverage. See, e.g., Gilbane Bldg. Co. v. Empire Steel Erectors, L.P., No. H-08-1717, 2010 U.S. Dist. LEXIS 121808, *15 (SD Tex. Nov. 16, 2010) (holding that the issue of enforceability is irrelevant with respect to whether there is coverage for the indemnification agreement); Martin County Coal Corp. v. Universal Underwriters Ins. Servs., No. 08-93, 2010 U.S. Dist. LEXIS 158, *13 (E.D.Ky. Jan. 4, 2010) (same). Notably, and no doubt in response to these and similar holdings, ISO modified the insured contract definition in 2013 to include the following language: “However, such part of a contract or agreement shall only be considered an 'insured contract' to the extent your assumption of the tort liability is permitted by law.” ISO Form CG 24 26 04 13.

The Meaning of 'Tort Liability'

An indemnification contract will only be covered as an insured contract if the policyholder assumes the “tort liability” of the indemnitee. Although the definition of “tort liability” is a murky area for courts, the definition in the policy is actually broader than “tort liability” as commonly understood in the legal community. For instance, the policy may state that “[t]ort liability means a liability that would be imposed by law in the absence of any contract or agreement.” ISO form CG 00 01 12 04. (emphasis added). “Liability” is not defined in the policy and is generally construed broadly by courts. See, e.g., Providence Journal Co. v. Travelers Indem. Co., 938 F. Supp. 1066, 1078 (D.R.I. 1996) (“[L]iability is a broad and expansive concept”); Black's Law Dictionary (10th ed. 2014) (defining liability as
“[t]he quality, state, or condition of being legally obligated or accountable; legal responsibility to another or to society, enforceable by civil remedy or criminal punishment; A financial or pecuniary obligation in a specified amount.”).

Under this definition, “tort liability” should include any non-contractual liability, including tort, statutory, and any other non-contractual liability. See, e.g., Gibson Assocs. v. Home Ins. Co., 966 F. Supp. 468, 479 fn4 (ND Tex. 1997) (noting that constitutional takings claims arguably fall within the broad definition of “tort liability” under the policy). However, some courts, contrary to the policy language, very narrowly hold that “tort liability” only applies to the assumption of the indemnitee's negligence liability to a third party. See Lieffort v. Dakota, Minn. & E.R.R. Co., 702 F.3d 1055, 1059 (8th Cir. 2013) (“To establish the existence of an insured contract under the terms of the ' policy, there must be an obligation to indemnify a party against its own negligence.”); see also Hankins v. Pekin Ins. Co., 305 Ill. App. 3d 1088, 1093 (1999) (stating that an “insured contract” is where one party assumes another party's negligence). In addition to providing a narrower definition for “tort liability” than the policy language allows, such courts' limiting “tort liability” to negligence claims is problematic for another reason ' as discussed above, some states prohibit one party from assuming liability for another party's negligence. See True Oil, 2005 U.S. Dist. LEXIS at *79. Further, the 2013 amendment to the definition of insured contract limits an insurer's liability to enforceable indemnity agreements. ISO Form CG 24 26 04 13. In such states, if “tort liability” is limited to the assumption of only another party's negligence liability, the exception may in effect be written out of the policy entirely.

Other courts, while refusing to limit the definition of “tort liability” to negligence alone, hold that only certain “tort” liabilities may be covered under the policy, e.g., negligence or vicarious liability. See, e.g., United Rentals, Inc. v. Mid-Continent Cas. Co., 843 F. Supp. 2d 1309, 1314 (S.D.Fla. 2012) (limiting “tort liability” to vicarious liability). These courts take a more expansive view but still improperly limit the definition of “tort liability” to one that is narrower than the language of the contract. The policy itself is clear ' if, in the underlying agreement, the policyholder agrees to indemnify an indemnitee for the indemnitee's non-contractual liability to third parties, the indemnifying parties have an insured contract.

