News - November 2005

• New Statute Bars "Type I" Indemnity In Residential Defect Claims (New Legislation)
• Detrimental Reliance on Insurer’s Investigation Bars Limitation Defense
• Limitation Period on Suit for Defense Costs is Tolled
• Insured Entitled to Trial, Despite Defective Opposition to MSJ

< Return to News page

Top of Page

New Statute Bars "Type I" Indemnity in Residential Defect Claims

California Governor Arnold Schwarzenegger has recently signed legislation which prohibits builders from enforcing “Type I” indemnity provisions against subcontractors in connection with residential construction defect claims.

Background

For many years, California has allowed construction contracts to contain “Type I” indemnity provisions (i.e., provisions which allow a builder to obtain indemnification from a subcontractor for all losses except those resulting from the builder’s sole negligence or willful misconduct).  As a result, builders have often been successful in requiring a subcontractor to assume liability for the builder’s own concurrent negligence, and to assume liability for all expenses the builder incurs in defending against lawsuits alleging such negligence.

Subcontractors have long complained that such Type I indemnity provisions are fundamentally unfair and unnecessarily drive up the subcontractors’ costs.  This is especially true in the context of construction defect claims. 

In light of this situation, over the last few years, several subcontractor trade groups have lobbied the California Legislature to limit Type I indemnity provisions.  This lobbying effort has produced Assembly Bill 758 (AB 758), which Governor Schwarzenegger recently signed into law. 

Overview of AB 758

AB 758 amends California Civil Code section 2782 by making certain indemnity provisions unenforceable.  Some of the main features of AB 758 are as follows:

• It applies to residential construction contracts and amendments entered into after January 1, 2006.  Contracts signed before 2006, even if not performed until 2006, are exempt from the new rules. 
• It prohibits Type I indemnity agreements, which are defined as “indemnity agreements by a subcontractor to indemnify a builder against liability for claims that arise out of, pertain to, or relate to the negligence of the builder or the builder’s other agents, other servants, or other independent contractors who were directly responsible to the builder.”  It further prohibits such agreements as to claims that do not arise out of, pertain to, or relate to the scope of work in the written agreement between the parties.
• It only applies to residential construction projects, not to commercial projects.  Thus, under AB 758, it will still be permissible for a builder to pursue Type I indemnity rights against a subcontractor in connection with a commercial project.
• It only applies to construction defect claims, not to personal injury claims.
• It only applies to indemnity provisions in favor of a “builder” (statutorily defined as someone in the business of selling residential units to the public).  A “builder” includes the developer itself, but apparently does not include an independent general contractor who is not affiliated with the developer.  Thus, if a builder hires an independent general contractor, the general contractor should still be able to obtain Type I indemnity from its subcontractors.  
• It does not limit an insurer’s potential obligations under Presley Homes, Inc. v. American States Ins. Co. (2001) 90 Cal. App. 4th 971.  The Presley case holds that an insurer who issues an “additional insured” endorsement to a builder may have a duty to defend the builder against the entire action, even though most of the claims against the builder are not potentially covered.

Comment

AB 758 significantly limits the scope of indemnification that builders may obtain from subcontractors performing residential construction in California.

Note that while AB 758 prohibits Type I indemnity agreements as to construction defect claims, the bill does not prohibit additional insured endorsements for such claims.  Presumably, builders will still insist upon additional insured endorsements which will cover them for their own negligence.  Whether insurers will make such endorsements available to California subcontractors remains to be seen.

We anticipate that these recent statutory amendments will generate significant litigation over the next several years.  Builders can be expected to attack the constitutionality of the code section as well as its application to various factual situations.  Therefore, it will likely be some time before the full impact of AB 758 is understood. 

Top of Page

Detrimental Reliance on Insurer’s Investigation Bars Limitation Defense

The California Court of Appeal has ruled that an insured’s allegation that it relied on its insurer’s investigation of damage was sufficient to establish a basis for equitable estoppel to bar a limitations defense. (Doheny Park Terrace Homeowners Association, Inc. v. Truck Insurance Exchange (2005) 132 Cal.App.4th1076)

Facts

Doheny Park Terrace Homeowners Association owned property that was damaged by the 1994 Northridge earthquake, and submitted a claim to Truck Insurance Exchange.  After inspecting the property, Truck concluded that the damage did not exceed Doheny Park’s deductible.

Doheny Park did nothing further until February 2003, when it retained an expert to inspect the property.  Doheny Park’s expert concluded that the damage caused by the Northridge earthquake exceeded the deductible.  Doheny Park filed suit against Truck for breach of contract, breach of the implied covenant of good faith and fair dealing and fraud. 

In its complaint, Doheny Park alleged: (1) Doheny Park made a claim to Truck for damage arising out of the Northridge earthquake; (2) Doheny Park entrusted Truck to assess the damage; (3) Truck’s representative, a purported expert in the evaluation of property damage, concluded that the cost to repair the covered damages did not exceed the policy deductible; (4) the conclusion of Truck’s expert was a misrepresentation; (5) Truck intentionally misled Doheny Park by making such a representation; (6) Truck failed to fully and properly inspect the property, but led Doheny Park to believe the contrary; and (7) Doheny Park reasonably relied on Truck’s representation that the damage to the property was below the deductible.

The trial court sustained Truck’s demurrer without leave to amend, concluding that Doheny Park had not timely filed its action and that Doheny Park had failed to allege facts sufficient to establish a basis for the application of the doctrine of equitable estoppel.  The Court of Appeal reversed.

