Replacement Cost Insurance Coverage New York Law Journal October 21, 2014 Tuesday

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1 New York Law Journal October 21, 2014 Tuesday Copyright 2014 ALM Media Properties, LLC All Rights Reserved Further duplication without permission is prohibited Section: OUTSIDE COUNSEL; Pg. p.4, col.1; Vol. 252; No. 77 Length: 2175 words Byline: John R. Casey Body R eplacement cost property insurance coverage for real and personal property is the standard coverage offered in today s insurance market. Its purpose is to provide adequate coverage to an insured so that in the event of a covered property loss, the insured may replace his or her real property and personal property in full. However, there are significant exceptions and limitations on an insured s ability to recover the replacement cost of his property following a covered loss. Replacement cost coverage is marketed under terms such as guaranteed replacement cost or simply replacement cost coverage. It has its genesis in the standard fire insurance policy contained in Insurance Law 3404(e). The declarations page of the standard fire policy contains a provision that the insurer insures the insured to the lesser amount of either the actual cash value of the property at the time of loss, or the amount that it would cost to repair or replace the property with material of like kind and quality within a reasonable time after such loss not exceeding the specified policy limit. Actual cash value is not defined by the standard fire policy, but has been interpreted by the courts as embracing a broad evidence rule, which includes all pertinent factors, such as market value, replacement cost, depreciation, obsolescence and other relevant factors. 1 In most instances, actual cash value damages will be less than repair or replacement costs. Replacement cost provisions in property insurance policies typically provide that the insured is entitled to recover the cost to replace the property with equivalent property of like kind and quality, or the amount actually spent for replacement property, or the policy limit applicable to the loss, whichever is less. In the case of a guaranteed replacement cost policy, the insured may be entitled to recover the full cost of repair or replacement even if that amount exceeds the specified policy limit of loss for the property. Replacement cost policies further provide that the insurer will not pay more than actual cash value for the damaged property until repair or replacement is completed. In construing replacement coverage issues, New York courts have been asked to determine whether replacement cost coverage requires the insured to replace the damaged real property on the actual premises insured under the policy, whether the insured must incur the expense of replacement in order to recover, and the time limitation on the insured s ability to replace the property in order to qualify for replacement cost payment under the policy. 1 See, McAnarney v. Newark Fire Ins., 247 NY 176 (1928); Gervant v. New England Fire Ins., 306 N.Y (1954).

2 Page 2 of 5 Replacement on the Property In Kumar v. Travelers Insurance Company, the court was required to decide an issue of appellate first impression in New York in construing a guaranteed replacement coverage provision of a multi-peril homeowners insurance policy. 2 The issue involved whether the phrase on the same premises in the policy s replacement cost provisions required actual replacement on the insured premises. Travelers policy provided that it would pay the full cost to repair or replace the damaged dwelling or other building structures with equivalent construction on the same premises without regard to the limit of liability set forth in the policy. The policy further provided that the insurer would initially pay the smaller of replacement cost less depreciation or the applicable policy limit, and the remaining amount of the settlement including any excess above the policy limit of liability would be paid when repair or replacement of the damaged building is completed. The court cited a lower court case which held that the replacement cost provision at issue was really nothing more than a hypothetical measuring device and did not literally require replacement on the insured premises. 3 The court reviewed several out-of-state cases that reached the same conclusion and noted that no court construing the same or similar provisions as the Travelers policy had accepted the interpretation urged by Travelers, that the policy required replacement on the same premises in order to recover replacement cost payment. Incurring Cost The issue of replacement of the damaged or destroyed property was adjudicated in Harrington v. Amica Mutual Insurance Company. 4 There, plaintiff s home was insured under a policy containing replacement cost coverage providing that the company would pay the cost of repair or replacement without deduction for depreciation, but not more than the limit of liability under the policy applying to the building; the replacement cost of the building damage with like construction and use on the same premises; or the necessary amount actually spent to repair or replace the damaged building. The policy further specified that the insurer would only pay the actual cash value of the damage unless actual repair or replacement was complete. Following destruction of Alan Harrington s home, the insurer paid the actual cash value of the damages in the sum of $73,474. Harrington then entered into a land contract for the sale of the fire-damaged premises for $22,500 payable over five years. The contract-purchaser made improvements and repairs to the property. The insurer first learned of the land sale after arranging for a final inspection of the repairs in anticipation of paying the replacement cost holdback. The insurer then notified Harrington that it would not pay more than the actual cash value because he had not paid for the repair of the dwelling. The insured contended that nothing in the policy required him to perform the repairs in order to receive replacement cost damages A.D.2d 128 (4th Dept. 1995). See, Johnson v. Colonial Penn Ins., 127 Misc.2d 749 (Sup. Ct., Essex Cnty. 1985). See, 223 A.D.2d 222 (4th Dept. 1996); see also DeLorenzo v. Bac Agency, 256 A.D.2d 906 (3d Dept. 1998).

