COVERED The Quarterly Newsletter for Policyholders and Brokers

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1 Winter 2015 From the Partners Desk: Everyone at Theall Group wishes you the very best for this coming year. And we have good news to share! Based on the Abuzour decision, there is now a way for judgment creditors to recover claims for economic loss directly from an errors and omissions insurance policy. Previously, the Ontario Court of appeal had held that only claims for injury to the person or property of another were recoverable directly from a defendant s insurer under the Insurance Act. In Abuzour, the court found an alternative, allowing the claimant to garnish the amounts under the insurance policy. In Acciona, for the first time in Canada, a court was asked to interpret the LEG 2/96 exclusion wording found in many course of construction policies. Under this exclusion, the costs that would have remedied or rectified the damage before it occurred were excluded, but the court found there was coverage for the significant costs to rectify the damage itself. - Larry Theall Finally a Solution! Proceeds Payable Under LawPro E&O Policy Are A Debt Subject To Garnishment By Judgement Creditors by James Norton Ever since the oft-criticized Perry decision, LawPro has hidden behind s.132 of the Insurance Act to avoid paying judgment creditors. Judgment creditors could only access insurance proceeds available to the judgment debtor in those cases where their claim was for injury or damage to the person or property of another i.e. not for economic losses. In a case that appears to be of first instance, judgment creditors were successful using garnishment to obtain indemnity under a LawPro errors and omissions policy that had insured their lawyers. The court rejected the insurer s position that insurance proceeds payable were not a debt subject to garnishment and the plaintiffs recovered their economic losses effectively circumventing s.132. Read the complete article on page 2. B.C. Supreme Court Finds Workmanship/Design Exclusion Does Not Exclude Costs To Remedy Damage Caused By Defective Workmanship by Camille Dunbar The British Columbia Supreme Court recently released its decision in Acciona Infrastructure Canada Inc. v. Allianz Global Risks US Insurance Company, which considered, for the first time in Canada, the LEG 2/96 clause, a workmanship/design exclusion clause. The Court also re-affirmed a number of insurance interpretation principles, particularly in relation to Course of Construction policies (sometimes referred to as Builders risk policies), including the definition of damage to insured property and whether a loss must be fortuitous in order to trigger coverage. Read the complete article on page 5. 1

2 Finally a Solution! Proceeds Payable Under LawPro E&O Policy Are A Debt Subject To Garnishment By Judgement Creditors by James Norton Ever since the oft-criticized Perry decision, 1 LawPro has hidden behind s.132 of the Insurance Act to avoid paying judgment creditors. Judgment creditors could only access insurance proceeds available to the judgment debtor in those cases where their claim was for injury or damage to the person or property of another i.e. not for economic losses. In a case that appears to be of first instance, judgment creditors were successful using garnishment to obtain indemnity under a LawPro errors and omissions policy that had insured their lawyers. 2 The court rejected the insurer s position that insurance proceeds payable were not a debt subject to garnishment and the plaintiffs recovered their economic losses effectively circumventing s.132. Originally, the plaintiffs were successful plaintiffs in an oppression remedy action. Settlement of that action in April, 2013 included payment to their lawyer s trust account of cash and bank drafts totalling over $3.6 million. The lawyer, through his professional corporation (hereinafter PC ), refused to release the settlement funds in accordance with the settlement, alleging concerns over the validity of the bank drafts. This forced the plaintiffs to bring motions to obtain, over the following 8 months, what turned out to be several court orders, including a contempt order, to compel PC to release the funds. These orders were ultimately useless to the plaintiffs because the lawyer left the country, trust money in hand. The plaintiffs, left with court orders against the lawyer and PC turned to LawPro for indemnification. LawPro is the insurance company that provides professional liability insurance to lawyers practicing in Ontario. The LawPro policy for 2013 contains the following coverage grant: A. Damages To pay on behalf of the INSURED all sums which the INSURED shall become legally obligated to pay as DAMAGES arising out of a CLAIM, provided the liability of the INSURED is the result of an error, omission or negligent act in the performance of or the failure to perform PROFESSIONAL SERVICES for others. It is also mandatory for Ontario lawyers to carry innocent party coverage, the purpose of which is to protect members of the public against fraudulent acts of lawyers. In this case, PC had $1 million of coverage for fraud during the relevant policy period. The $1 million limit was inclusive of investigative and defence costs. In other words, the policy limit was diminished any costs and expenses incurred in respect of defence and/or investigation of the claim reduced the amount available under the policy. The plaintiffs served LawPro with a notice of garnishment in excess of $3.6 million based on the court orders previously obtained. By way of LawPro s responding garnishee s statement, LawPro opposed the attempt to garnishee the policy on 1 Perry v. General Security Insurance Co. of Canada 1984 CarswellOnt 671, [1984] I.L.R O.R. (2d) 472, 4 O.A.C. 209, 7 C.C.L.I Abuzour v. Heydary 2014 CarswellOnt 15476, 2014 ONSC 6229 Continued on page

