Work Product Exclusion, Hiring Subcontractors

Last week’s article discussed the pros and cons of using employees or subcontractors to get jobs built. This week, Myles Corcoran of Myles F. Corcoran Construction Consulting Inc., presents another point of view.

A long-time contractor, Myles attended one of our classes in March of 2000, many years ago. He now provides consulting and arbitration services, especially as it relates to construction defects. A long-time newsletter subscriber, he reached out to us in January in response to one of our articles.

We asked if he’d be willing to write an article for us with the topic of his choice. It happened to fit well with our discussion of subs and employees. Let us know what you think.

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Most Builder General Liability policies do not cover damages to parts of the building where damages are caused by work done by the same entity (company) that installed the damaged assemblies.

For example, a general contractor has their crew frame a building. They also has their crew install the windows. The windows leak. The window leaks damage the frame. That builder will not have coverage for that frame damage. If, on the other hand, that builder had subcontracted the framing but installed the windows that leaked, then the builder’s carrier would cover the repair of that frame damage – under most policies, as I understand it.

I believe that owners and builders should know how the construction insurance “Work Product Exclusion” usually works. This coverage exclusion becomes VERY IMPORTANT if there are ever any damages to the building caused by things the insured build team built. From my perspective it is the second best reason to contract with qualified subcontractors, as opposed to in house employee tradesmen.

If an assembly causes damage to something the builder of that assembly also built, then the builder’s insurance company will typically enforce what is referred to as the “Work Product Exclusion.” The builder’s carrier will not, usually, cover repairs to damages that builder’s work caused to anything that builder built. By “builder” I refer to an entity such as a general contractor or specialty contractor.

In complex construction law suits, this can get confusing, but that is essentially how it works.

I first learned this rule after years of working in the dispute world. I found, to my surprise, that because the general contractor had installed the wood floors as well as the leaky windows, the insurance carrier would not cover the cost to repair the damaged floors. The carrier, in that case, was covering all the other water damage repairs because the insured entity (the general contractor) had subcontracted those other damaged assemblies.

It must be noted that “Work Product Exclusion” does not say that the builder is not responsible for the damages caused by their mistakes, only that the insurance company will not help the builder pay to fix such damages when the “Work Product Exclusion” is in play. Legally, the builder is, all things being equal, still just as responsible, but they will have to pay for the repairs without help from the insurance carrier.

Just because a builder’s policy does not cover the damage, this does not get the builder out of being liable. Lack of coverage just means that they have to pay for the fix – not the insurance company.

Over the years we have heard general contractors brag that they are the best for the project because they do everything in -house. They don’t rely on outside entities (subcontractors). This sounds good, but only works well when:

• The general has a proven track record for building sans errors – so no problems will occur. Hint: The word of the general is not sufficient evidence that this is the case. Check references.
• The general is wealthy and the wealth is not tied-up/protected from covering liability.

– In my experience, many builders do not have the means to pay out of pocket to do expensive repairs and it is only expensive repairs that end up in big disputes. “Expensive” is relative to each builder.

– If your builder is wealthy, relative to the cost to fix, it may not matter who builds what part of your project.

As a side note, I have seen it become more common for policies to be written that cover everyone on the project. These are called “Wrap” policies. All enrolled entities are grouped within the policy umbrella. I do not know how that type of policy handles these things, but I assume it would be similar.

“Work Product Exclusion” does not always come into play. For example, when a builder installs a window that leaks onto a floor that someone other than the builder’s employees installed, and the window leak damages the floor, then most insurance policies carried by the window installer will cover the repair of the floor. The floor is not considered the work product of the window-installing builder’s employees.

Subcontractors are not employees. If one subcontractor’s employees do something that leads to damaging the work of the general’s employees (or the work of another subcontractor’s employees), then the general’s policy will, typically, cover repairs to that damage.

Generally speaking, in my opinion, it is best for both the owners and the general contractor when properly licensed and insured subcontractors are used for the various trades. If the general contractor does it all in-house, the general could end up with no insurance coverage for repairs, even while having Liability Insurance. The owners could end up with an empty legal victory, winning a lawsuit against an entity who cannot pay for the awarded fix.

Before I wrap up, I do have one important reason to work with qualified subcontractors that isn’t a legal reason: subcontractors know how to do what is getting done; they specialize in it. The general contractor may have highly qualified tradesmen as employees, but the tradesman who works one trade, and only one trade, every day, will usually be more adept than the “every few months” tradesman.

Finally, I won’t go deeply into it here, but Builder General Liability coverage also does not cover the cause of the damage. For example, the policy will not pay to fix a leaky pipe but the policy will pay to repair all the damages the leaky pipe caused… as long as those damages were not to assemblies the pipe-installing entity also installed.

This article is only referring to insurance coverage, not fault.

We are not attorneys at MFC. My comments and observations come from our collective experience working with attorneys specializing in construction litigation, insurance adjusters handling construction defect claims, and many parties (owners and builders) in disputes. My first experience with construction litigation was in the late 1980s. MFC Construction Consulting, Inc. has assisted in over 1,000 cases since then. Before applying any advice MFC might give that is “legal” in nature to your projects, we would suggest that you seek legal counsel.