New Jersey Appellate Court Holds That Coverage Exists for Consequential Damages Caused By Subcontractors’ Defective Work

By Denise N. Yasinow, Loly G. Tor, and Christopher A. Barbarisi, K&L Gates, Newark

This past summer, the Superior Court of New Jersey, Appellate Division issued a favorable decision for owners, real estate developers, and general contractors regarding insurance coverage for damages caused by the faulty work of their subcontractors.  In Cypress Point Condominium Association, Inc. v. Adria Towers, LLC,[1] the Court held that unexpected and unintended consequential damages caused by a subcontractor’s defective work constitutes “property damage” caused by an “occurrence” under a commercial general liability (“CGL”) insurance policy.  Thus, these types of consequential damages are recoverable.

The Cypress Point decision roundly rejected the Third Circuit’s opinion in Pennsylvania National Mutual Casualty Insurance Co. v. Parkshore Development Corp.,[2] which concluded that faulty workmanship performed by a contractor or a subcontractor that causes damage to the general contractor’s work is not an “occurrence.”

In Cypress Point, the plaintiff, a condominium association, brought an action against the association’s developer, the developer’s two insurers, and various subcontractors.  The developer served as the general contractor on the condominium project and hired the subcontractors to perform all construction work.  The plaintiff sought coverage from the insurers under the developer’s CGL policies for consequential damages caused by the subcontractors’ defective work.  According to the plaintiff, the subcontractors improperly installed the roof, flashing, gutters and leaders, brick and EIFS facade, windows, doors, and sealants.  The faulty workmanship caused consequential damages to the common areas of the condominium complex and to the unit owners’ property.

The trial court granted summary judgment to one insurer and dismissed the complaint against the other insurer as moot, determining that there was no “property damage” or “occurrence” as required by the policy to trigger coverage.

On appeal, the plaintiff raised two main arguments.  First, the plaintiff argued that under a plain reading of the policy language, consequential damages constitute “property damage” and an “occurrence.”  Second, the plaintiff argued that the trial judge erroneously placed substantial reliance on the holdings in Weedo v. Stone–E–Brick, Inc., 81 N.J. 233 (1979) and Firemen’s Insurance Co. of Newark v. National Union Fire Insurance Co., 387 N.J. Super. 434 (App. Div. 2006) to determine whether there existed “property damage” and an “occurrence.”

On the first argument, the Cypress Point Court found that consequential damages constitute “property damage” and an “occurrence” as defined in the policy.  On the second argument, the Court concluded that the trial judge erroneously applied the holdings in Weedo and Firemen’s and readily distinguished the cases on two grounds.  First, the Court concluded that Weedo and Firemen’s involved only replacement costs of correcting the defective work itself (cost of replacing stucco in Weedo and replacing firewalls in Firemen’s) rather than the costs of curing consequential damages caused by defective work.  Second, the Court concluded that Weedo and Firemen’s interpreted different language than the policy language at issue in Cypress Point.

Indeed, the policies in Weedo and Firemen’s followed the Insurance Services Office, Inc.’s (“ISO”) 1973 standard CGL form (the “1973 ISO form”) whereas the policy in Cypress Point followed the 1986 standard CGL form (the “1986 ISO form”).  The Court found that there are two critical differences between the 1973 ISO form and the 1986 ISO form.  First, “occurrence” is defined differently.  Second, and most importantly, the 1986 ISO form includes a significant exception for subcontractors in the “Your Work” exclusion, which states: “[t]his exclusion does not apply if the damaged work or the work out of which the damage arises was performed on your behalf by a subcontractor.”  The 1973 ISO form contains no subcontractor exception to the “Your Work” exclusion.  As such, the Court found that the subcontractor exception demonstrates that consequential damages caused by a subcontractor’s faulty workmanship are considered differently than property damage caused by a general contractor’s work.  Therefore, a developer would “reasonably expect that consequential damages caused by the subcontractors’ faulty workmanship constituted ‘property damage’ caused by an ‘occurrence.’”

The Cypress Point decision is significant to policyholders, as New Jersey has joined the current majority of states holding that defective construction work causing consequential damages gives rise to an “occurrence” and “property damage.”  Furthermore, as long as the policies at issue follow the 1986 ISO form rather than the 1973 ISO form, there is a strong argument under New Jersey law that consequential damages from defective work performed by a subcontractor are always recoverable by additional insureds, such as the general contractor, the developer, and/or the owner.

[1] 441 N.J. Super. 369 (App. Div. 2015)

[2] 403 F. App’x 770, 772 (3d Cir. 2010)