Holding

The Court of Appeal held that Code of Civil Procedure Section 340.9 (which revived certain claims for damages suffered in the Northridge earthquake) did not supplant the doctrine of equitable estoppel as to time-barred actions.  The Court also held that Doheny Park had pled facts which, if proved, would raise an equitable estoppel.

Comment

The Court flatly rejected the notion that the Code of Civil Procedure Section 340.9 supersedes the application of equitable estoppel in Northridge earthquake claims.

However, the impact of this case extends far beyond cases arising out of the Northridge earthquake.  Although any insured can allege detrimental reliance on an insured’s investigation, many insureds will find it difficult to actually prove reasonable detrimental reliance.

Top of Page

Limitation Period on Suit for Defense Costs is Tolled

The California Court of Appeal has held that the statute of limitations on an insured’s suit for breach of the duty to defend is equitably tolled until the underlying action is resolved by final judgment.  (Eaton Hydraulics, Inc. v. Continental Casualty Company (2005) 132 Cal.App.4th 966)

Facts

Eaton Hydraulics purchased an umbrella liability policy from Continental Casualty.  Various third parties, including the EPA and the State of California, pursued administrative proceedings and litigation against Eaton for alleged soil and groundwater contamination.  Eaton filed two insurance coverage actions.

First, in April 1996, Eaton sued its primary-level liability insurers seeking defense and reimbursement of costs related to the EPA’s administrative proceedings.  Eaton did not specifically name Continental Casualty as a defendant, although Eaton identified various “Doe” defendants in that suit as “Excess Insurers” that had a duty to defend and indemnify Eaton. 

Second, in September 2001, Eaton sued the same primary-level insurers, as well as Continental Casualty, for damages arising from breach of the duty to defend and indemnify Eaton in the EPA administrative proceedings and in a related lawsuit the EPA and State of California filed.  In a demurrer, Continental Casualty argued that Eaton’s claims accrued in April 1996 when Eaton filed the first lawsuit, and that Eaton’s second lawsuit filed in September 2001 was barred by the four-year statute of limitations for breach of written contract.

Holding

The Court of Appeal held that an insured’s cause of action for breach of the duty to defend accrues when its liability insurer denies a defense, not when the insured files a lawsuit.  Eaton did not allege, in either of its lawsuits, the date on which Continental Casualty denied a defense.  Even assuming that Eaton’s claim had accrued by April 1996, an insurer has a continuing duty to defend. Thus, the doctrine of equitable tolling suspended the running of the statute of limitations on Eaton’s duty to defend claim until the underlying actions were resolved by final judgment.

Comment

This case diminishes the effectiveness of a liability insurer’s statute of limitations defense in duty to defend cases by virtue of the equitable tolling doctrine.  This case also reiterates the principle that, on demurrer, a statute of limitations defense will prevail only if all the necessary elements for that defense are clearly alleged in the complaint.

Top of Page

Insured Entitled to Trial, Despite Defective Opposition to MSJ

The California Court of Appeal has ruled that, when an insurer files a motion for summary judgment, and the insured files opposition papers that are procedurally defective but nonetheless establish that a material issue of fact exists, it is an abuse of discretion for the trial court to enter summary judgment in favor of the insurer.  (Parkview Villas Association, Inc. v. State Farm Fire & Casualty Co. (2005) 2005 DJDAR 13010)

Facts

Parkview Villas Association, Inc. submitted a claim to State Farm for damages arising from an earthquake.  State Farm retained engineers to inspect the property, determined the cost of repair of the complex to be approximately $214,000, and issued payment for the amount in excess of the deductible.

At least initially, Parkview did not contest the amount of State Farm’s payment.  However, Parkview eventually filed suit for breach of contract and bad faith.  According to Parkview, the actual cost to repair the damage to the complex was in excess of $1.5 million.

Prior to trial, State Farm moved for summary judgment, asserting there was no dispute it had paid for all covered damage.  State Farm further asserted that—even if State Farm owed additional amounts on the policy—State’s Farm investigation and adjustment was reasonable as a matter of law, and did not amount to bad faith.

Parkview opposed State Farm’s motion for summary judgment, and submitted declarations from various witnesses, including an engineer, a general contractor and an independent claim adjuster.  The basis for Parkview’s opposition was clear, and both State Farm and the trial judge understood the grounds for Parkview’s opposition.  However, because Parkview’s opposition papers did not comply with certain procedural requirements of the California Rules of Court, the trial court granted State Farm’s motion for summary judgment.

Holding

The Court of Appeal held that the trial court’s granting of State Farm’s motion was an abuse of discretion.  The court reasoned that Parkview established that a factual dispute existed about whether State Farm owed additional amounts on the policy and whether State Farm’s initial assessment of the damage was reasonable, and that it was clear that both State Farm and the trial court understood the basis for Parkview’s opposition. 

Although Parkview’s opposition papers did not comply with the California Rules of Court, the trial court should not have responded by granting State Farm’s motion but instead should have responded by imposing a monetary sanction against Parkview, ordering Parkview to file corrected opposition papers and continuing the hearing to a later date.

Comment

This case reiterates California’s strong public policy in favor of deciding cases after trial rather than disposing of cases before trial.  This case further establishes that, in the context of a motion for summary judgment, if a responding party’s papers are procedurally deficient but nonetheless establish that material issues of fact exist, the trial court should not grant the motion for summary judgment.

Top of Page