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Wrap-Up Insurance Policies: How Claims Can Raise Issues of Subrogation, Third Party Liability, Other Insurance
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July 20, 2009
By Jill B. Berkeley
INTRODUCTION
Among the many good reasons that wrap-up insurance policies are purchased for construction projects, seamless claims-handling certainly is one of the most important. As an obvious extension of claims-handling, defense of claims is a key service provided by wrap-ups. While there has been much talk about the benefits of insuring all parties to a construction project under one policy, little is said about what happens when one or more of the parties is sued for claims covered by the wrap-up. This paper will examine cases involving third party liability, subrogation and other insurance issues that may not have been expected by the parties participating in the wrap-up.
BENEFITS OF THE WRAP-UP
Before examining how wrap-ups may not work as expected, the beneficial effects on claims-handling of the wrap-up should be acknowledged. They can include:
|  | Reducing the significant third party liability facing upstream parties from claims of injured employees of subcontractors.
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| | Improved defense as a result of coordinating litigation and getting input from all parties on the project.
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| | Eliminating subrogation actions by multiple insurers.
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| | Eliminating tenders to additional insurers.
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| | Providing adequate policy limits and extended completed operations coverage; using solvent insurers.
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| | Consistency in claims-handling, defense counsel and document control.
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| | Eliminating the need to notify multiple insurers or lines of insurance.
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| | Eliminating cross-claims by and against insured parties.
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| | Avoiding fault allocations.
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| | Avoiding the cost of defending cross-claims.
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| | No artificial inflation of the value of plaintiff’s case by defendants’ cross-claims.
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The wrap-up’s main impact on claims is elimination of cross-claims among parties to the project. Without the distraction of having to prosecute a case against other defendants, the defense can be handled more vigorously and economically.
The second main impact is elimination of the need to procure additional insured coverage. The owner and general contractor do not have to spend the transactional time and expense of securing certificates of insurance, verifying additional insured endorsements, tracking updates, tendering coverage and pursuing coverage. The advantage of the wrap-up is the “buck stops here,” a refreshing change from the insurer attitude of “anyone but us.”
WRAP-UP PROBLEMS
Other than potential coverage issues, the biggest problem with the defense provided by a wrap-up insurer is the gap in the relationship between the OCIP or CCIP insurer and all of the parties insured. The insurer negotiated with a broker representing only the Named Insured; it does not have any business relationship with any of the other parties who are enrolled. Therefore, when the claims come in, all parties have to rely on the structure of the program designed for the benefit of the Named Insured.
As the authors of a guide to wrap-ups noted:
From the perspective of the involved contractors, relying primarily on insurance purchased by the owner or prime contractor, while remaining contractually responsible for the risk of loss can be a problem. While they are “insureds” under these policies, the insurer, administrator, and agent/broker personnel who service the program can fall into the trap of considering the CIP sponsor as “the client,” forgetting that all the project participants are actually insureds under the program and also “clients.” CIP sponsors also sometimes fall into this trap, in effect demanding that the broker, administrator, and insurer(s) look at them as the primary client. This attitude will often result in service deficiencies for the insured contractors, and can cause other problems due to certain conflicts of interest that can arise when one party buys insurance on behalf of another. These situations will be avoided if the sponsor of the program realizes that it will be necessary to sometimes make decisions in the best of interest of the project rather than looking solely at its own perspective and also insists that the CIP team consider all the involved contractors to be clients who deserve superior service and fair treatment.
The Wrap-Up Guide, Chapter 2: Construction Wrap-Ups, Benefits of a CIP (Construction Publications 4th ed.).
In most cases, there should not be a problem. After all, each insured will be provided an attorney who has the professional responsibility to zealously defend the client, even if all parties are represented by the same counsel. The problem lies in the fact that the defense lawyer may devise a strategy that will protect the Named Insured and CIP insurer, but the result may in fact adversely impact another insured. This scenario is played out in the cases examined below. It may be argued that the situation is no different from the more typical circumstance in which an upstream defendant (Developer, Owner, General Contractor), as an additional insured, has to rely on the insurance provided by the subcontractor’s insurer. However, the liability situation is reversed. In the wrap-up, the defense may be handled from the viewpoint of a unified defense, but the wrap-up insurer is interested in pushing liability downstream.
As in cases in which a subcontractor has named the general contractor as an additional insured, certain rules apply to prevent the insurer from suing its own insured. The same rules apply to wrap-ups.
In National Union Fire Insurance Co. of Pittsburgh, Pa. v. State Insurance Fund, 213 A.D.2d 164, 623 N.Y.S.2d 558 (1st Dept. 1995), an employee of a demolition subcontractor was hurt while working at the Port Authority Bus Terminal in New York City. He sued the Port Authority and CGR Construction, the general contractor. National Union had issued a wrap-up policy on the project. State Insurance Fund was the worker’s compensation insurer for the demolition subcontractor. National Union assumed the defense of the primary defendants and instructed defense counsel to file a third party complaint against the employer and then assumed its defense by appointing independent counsel. National Union settled the case and then sued the State Insurance Fund to collect 50 percent of attorney fees incurred in defending the third party complaint.