3 Continued from page 2: Finally a Solution! two grounds: (1) that the obligations under the policy were not a debt subject to garnishment under the Rules of Civil Procedure [specifically Rule 60.08] and (2) that LawPro had investigative and defence obligations to other individual lawyers associated with PC, the discharge of which may reduce are exhaust the policy limit in the future. Rule of the Rules of Civil Procedure provides that a creditor under an order for the payment or recovery of money may enforce it by garnishment of debts payable to the death or by other persons. LawPro argued that the LawPro policy obliged it to pay on behalf of the insured all sums which the insured became legally obligated to pay to a third-party as a result of a claim. In other words, as it had no obligation to pay anything to PC, there was no debt and, therefore, garnishment could not apply. In support of this position, LawPro relied upon a decision of the Ontario Superior Court ( Austin ) 3 where the judge was dealing with possible garnishment of a fire loss policy. Under the fire policy, the insured had an election to repair or replace or to receive a cash value payment. The court reasoned that if the insured elected to receive the cash value, this could be a debt and subject to garnishment but that if the insured decided to repair or replace the damaged dwelling, the insurer would then pay the costs of such directly to a contractor. Based on a contextual interpretation of the terms of the policy, the court concluded that in this latter case, the garnishee would not be in violation of the notice of garnishment if the proceeds of insurance were paid to third-party contractors instead of being paid to the Sheriff. Ultimately, the Ontario court determined that the Austin decision did not support the position advocated by LawPro as the commentary relied upon by LawPro was obiter. As there appeared to be no Canadian legal authority directly on point, the court turned to American decisions. Based on US case law, the court determined that the failure of a liability insurer to pay a judgment rendered against the insured upon a claim within the coverage of the policy constituted a breach of a condition of the contract and, by reason thereof, the insurer became indebted to the insured. In the context of garnishment, US courts have held that when a liability policy is involved and the insured has become legally liable to a third-party for claim covered by the policy, a debt arises from the insurer to the insured. Consequently, if the insurer does not pay the third-party, the insured, as promise under the policy, has a cause of action against the insurer and that cause of action of the insured is an asset of the insured, which can be taken for his debt by garnishment. In one particular case, the court permitted garnishment even though the language in the indemnity policy did not require the insurer to indemnify the insured for sums that the insured pays to third persons; instead, the wording of the liability policy was virtually identical to the LawPro policy coverage grant to pay on behalf of the insured all sums which the insured shall become legally obligated to pay. Taking into account the important factor that the 2013 policy was mandatory insurance, the court reasoned that it should not promote form over substance and thereby thwart public policy objectives behind mandatory insurance. The judge was clearly influenced by the fact that all lawyers in Ontario must have innocent party insurance precisely to protect the public against the type of fraud that was the subject of this garnishment. Courts should avoid interpretations that could render 3 Austin Powder Ltd. v. Howard 2003 CarswellOnt 2964, [2003] O.J. No. 3090, 124 A.C.W.S. (3d) 693 Continued on page

4 THEALLGROUP LLP Continued from page 3: Finally a Solution! mandatory insurance illusory and worthless. In the end result, the court concluded that the LawPro obligation to indemnify the lawyer and PC constituted a debt subject to garnishment under rule As to the second ground, LawPro attempted to characterize its obligations as competing duties to both indemnify and defend and that its duty to defend was a duty to provide a service which could not fall within the meaning of the term debt for the purposes of garnishment. It argued that the law did not permit the 2013 policy to be garnished in circumstances where the limits might be exhausted through the fulfillment of LawPro s obligation to defend possible claims against other lawyers in the future. The court categorically rejected this position holding that there was a clear indemnity obligation which had crystallized and was due and payable. It reasoned that to accede to LawPro s position, would be to impose an unwarranted restriction on the plaintiff s direct rights, essentially constituting an unwarranted rewriting of the insureds rights and LawPro s obligations under the policy. LawPro s potential defence obligations to possible future defendants did not take precedence over its indemnity obligations arising out of the court orders which the plaintiffs had obtained. The plaintiffs were successful garnishing the policy. 4

