Court Rules that Collapse Coverage for Damage Caused “Only By” Specified Perils Violates Efficient Proximate Cause Rule and is Unenforceable

In Vardanyan v. Amco Ins. Co. (No. F069953, filed 12/11/15) a California appeals court held that policy wording that the collapse coverage for damage “caused only by” certain specified perils did not mean “solely” by those specified perils, but that coverage may nonetheless apply even if excluded causes contributed to the loss, under the Insurance Code section 530 and the efficient proximate cause rule.

In Vardanyan, the insured made a claim for water damage from unknown origin to a rental house. An engineer concluded that the various sources of moisture—roof leaks, gutters and downspouts that did not channel the water away from the house, a faucet spraying water on the exterior of the house, leaking toilet and bathtub, and humidity—contributed to the damage to the house, along with poor construction, termite damage and decay.

The insurer denied coverage citing multiple policy exclusions, including damage caused by seepage or leakage of water from a plumbing system; deterioration; mold, wet or dry rot; settling of foundations, walls or floors; earth movement; water damage; neglect; weather conditions; acts or decisions of any person; and faulty or defective design, workmanship, repair, construction, or maintenance. The insured retained a public adjuster who disagreed, in particular citing the policy’s “Other Coverage 9” coverage for collapse of a building or part of a building “caused only by one or more” of a list of perils, including hidden decay, hidden insect damage, and weight of contents, equipment, or people.

In the subsequent bad faith lawsuit, evidence presented by both sides showed multiple causes of the damage. The insured’s theory was that the coverage for collapse due to hidden decay or hidden insect damage applied if either of those perils was the predominant cause of the collapse of the structure.

The case came down to jury instructions. The insured requested that the trial court give a standard jury instruction explaining that, when a loss is caused by a combination of covered and excluded risks, the loss is covered if the most important or predominant cause is a covered risk. (California Civil Jury Instruction “CACI” No. 2306.) The insurer instead proposed a special jury instruction placing the burden on the insured of proving that the collapse of the house was “caused only by one or more” of the perils listed in the collapse coverage. The special jury instruction specified that there was no coverage if the cause of the collapse involved any peril other than those listed. Over the insured’s objection, the trial court used the insurer’s special instruction, on a theory that it was mandated by the wording of the insurance policy. The result was a verdict for the insurer.

The appeals court agreed that was error. The Vardanyan court began by noting the difficulty courts have had in reconciling Insurance Code section 530, which states that a loss is covered notwithstanding policy exclusions if the proximate cause of the loss is a covered peril, and Insurance Code section 532, which states that a loss is excluded if it would not have occurred “but for” an excluded peril, even if a covered peril was the “immediate” cause. The Vardanyan court said that the issue had been decided by the California Supreme Court in Sabella v. Wisler (1963) 59 Cal.2d 21, which established the general “efficient proximate cause” rule: “‘[I]n determining whether a loss is within an exception in a policy, where there is a concurrence of different causes, the efficient cause—the one that sets others in motion—is the cause to which the loss should be attributed, though the other causes may follow it, and operate more immediately in producing the disaster.’” The Vardanyan court then engaged in an extensive analysis of the case law applying the rule to different policy provisions and different losses to conclude that the special jury instruction adopted by the trial court had violated that rule:

“The combination of a listed, covered peril or perils, with a host of potential unspecified, unlisted perils is in itself problematic. A reasonable insured would not anticipate that a listed, covered peril, if combined with some completely unrelated, unspecified peril, would result in an exclusion of coverage. This is particularly true when the provision is a coverage provision, not an exclusion; a reasonable insured would understand that, if one of the specified perils was the predominant or most important cause of the collapse, the loss would be covered….

We conclude [that the insured’s] interpretation of the [the policy] is the correct interpretation, consistent with the efficient proximate cause doctrine. A policy cannot extend coverage for a specified peril, then exclude coverage for a loss caused by a combination of the covered peril and an excluded peril, without regard to whether the covered peril was the predominant or efficient proximate cause of the loss. Other Coverage 9 identifies the perils that are covered when the loss involves collapse. If any other peril contributes to the loss, whether the loss is covered or excluded depends upon which peril is the predominant cause of the loss. To the extent the term ‘caused only by one or more’ of the listed perils can be construed to mean the contribution of any unlisted peril, in any way and to any degree, would result in the loss being excluded from coverage, the provision is an unenforceable attempt to contract around the efficient proximate cause doctrine.”

The Vardanyan court also pointed out that the special jury instruction had improperly shifted the burden of proof to the insured, despite the fact that the policy was an “all risk” policy, placing the burden on the insurer to establish that coverage was excluded: “Thus, the burden was on [the insurer] to prove not just collapse, but collapse other than as provided in Other Coverage 9.”

While finding against the insurer on coverage, the appeals court handed the insurer a victory on the trial court’s directed verdict on punitive damages, ruling out punitive damages on retrial. The insurer’s claim representatives admitted denying coverage without ever considering whether collapse coverage might apply, nor did they advise the insured of potential coverage for lost rents, hidden decay damage, or hidden termite damage, in violation of the regulations requiring disclosure of all benefits, coverages, time limits, or other provisions of the insurance policy that may apply to the claim presented. (10 Cal. Code Reg., § 2695.4(a).) In addition, the insured’s request for claims documents and a copy of the policy had been ignored. (10 Cal. Code Reg., § 2695.5(b).) Nor did the claim representatives seek a legal opinion, despite the claim by the insured’s public adjuster that collapse coverage applied.

The Vardanyan court did find that the claim representatives were “managing agents” sufficient to attach punitive damages to the corporation. The court said that “managing agents” include those corporate employees who exercise substantial independent authority and judgment in their corporate decision-making so that their decisions ultimately determine corporate policy. Quoting Egan v. Mutual of Omaha Ins. Co. (1979) 24 Cal.3d 809, the Vardanyan court said that “The determination whether employees act in a managerial capacity, however, does not necessarily hinge on their ‘level’ in the corporate hierarchy. Rather, the critical inquiry is the degree of discretion the employees possess in making decisions that will ultimately determine corporate policy. When employees dispose of insureds’ claims with little if any supervision, they possess sufficient discretion for the law to impute their actions concerning those claims to the corporation.

The claim handler testified she was employed by the insurer, and was assigned to handle the insured’s claim. Her title was senior property claims representative, and later master property claims representative. When she needed authorization for certain actions, such as hiring an independent adjustor or sending out a letter, she obtained it from her manager, who was the claims manager responsible for the insured’s claim. Seven other claims representatives also reported to the manager. The claim representative had prepared the letter to plaintiff denying coverage, and her manager approved it before it went out. Those two were the only employees involved in the decision to deny the claim. That evidence was sufficient to raise an issue of fact for the jury regarding whether they were “managing agents” for purposes of an award of punitive damages.

However, the violations of the regulations and apparent “intentional” conduct of the claims personnel were insufficient to support punitive damages: “Punitive damages are appropriate if the defendant’s acts are reprehensible, fraudulent or in blatant violation of law or policy. The mere carelessness or ignorance of the defendant does not justify the imposition of punitive damages. Punitive damages are proper only when the tortious conduct rises to levels of extreme indifference to the plaintiff’s rights, a level which decent citizens should not have to tolerate.” Thus, “we conclude, as the trial court did, that there is no evidence of sufficient substantiality to support a verdict in favor of the plaintiff on his claim for punitive damages. [] The evidence may be consistent with some improprieties in claims handling, but it does not rise to the level of reprehensibility necessary to support an award of punitive damages.”

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January 8, 2016