Insurance Law

• Publication year: 2021
• Author: Stephen Raucher

INSURANCE LAW

AUTHORS^*

Stephen Raucher

Michael Sohigian

INTRODUCTION

Normally, we begin our roundup with the latest California Supreme Court pronouncement on insurance law. However, the most important issue in the insurance world in 2021-coverage (or the lack thereof) for COVID-19 business interruption losses-was litigated not in the Supreme Court, but in the state and federal appellate courts. Accordingly, we begin our discussion with two important appellate defeats for policyholders seeking coverage for COVID-19 losses. As for the Supreme Court, the year's only notable insurance decision focused on a narrow issue involving the retroactive effect of new grace period requirements for life insurance policies. Of more significance in insurance circles was the Pinto case, which grafted a new element onto bad faith claims based on the failure to accept a reasonable settlement offer. The year's other appellate decisions involved a grab bag of issues, with results generally favoring the insurers.

FIRST PARTY POLICIES

BOTH FEDERAL AND STATE APPELLATE COURTS REJECT COVERAGE FOR COVID-19 BUSINESS INTERRUPTION LOSSES

Following near unanimous rejection of COVID-19 related losses at the trial court level, the first appellate decision to address the issue under California law came from the Ninth Circuit in Mudpie, Inc. v. Travelers Casualty Ins. Co. of America.¹ The insured in Mudpie operated a children's store in San Francisco which ceased operations following the issuance of a local Shelter in Place Order. Mudpie filed a class action against its insurer, Travelers, after its business interruption claim was denied. Travelers contended both that Mudpie's losses were not the result of "direct physical loss or damage to property" and that coverage was barred by a virus exclusion.²

The district court granted Travelers' motion to dismiss, and Mudpie appealed. The Ninth Circuit affirmed on both grounds raised by Travelers. Citing MRI Healthcare Ctr. Of Glendale, Inc. v. State Farm Gen. Ins. Co.,³ the Court found that "for loss to be covered, there must be a 'distinct, demonstrable, physical alteration' of the property."⁴ The Court rejected Mudpie's argument that actual damage to the property is not required, only that the property is no longer suitable for its intended purpose. Among other things, the Court pointed out that other provisions in the policy were consistent with requiring physical alteration of property For example, the

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policy provided coverage only during the "period of restoration," which implies physical alterations to the property.⁵

Though not necessary to uphold the decision, the Court further held that the policy's virus exclusion also barred coverage. Under that, Travelers would "not pay for loss or damage caused by or resulting from any virus, bacterium or other microorganism that includes or is capable of inducing physical distress, illness or disease."⁶ While Mudpie argued that its losses were caused by the Stay at Home Orders rather than the virus, the Court found that the virus was in fact the efficient proximate cause of the losses. It was the virus that set the other causes in motion, and the virus was not merely a remote cause of the loss.⁷ Accordingly, the exclusion applied.

Mudpie was followed in short order by a decision from the Fourth District Court of Appeal in The Inns By The Sea v. California Mutual Ins. Co.,⁸ which reached similar results. The Inns plaintiff operated four lodging facilities in Monterey and San Mateo counties affected by Stay at Home orders. The Court rejected the policyholder's lost business income claim because it did not result from "direct physical loss of or damage to property."

While the plaintiff argued that the physical presence of COVID-19 transformed the property from a safe condition to a dangerous one, the Court found that the insured's business interruption losses were caused by the shut down orders, not any direct physical damage to the property. The court reasoned that, whether or not the plaintiff disinfected its property, it would still be required to suspend its operations in light of the government orders. Nor were the operations suspended due to a direct physical loss, as that term is not synonymous with "loss of use." Coverage under the policy was not triggered solely by "an inability to use the physical premises to generate income, without any other physical impact to the property."

The Inns decision considered an additional coverage not at issue in Mudpie: civil authority coverage. That coverage applies to loss of business income sustained "by action of civil authority that prohibits access to the described premises due to direct physical loss of or damage to property, other than at the described premises. . . ." However, because the orders were issued in an attempt to prevent the spread of the virus, rather than due to direct physical loss of or damage to any property, the Inns Court found that the civil authority coverage was not triggered either.