State Fund raised the anti-subrogation rule based on the fact that the employer was an insured under the wrap-up policy. 1/ Under New York law, the third party claim was prohibited because the subrogated claim arose from the same risk that National Union covered and created a potential conflict of interest. Had the case not been settled, the third party complaint should have been dismissed.
In Romano v. Whitehall Properties, LLC, 18 Misc.3d 343, 852 N.Y.S.2d 645 (N.Y. Sup. 2007), aff’d, 59 A.D.3d 697, 873 N.Y.S.2d 745 (2d Dept. 2007), a subcontractor’s employee fell through a hole in the temporary flooring of a building owned by Whitehall. The project was insured under an OCIP, which included liability and worker’s compensation coverage paid for by Whitehall but insuring all participants. Travelers issued the primary worker’s compensation and commercial general liability policies. Westchester Fire issued the excess policy. The suit was settled for $4 million paid by Travelers as CGL insurer and $2 million by Westchester Fire as excess insurer. Defendants asserted that Travelers had no right to assert a worker’s compensation lien because of the anti-subrogation rule. Although the rule applies to bar an insurer from bringing an action against its own insured, the court held that the anti-subrogation rule does not apply when there are two distinct and separate policies that cover different risks. Travelers issued two policies, one providing general liability coverage and the second providing worker’s compensation coverage. Travelers’ rights and duties with respect to its lien were created by statute and stemmed from the third-party settlement and not from the insurance contract. Therefore, the court ruled that there was no potential conflict of interest and the anti-subrogation rule did not apply. It allowed Travelers to recoup its worker’s comp lien. 2/
One of the older cases arising out of a wrap-up resulted in an unusual situation. Alyeska Pipeline Service Co. v. H.C. Price Co., 694 P.2d 782 (Alaska 1985). Alyeska, operator of the Trans-Alaska Pipeline System, contracted with a joint venture, PPCO, to build a pipeline. Alyeska obtained a wrap-up policy but paid for the insurance through retrospective premiums. A PPCO employee was severely injured and recovered $3 million. The wrap-up insurer paid $1 million on behalf of PPCO and $1 million on behalf of Alyeska. Because Alyeska had to repay the wrap-up insurer under its retrospective premium plan, it sued PPCO for indemnity for the premium attributed to PPCO. PPCO claimed that Alyeska was an insurer and was not entitled to sue PPCO. Apparently there was no provision in the contract shielding PPCO from becoming liable for the insurance that Alyeska was contractually obligated to procure. The court agreed that the effect of a wrap-up insurance program with retrospective premiums was to render Alyeska self-insured with respect to losses caused solely by its own negligence. However, that did not make Alyeska an insurer. The court ruled that there was no danger of a conflict of interest because Alyeska owed PPCO no fiduciary duties. The court held that the indemnity agreement was broad enough to cover the insurance premiums, even though Alyeska was obligated to provide the insurance under the contract. Since this case, many parties have come to appreciate that when the contract obligates the indemnitor to purchase insurance, the indemnity agreement should exclude Indemnitor’s insurance premiums.
| 1. | Exclusive Remedy Against Employers
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The elimination of cross-claims is one of the major benefits of the wrap policy. The issue of what direct liability still exists for an employer had an interesting beginning under wrap-ups. Should the “exclusive remedy” for employers extend to the provider of the wrap-up, even if it is not the direct employer?
In Washington Metropolitan Area Transit Authority v. Johnson, 467 U.S. 925, 104 S.Ct. 2827 (1984), employees of contractors that performed underground work on the Washington Metropolitan Area Transit Authority (WMATA) subway sustained respiratory injuries as a result of exposure to high levels of silica dust and other industrial pollutants. The injured employees all filed worker’s compensation claims and received compensation awards. The employees then instituted third-party negligence actions against WMATA or Bechtel Associates Professional Corp., D.C., the safety engineer for the project.
At the time of their alleged injuries, the employees were employed by construction companies under contract to WMATA to build segments of the project. These contractors did not purchase worker’s compensation insurance for their employees. Instead, WMATA purchased insurance to cover all workers on the project. Because it had obtained and paid for worker’s compensation insurance required by 33 USC. §904(a), WMATA asserted that it was entitled to the statutory immunity accorded an “employer” under §905(a). The U.S. Court of Appeals for the District of Columbia rejected the argument, holding that a closer analysis of the language and purpose of the statute showed that WMATA was not required to provide worker’s compensation insurance. Voluntary provision of such insurance did not entitle WMATA to the employer immunity provided by §905(a). Johnson v. Bechtel Associates Professional Corp., D.C., 717 F.2d 574 (D.C. Cir. 1983).