Indemnitee's Direct Action Against Insurer

Under certain policies, an “additional insured” may include “[a]ny person or organization ' whom the named insured has agreed by written 'insured contract' to designate as an additional insured ' .” United Rentals at 1312 fn. 5; Leaf River, 2012 U.S. Dist. LEXIS 73103 at *31. In such instances, courts allow the indemnitee to assert coverage claims directly against the policyholder's insurers. See Leaf River at *31. However, even when an indemnitee is not listed as an additional insured, some courts have held that an indemnitee stands in the shoes of the insured and can bring a direct action against the insurance company. Marlin v. Wetzel County Bd. of Educ., 569 S.E.2d 462, 468-469 (W.Va. 2002) (holding that indemnitee can directly assert coverage under indemnitor's contract); Krieger v. Wilson Corp., 139 N.M. 274, 287 (2005) (holding that the indemnitee can bring a direct action against the indemnitor's insurance company because “as a potential indemnitee under an insured contract, [the indemnitee] can reasonably claim to stand in the shoes of [the] insured.”); Consolidated Coal Co. v. Boston Old Colony Ins. Co., 508 S.E.2d 102, paragraph seven of the syllabus (W.Va. 1998) (holding that “when a party has an “insured contract,” that party stands in the same shoes as the insured for coverage purposes”).

In Marlin, the owner and insured contractor entered into an indemnity agreement whereby the insured agreed to indemnify the owner from any claims arising from the insured's performance of the contract. Marlin, 2012 W.Va. at 218. Subcontractors made claims against the owner and the insured for bodily injury caused by asbestos exposure. Id. at 219. The owner demanded, pursuant to the insured contract exception, that the contractor's insurer assume its defense and provide indemnity coverage for the asbestos injuries. Id. The insurer refused to honor any coverage responsibilities to the owner, asserting that it was only required to provide defense and indemnity coverage to its insured. Id. The court disagreed with the insurer, holding that as a result of the insured contract, the owner “stands in the same shoes” as the insured “for coverage purposes” and “may directly seek coverage under the policy.” Id. at 222. In so holding, the court determined that the “policy insured any sums which [the contractor] was 'legally required to pay as damages because of bodily injury or property damage,' including any liability ' assumed by [the contractor] under the indemnification provision of the construction contract.” Id. Because the indemnity agreement shifted responsibility for the third party tort claims from the owner to the contractor, the liability was also shifted to the insurer. Id.

However, other courts disagree, holding that an indemnitee has no standing to sue a policyholder's insurance company directly. See, e.g., Carye v. Granite State Ins. Co., No. 281-5-08, 2008 Vt. Super. LEXIS 56, *8-10 (Sup. Ct. Vt. Oct. 7, 2008) (dismissing indemnitee's complaint against indemnitor's insurance company and criticizing courts allowing direct actions in connection with insured contracts); Tremco, Inc. v. Manufacturers' Ins. Co., 2002 Phila. Ct. Com. Pl. LEXIS 39, *26 (Jun. 27, 2002) (holding that the indemnitee cannot enforce a provision of a contract to which it is not a party).

Many jurisdictions have not yet ruled on whether an indemnitee can assert a direct claim or bring a direct action against the indemnitor's insurer. In other jurisdictions, the guidelines are clear. Accordingly, policyholders and indemnitees should carefully investigate and consider their rights under the applicable law to assert coverage under the indemnitor's policy. To best assure protection, before entering into an indemnification agreement, the indemnitee should consider requiring that the policyholder indemnitor add the indemnitee as an additional insured under the insurance policy.

Conclusion

Although the application of the “insured contract” exception may be confusing to policyholders and courts alike, parties to an indemnification agreement, including policyholders and non-policyholders, should not shy away from asserting coverage in connection with property damage or bodily injury liability related to insured contracts. All of the confusion among the courts, policyholders, and insurers is an indicator that the “insured contract” policy language may well be ambiguous. In such situations, the insured contract exception should be interpreted in favor of coverage.

Paul A. Rose, a member of this newsletter's Board of Editors, and Bridget A. Franklin are Partners at Brouse McDowell, Akron, OH.