5 B.C. Supreme Court Finds Workmanship/Design Exclusion Does Not Exclude Costs To Remedy Damage Caused By Defective Workmanship by Camille Dunbar The British Columbia Supreme Court recently released its decision in Acciona Infrastructure Canada Inc. v. Allianz Global Risks US Insurance Company, 1 which considered for the first time in Canada the LEG 2/96 clause, a workmanship/design exclusion clause. The Court also re-affirmed a number of insurance interpretation principles, particularly in relation to Course of Construction (COC) policies, including the definition of damage to insured property and whether a loss must be fortuitous in order to trigger coverage. The plaintiffs were the design/build contractors for a $250 million public-private partnership (P3) project, which involved constructing a new hospital in Victoria, British Columbia. The project called for an eight-storey concrete structure, consisting of suspended concrete slab floors. During construction, the concrete slabs over-deflected, resulting in a concave recession in the centre of the slab. Although testing showed that the over-deflected slabs met the necessary safety requirements, the slabs were unfit to meet the serviceability standards of a large hospital that required level floors for wheeled equipment. The Court accepted the plaintiffs expert evidence that the cause of the over-deflection was improper formwork and shoring procedures that failed to account for the unusually thin design of the slabs. Extensive remedial work was required to correct the deflection. The plaintiffs sought recovery of the remedial costs incurred from the defendant insurers under a COC policy (the Policy ). The Policy s insuring agreement provided coverage for all risks of direct physical loss of or damage to the property insured, subject to Policy exclusions. In denying coverage, the insurers made the following arguments: 1) the over-deflection of the slabs were defects, and therefore did not constitute damage within the insuring agreement; 2) the loss was not fortuitous; and 3) the defects in material workmanship or design exclusion ( LEG 2/96 ) excluded all losses under the Policy. The Court noted that a COC policy is intended to provide the owner of a construction project with the promise that the contractors will have the funds to rebuild in case of loss, and to the contractors, the protection against the crippling cost of starting afresh in such an event, the whole without resort to litigation in case of negligence by anyone connected with the construction, a risk accepted by the insurers at the outset. It is in this context that the Court embarked upon its analysis. The Court held that the over-deflection (as well as surface cracking and stretching of the rebar) constituted damage under the Policy. The Court noted that while some degree of deflection and cracking is expected, the slabs experienced significant degrees of deflection throughout the facility, resulting in permanent deformity which rendered the slabs unfit for its intended purpose. The slabs were left in an altered physical state, which courts have held to be the touchstone for a finding of damage. As to the requirement of fortuity, the court stated that fortuity is inherent in the Policy as the risk undertaken by the insurer is intended to insure against possible, unintended consequences. What is required to trigger coverage is that the damage is both unexpected and unintended from the standpoint of the insured. The Court found that the over-deflection and cracking were unintended and unexpected, as the slabs were not designed to deflect to such a degree as to render them unfit for their intended use. Therefore, the fortuity requirement was met BCSC 1568 (CanLII) [Acciona]. Continued on page

6 THEALLGROUP LLP Continued from page 5: Supreme Court Finds Workmanship/Design Exclusion Does Not Exclude Costs To... The Court then considered what it noted to be the central coverage issue: whether the loss was excluded under the LEG 2/96 workmanship/design exclusion. The wording of the exclusion is as follows: This Policy does not insure: (b) all costs rendered necessary by defects of material workmanship, design, plan, or specification, and should damage occur to any portion of the Insured Property containing any of the said defects the cost of replacement or rectification which is hereby excluded is that cost which would have been incurred if replacement or rectification of the Insured Property had been put in hand immediately prior to the said damage. For the purpose of this policy and not merely this exclusion it is understood and agreed that any portion of the Insured Property shall not be regarded as damaged solely by virtue of the existence of any defect of material workmanship, design, plan or specification. The Court held that, as worded, the exclusion was not limited to defective design of the work or facility as a whole. Rather, it included any defects of material workmanship, design, plan, or specification, which would include defective design of component pieces of the work, including the formwork and shoring/reshoring. The failure to account for the particular design was, the Court found, a defect in workmanship within the meaning of the exclusion. However, the Court noted that, when read as a whole, what is excluded under the LEG 2/96 clause are only those costs that would have remedied or rectified the defect immediately before any consequential or resulting damage occurred. The damage in this case was the cracking and over-deflection of the slabs. The defect in material workmanship was the improper formwork and shoring/reshoring procedures adopted that resulted in the damage to the slabs. Therefore, the LEG 2/96 clause excluded only those costs that would have remedied or rectified the defect before the cracking and over deflections occurred (i.e. the costs of implementing proper formwork and shoring/reshoring procedures or incorporating additional camber into the formwork), which would have been minimal. Ultimately, the plaintiffs were awarded over $8 million for their costs incurred in remedy the concrete slabs. This decision provides a welcome and thorough review of the general principles of insurance policy interpretation, and for the first time, a Canadian interpretation of the LEG 2/96 workmanship/design exclusion. The Court in Acciona was clear: where insurers have language available to them that will remove an ambiguity from the meaning of an exclusion clause or will clearly specify the scope of an exclusion, they should incorporate such language. Otherwise, the normal principles of interpretation will apply, including the principle that coverage provisions will be interpreted broadly and exclusion clauses narrowly. The decision also provides helpful clarity on the definition of damage under a COC policy and the requirement of fortuity to trigger coverage. The Exchange Tower, P.O. Box King St. West, Suite 2120 Toronto, Ontario, M5X 1C8 Tel Fax