On appeal to the U.S. Supreme Court, WMATA argued that its wrap-up insurance plan was the only effective way to ensure that all workers would be covered by worker’s compensation insurance at all times. The court agreed, holding that WMATA was entitled to immunity from the tort actions brought by injured employees. It noted that In order to prevent workers from going uninsured, WMATA went to the considerable effort and expense of purchasing wrap-up insurance. Rather than waiting to obtain insurance until contractors had failed to do so, WMATA guaranteed that every Metro contractor would satisfy and keep satisfied its primary statutory obligation to obtain worker’s compensation coverage by providing wrap-up coverage.
The result did not last long. Congress responded by amending the statute, declaring that the decision did not comport with legislative intent. Thus, the majority rule has become allowing third party claims, even when the worker’s compensation insurance is provided by the third party.
The Named Insured of a wrap-up also will be a liability target for the general safety of the project. Given the importance of safety in a wrap-up, one might assume that the Named Insured’s liability for violation of safety rules would be a foregone conclusion. In the world of insurer-controlled defense, however, that has not stopped wrap insurers from arguing that the Named Insured was not liable for controlling safety.
Two recent cases, both arising from the Soldier Field CCIP, provide interesting examples of how the joint control over defense in a wrap-up policy can lead to a peculiar defense strategy. In each, a personal injury suit was brought by an employee of a subcontractor against the joint venture that acted as construction manager. Liability was alleged to arise under Restatement (Second) of Torts, §414, which provides that one who entrusts work to an independent contractor but who retains control over any part of the work is subject to liability.
The defense, provided by the CCIP wrap insurer, argued that the CM did not have sufficient control to be liable under §414. However, In both cases, the court concluded that the CM’s safety requirements and regular safety monitoring with authority to halt unsafe work sufficiently affected the means and methods of work to support a finding of “retained control.” In fact, one of the major benefits of wrap insurance is the imposition of a safety program on all subs and vigorous enforcement of safety rules by the CM or general contractor.
In Aguirre v. Turner Construction Co., 501 F.3d 825 (7th Cir. 2007), an employee of the masonry subcontractor fell from scaffolding. The court emphasized the safety requirements specific to scaffold construction and noted that the CM’s employees regularly walked the site and could stop unsafe work. Further, the defendants inspected the scaffolds and imposed specific alternative design requirements on the scaffold from which the plaintiff fell.
In Hendy v. TBMK Joint Venture, an unpublished decision from the Illinois Appellate Court, No. 1-07-0124 (2008), the court reversed a decision dismissing the plaintiff’s case, concluding that the allegations in the complaint sufficiently stated a cause of action under §414 against the CM. The plaintiff was an employee of an engineering company and was injured when the crane being used in pile-driving operations shifted due to loose fill. The plaintiff alleged the CM allowed loose rock and construction debris to be used as fill to support the crane, which was in contravention of safety program requirements. The defendant argued that its contractual right to stop unsafe work and the presence of its safety coordinators at the site were not enough to constitute “retained control” under §414. The appellate court rejected the argument.
Whether a wrap-up insurer may take advantage of other insurance, either the subcontractor’s existing non-wrap-up CGL or other umbrella coverage, often is litigated when the OCIP primary insurer becomes insolvent. The excess umbrella insurers for the wrap-up continually look for ways to avoid their insurance obligations. They have relied on horizontal exhaustion principles to assert that umbrella insurance should not be available until the exhaustion of all other primary insurance.
One twist on the issue of what is “other insurance” in the context of an OCIP was addressed by the Illinois Appellate Court recently in Virginia Surety Co. v. Adjustable Forms, Inc., 382 Ill.App.3d 663, 888 N.E.2d 733 (2008). An employee of Adjustable Forms was injured on the River East project while working on a tower crane that allegedly malfunctioned. The employee sued the project’s property owners, the general contractor and others for his personal injuries. The defendants filed a third party complaint against Adjustable Forms.
The owner-controlled insurance program provided worker’s compensation and employer’s liability insurance for the project and its subcontractors, including Adjustable Forms. Because Adjustable Forms was to be included in the OCIP, it had reduced its bid by $526,793, which is what it would have paid for insurance coverage absent inclusion in the OCIP. Adjustable Forms also warranted that it omitted from its bid the cost of coverage provided under the OCIP and that it had the “responsibility to notify [its] own insurance carrier to exclude from [its] regular insurance policies all Work to be done under this Contract.”