SUPREME COURT HOLDS THAT NEWLY ENACTED GRACE PERIOD AND NOTICE REQUIREMENTS APPLY TO PREVIOUSLY ISSUED LIFE INSURANCE POLICIES

The lone California Supreme Court insurance case in 2021, McHugh v. Protective Life Ins. Co.,⁹ addressed important legislative changes to life insurance policies and their retroactive effect. Effective January 1, 2013, the Legislature enacted Insurance Code sections 10113.71 and 10113.72. Section 10113.71 established a 60-day grace period after a missed premium payment and also requires insurers to notify policy owners, as well as persons designated by the policy owners, to receive at least 30 days' notice before terminating a policy due to non-payment. Section 10113.72 requires life insurance policies to grant policy owners the right to designate at least one other person to receive notice of an overdue premium or impending termination of the policy.

William McHugh purchased a $1 million term life insurance policy in 2005 naming his daughter Blakely as the designated beneficiary. McHugh paid the annual premiums through January 2012, but failed to make the payment due on January 9, 2013. Protective Life sent McHugh a letter dated January 29, 2013 warning him that his policy would lapse if payment was not received by February 9, 2013. The policy lapsed, at which point Protective Life sent McHugh a letter on February 18, 2013 notifying him that the policy would expire on March 12, 2013 if the required payment was not made. By this time, McHugh had suffered a serious fall which rendered him disabled.¹⁰

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The grace period and notice provisions of the Protective Life policy did not comply with sections 10113.71 and 10113.72, but the insurer argued that the provisions should not be given retroactive effect The Court of Appeal agreed with Protective Life, but the Supreme Court reversed. While there is normally a rebuttable presumption that a statute does not operate retroactively,¹¹ the McHugh court found that that presumption did not apply because the case involved an entirely prospective statutory application based on post-enactment conduct, or alternatively, that any retroactive effect would be minimal and did not substantially impair any vested contractual rights.¹²

Having rejected the possible impact of a rebuttable presumption, the Court proceeded to construe the statutory language. While certain elements of the provisions broadly suggested they should apply to all policies, the sections at issue did not conclusively establish this, creating a potential ambiguity.¹³ Accordingly, the Court turned to other sources to resolve the ambiguity, including legislative history, which it found favored the interpretation proffered by the policy beneficiary. This included committee statements explaining that the bill would provide consumer safeguards from which "people who have purchased life insurance coverage, especially seniors, would benefit."¹⁴ Accordingly, the Court found that "the Legislature enacted the sections not only to provide protections to people in the future, but also to ensure that existing policy owners don't lose the life insurance coverage that they may have spent years paying for and on which their loved ones depend."¹⁵

TIMING OF "OCCURRENCE" IS QUESTION OF FACT SUPPORTING REVERSAL OF SUMMARY JUDGMENT WHERE PLAINTIFF ALLEGED "CONTINUOUS AND PROGRESSIVE" DAMAGE BEGINNING DURING POLICY PERIOD

In Guastello v. AG Specialty Insurance Co.,¹⁶ a retaining wall collapsed many years after it was built, and a homeowner sued the subcontractor that built it. The subcontractor defaulted, and the homeowner sued the subcontractor's insurance company under Ins. Code § 11580(b)(2). The insurer moved for summary judgment on the grounds that the damages occurred after its policy expired. The trial court granted the motion, but the Fourth District Court of Appeal reversed. Noting that the policy provided coverage "based on the timing of an 'occurrence,' [so] the determination of when the occurrence took place may be itself a question of fact," the Court of Appeal observed the homeowner alleged "continuous and progressive" damage that "began to occur shortly after the subcontractor built the retaining wall during the coverage period," raising a triable issue of material fact that precluded summary judgment.¹⁷

The subcontractor, C.W. Poss Inc., had built the retaining walls for a housing development in Dana Point in 2003, and Guastello bought his home in 2006. The retaining wall failed in 2010. When Guastello sued Poss, AIG rejected its insured's tender because the property damage occurred in 2010, after the policy expired in 2004. Poss defaulted and Guastello supported his application for default judgment against the subcontractor with the affidavit of a geotechnical engineer who had testified in the developer's earlier suit against Poss, that the retaining wall collapsed due to defects that were within the subcontractor's scope of work. After getting a default judgment against the insolvent...