When can a PI policy morph to a general liability policy in a construction claim

An insured would surely be surprised about the mental gymnastics that goes into crafting an insurance policy.

There are insuring clauses which are carefully crafted to specify the liabilities that are covered and the circumstances to trigger the policy to provide cover. An insured will bear the onus of proving that the insuring clause is triggered.

Basis of settlement clauses go hand in hand with insuring clauses.

There are exclusion clauses which carve out liability and an insurer will bear the onus of proving the facts that enliven the exclusion.

There are conditions that stipulate obligations for an insured and, where there is a breach of a condition, it may have consequences for an insured but those consequences will be reduced where the breach of condition has not prejudiced the insurer.

There are definitions that detail the meaning of words and phrases used in the policy.

And finally, there are extensions to the policy found in extension of cover clauses.

All of these provisions must be construed in the context of the Policy as a whole.

However, when considering an extension of cover clause, there may well be unintended consequences as was recently seen in a judgment of Jackman J (Federal Court) in FKP Commercial Developments Pty Limited v Zurich Australian Insurance Limited [2022] FCA 862.

Zurich issued a design and construction professional indemnity policy to FKP Constructions and FKP Commercial.

FKP Commercial engaged FKP Constructions to do residential building work on land.

FKP Constructions procured subcontractors to do the residential building work.

The residential building work was done in breach of the statutory warranties under the Home Building Act and the duty of care imposed by the Design and Building Practitioners Act, in that it was defective or non-complying. The building work was undertaken by subcontractors to FKP Constructions.

FKP Commercial and FKP Construction were sued for loss and damage that resulted from defects in the building works and they sought cover under the Zurich insurance policy for the claim. Zurich refused to cover the claim, contending that cover was triggered when the liability arose from professional services and the actual building work was not a professional service.

On the heels of the denial of cover came proceedings brought by FKP against Zurich seeking to enforce an entitlement to cover under an extension of cover clause in the insurance policy. The clause provided cover for a “…claim arising from the conduct of any consultants, subcontractors or agents of the insured for which the insured is legally liable in the provision of the professional services”.

The question was whether (for the Zurich Policy to provide cover):

  • it was necessary for FKP to be engaged in the provision of professional services when the liability was incurred; or
  • where building work, which is not a professional service, caused FKP to be liable to a third party for defects in works and FKP was engaged to provide professional services being consulting services, the liability did not arise from that professional service.

Was there cover under a professional indemnity policy for a liability arising from other than professional services?

In NSW the Home Building Act 1989 implies statutory warranties into building contracts which benefit purchasers of properties after the works are complete.

Jackman J observed:

“FKP Commercial and FKP Constructions are liable for any breach of the statutory warranties irrespective of whether they performed the work themselves or engaged subcontractors to perform that work.

It must follow under the statutory warranties imposed by the Home Building Act that FKP is legally liable for the conduct of its subcontractors in circumstances where the work done by the subcontractors led to the claim that FKP breached the statutory warranties.”

FKP had a legal liability. The subcontractor did the work that resulted in that liability. But FKP did not perform professional services to cause the liability.

The claim made against FKP as to defective or non-complying building work arose from the conduct of the subcontractors of FKP Constructions in carrying out the residential building work on the land.

Jackman J concluded:

“…the extension of cover clause does not require that the claim be caused by, result from or arise from the insured’s provision of professional services, but requires only that the insured is legally liable for the conduct in its provision of the professional services, irrespective of the source of the legal liability.”

His Honour also observed:

“…the language expressly used in the Policy does not confine the operation of cl 3 (extension of cover) to circumstances where the relevant liability on the part of the insured involves a breach of a professional services obligation by the insured.
Ultimately, in my view, the language used in cl 3 is too intractable for Zurich’s appeals to commercial reasonableness to be treated as paramount to the broad ordinary and natural meaning of the provision. In the context of the legislative regime by which building projects are governed, developers and builders are exposed to liability for the conduct of their subcontractors, even where the developer or builder performs no more than a project management role. It does not strike me as commercially unreasonable that a developer or builder would seek insurance cover for that potential liability, and it does not strike me as commercially unreasonable that insurers would want to sell such cover by way of an extension to a design and construct professional indemnity policy.”

This judgment will not doubt be most surprising to Zurich.

The insuring clause was carefully crafted to limit cover to liability for professional services.

The difference in the language used in the insuring clause and the extension of cover clause has no doubt resulted in an unintended consequence, otherwise the claim would have been accepted.

The decision serves as reminder to insurers and persons drafting insurance policies that it is not only important to get an insuring clause right. When providing cover through extension of cover clauses, care needs to be taken to scope the liability covered using words that do not alter the cover provided in the insuring clause unless that is what is intended to be done.

It is all about the way a clause is drafted. Punctuation, syntax and sentence structure play a role in interpreting an insurance policy.

Getting it right is a bit like doing well in a take home exam for an English course on the difference between simple, compound, complex and complex-compound sentences.

The order of the words in a phrase is important. A change in the order of words can achieve an entirely different meaning.

In this policy, the cover was for a “…claim arising from the conduct of any consultants, subcontractors or agents of the insured for which the insured is legally liable in the provision of the professional services”.

One way to have avoided the unintended consequence would have been to rephrase the clause to provide cover for a “claim arising from the conduct of any consultants, subcontractors or agents of the insured in the provision of the professional services for which the insured is legally liable”.

A simple shuffle of the words “in the provision of the professional services”.

No doubt insurers will be revisiting their professional indemnity insurance policy wording to see whether their policies would operate in a similar way to Zurich’s design and construct professional indemnity insurance policy.

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