The OCIP insurer became insolvent and was placed in liquidation. The Illinois Insurance Guaranty Fund stepped into the OCIP insurer’s shoes, defended Adjustable Forms and paid worker’s compensation benefits to the worker. It then sought reimbursement from Virginia Surety, Adjustable Forms’ non-OCIP worker’s compensation insurer, for the benefits paid and defense costs incurred in defending Adjustable Forms.
Virginia Surety’s first notice of the injury was a letter sent to it by Adjustable Forms 2½ years after Adjustable Forms was served in the underlying lawsuit and approximately 5 years after the injury.
Virginia Surety asserted that Adjustable Forms selected the insolvent carrier and not Virginia Surety to pay worker’s compensation coverage to the worker and to defend the underlying action. 3/ Virginia Surety also asserted that Adjustable Forms breached the policy’s terms because Adjustable Forms failed to notify Virginia Surety immediately of the injury and to promptly forward the litigation documents. The guaranty fund responded that the Virginia Surety policy was “other insurance” as provided in Illinois Insurance Code §546(a) and had to be exhausted before the guaranty fund provided coverage under the OCIP policy.
The Appellate Court rejected the guaranty fund’s claim that the Virginia Surety policy was “other insurance.” It recognized that Virginia Surety did not collect and retain a premium from Adjustable Forms for worker’s compensation coverage on the River East project. Indeed, after conducting an audit, Virginia Surety had returned the estimated premium that Adjustable Forms had paid for the River East project before receiving notice of the injury.
SOLVING PROBLEMS
One way to avoid the problems that arise when cross-claims are made is to obtain an endorsement prohibiting them. For example, a Zurich Joint Defense Endorsement from a professional liability policy that was part of a wrap-up provides:
No claims, counterclaims, cross-claims or third party claims for negligence, contribution, indemnification, subrogation or otherwise, arising out of any circumstance or claim reported and covered under this policy (regardless whether is or may be less than, within or in excess of the deductible) may be asserted by a Named Insured against another Named Insured. As a condition of coverage under this policy, all Named Insureds agree to waive, release and relinquish any such claims to the extent of coverage available under this policy.
The endorsement also put all insureds on notice that a “Unified Defense” approach would be mandatory, which requires that every insured waive any potential conflict of interest.
Given the control by the insurer and the unified approach to safety and risk management, it is incumbent upon the Named Insured and wrap insurer to address claims-handling issues in the procurement stage. As one commentator noted, best practices require that these issues be addressed before inception of the program.
In particular, the design of the CIP and the communication process should focus on the common concerns and problems contractors encounter in structuring their administrative functions and insurance programs to accommodate CIPs. Some of the more common complaints are disconnects between the risk allocated in the contract documents and the responsibility for financing them, disruption of their own insurance programs, additional administrative burden, inability to correctly value insurance costs for the CIP bid, higher cost for safety efforts, coordination of general liability and auto liability coverage for loss events, conflicts of interest in the adjustment of claims, inability to manage CIP loss investigation and a potentially negative impact upon the contractor’s own insurance program.
Some of these issues are more problematic for contractors that have never before performed work insured under a wrap-up than for contractors who have. Experienced wrap-up contractors adjust more easily to the requirements of the different CIPs under which they are insured. In either case, a well structured CIP, particularly one that allows the general contractor to provide meaningful input into its design on behalf of all the contractors, will overcome these issues. Thus, it is helpful for anyone designing CIPs to have a thorough understanding of these issues so that they can be mitigated or avoided altogether.
The Wrap-Up Guide, Chapter 2: Construction Wrap-Ups, Mitigating Contractor Concerns (Construction Publications 4th ed.).
CONCLUSION
Wrap-ups have solved major problems in the complex world of construction insurance. Still, even though they have been used for more than 20 years, the problems arising from cross-claims, anti-subrogation and other insurance issues have not all been resolved. As litigation ensues, the market matures.
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ENDNOTES
| 1/ | See, Pennsylvania General Insurance Co. v. Austin Powder Co., 68 N.Y.2d 465, 510 N.Y.S.2d 67 (1986); North Star Reinsurance Corp. v. Continental Insurance Co., 82 N.Y.2d 281, 604 N.Y.S.2d 510 (1993).
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| 2/ | The “different policies and different risk” defense is not universally followed. The Romano result, however, may be correct because of the statutory creation of the worker’s compensation lien rather than the fact that there were different policies. See, Cox v. International Paper Co., Inc., 234 A.D.2d 757, 651 N.Y.S.2d 230 (3d Dept. 1996); Hailey v. New York State Electric and Gas Corp., 214 A.D.2d 986, 626 N.Y.S.2d 912 (4th Dept. 1995).
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| 3/ | The “selection” defense is a reference to Illinois’ targeted tender rule. See, Kajima Construction Services, Inc. v. St. Paul Insurance Co., 227 Ill.2d 102, 879 N.E.2d 305 (2007).
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