3 Page 3 of 5 The court held that the insured had not sustained any cost to replace or repair the dwelling. Replacement cost coverage inherently requires replacement (a substitute structure for the insured) and costs (expense incurred by the insured in obtaining the replacement); without them the replacement cost provision becomes a mere wager. Because plaintiff has not incurred replacement costs in this case, plaintiff s loss is defined by the building s actual cash value. The issue of replacement cost coverage has arisen in cases where an insurer denied coverage altogether on the basis of arson or fraud. If the insurer s refusal to pay under those circumstances is ultimately held to be invalid, the insurer may be estopped from denying a claim for full replacement cost even though the insured has not incurred that expense, since the insurer has not paid the actual cash value in order to enable the insured to begin repairs. 5 Time Limit for Replacement The New York Court of Appeals recently considered the time within which the insured must complete repair or replacement in order to be eligible for replacement cost coverage. In Executive Plaza v. Peerless Insurance Company, the court was asked by the U.S. Court of Appeals for the Second Circuit to answer a certified question regarding a contractual limitation for replacement cost coverage. 6 In Executive Plaza, plaintiff s office building was damaged by fire. The damages totaled more than $1 million, the policy limit. The policy contained replacement cost coverage, but provided that the company would not pay on a replacement cost basis until the damaged property was either repaired or replaced, and [u]nless the repairs or replacement are made as soon as reasonably possible after the loss or damage. The policy also contained a provision regarding suit against the company, stating: No one may bring a legal action against us under this insurance unless... (b) the action is brought within two years after the date on which the direct physical loss or damage occurred. Plaintiff was paid the actual cash value of the building in the sum of $757,813 and notified defendant that it would be making a replacement cost claim up to the $1 million policy limit. Plaintiff alleged that it acted reasonably to replace the damaged building but was not able to do so within two years of the fire. On the last day of the two-year limitation period, plaintiff sued defendant in New York Supreme Court. Defendant removed the action to federal court and moved to dismiss it on the ground that plaintiff had not completed replacing the building and the action was premature. The action was dismissed. After replacement was completed, plaintiff sought payment of the unpaid portion of the policy limit. Defendant denied liability on the ground that the two-year suit limitation had expired. Plaintiff brought suit in Supreme Court which was again removed by defendant to federal court, and defendant moved to dismiss. The U.S. District Court for the Eastern District of New York 5 See Zaitchick v. American Motorist Ins., 554 F.Supp. 209, affirm d 742 F.2d 1441, cert. denied 464 U.S. 851 (1983). See also, Todd v. Wayne Cooperative Ins., 31 A.D.3d 1026 (3d Dept. 2006), leave to appeal granted, 7 N.Y.3d 716, appeal withdrawn, 7 N.Y.3d 923 (2006) N.Y.3d 511 (2014).

4 Page 4 of 5 granted the motion finding that the policy barred any suits commenced more than two years after the date of the loss. Plaintiff appealed to the circuit court which certified the issue of the replacement cost limitation to the New York Court of Appeals. The New York Court of Appeals found that the suit limitation period in the policy was inapplicable. The court noted that [t]he problem with the limitation period in this case is not its duration, but its accrual date. It is neither fair nor reasonable to require a suit within two years from the date of the loss, while imposing a condition precedent to the suit -in this case, completion of replacement of the property- that cannot be met within that two-year period. As a result, the Court of Appeals answered the certified question posed by the Second Circuit in the affirmative, holding that Executive Plaza was covered for replacement cost, since the property could not reasonably be replaced within two years of the date of loss. The test adopted by the Court of Appeals is a factual one: whether, under the circumstances, the property can reasonably be repaired or replaced within the two-year limitation period. Where it cannot be accomplished, the suit limitations period will not be enforceable. Two-Year Suit Limitation Prior to the Executive Plaza ruling, New York courts were divided on whether the two-year suit limitation contained in the policy applied to a claim for the replacement cost hold back where the replacement cost provision did not specify a period of time within which replacement must be completed. In Bakos v. New York Central Mutual Insurance Co., the policy contained a loss settlement provision for replacement cost coverage. 7 However, the policy stated that the insurer would pay no more than the actual cash value of the damage until actual repair or replacement was complete. The policy also contained a provision that no action could be brought against the insurer, unless there had been full compliance with all of the terms under the policy and the action was commenced within two years of the date of loss. After suit was brought by plaintiff for a declaratory judgment to require the insurer to perform under the policy, the insurer moved to dismiss the plaintiff s claim contending that the contract s twoyear suit limitation period expired before plaintiff completed all of the repairs to his home. The court rejected that contention, noting that the plain language of the loss settlement provision of the policy did not impose any time limit on the reconstruction of the home and that the provision imposing a two-year limitation on legal action did not impose any time limit on reconstruction. 8 After Executive Plaza, it appears that the courts will look to the scope of the replacement cost coverage under the policy at issue to determine what time limitation, if any, applies to replacement cost coverage. If the policy provides that the replacement must be completed as soon as practicable or within a reasonable period of time, this will present a factual issue and the two-year suit limitation period may not be enforceable in an action seeking replacement cost recovery A.D.3d 1485 (4th Dept. 2011). 8 See also, Ditch v. Hartford Fire Ins., 149 A.D.2d 957 (4th Dept. 1989) and Strupp v. Heritage Mutual Ins., 143 A.D.2d 433 (2d Dept. 1988).

5 Page 5 of 5 In conclusion, when in doubt the prudent practitioner should obtain an extension of time for the insured to commence suit under the policy with respect to replacement cost coverage, or file suit within the two-year limitations period to avoid statute of limitations complications. JOHN R. CASEY is a senior partner with Hiscock & Barclay in Albany. Classification Language: ENGLISH Publication-Type: Newspaper Subject: INSURANCE (91%); INSURANCE COVERAGE (90%); INSURANCE POLICIES (90%); PROPERTY & CASUALTY INSURANCE (90%); REAL ESTATE INSURANCE (89%); MAINTENANCE & REPAIR (89%); INSURANCE REGULATION & POLICY (78%); REAL ESTATE VALUATIONS (78%); HOMEOWNERS INSURANCE (73%); INSURANCE LAW (73%) Company: METLIFE INSURANCE CO OF CONNECTICUT (61%) Industry: NAICS DIRECT LIFE INSURANCE CARRIERS (61%); SIC6311 LIFE INSURANCE (61%) Geographic: NEW YORK, USA (87%); UNITED STATES (87%) Load-Date: October 21, 2014