Is A “No Oral Variation” Clause In A Contract Binding?

Summary

In MWB Business Exchange Centres Ltd v Rock Advertising Ltd [2016] EWCA Civ 553 and Globe Motors Inc v. TRW Lucas Varity Electric Steering Ltd. [2016] EWCA CIV 396, the English Court of Appeal has recently held that a contractual provision stating that the contract may only be amended by a written document signed by the parties is not enforceable. The court held that if it is proven that the parties actually have amended the contract by an oral agreement, then the contract is validly amended.

These decisions are of great importance to construction and other commercial contracts which contain “no oral variation” clauses.

There are lower court decisions in Canada which hold that a ”no oral variation” clause is enforceable. There does not appear to be any authority on this point in the Supreme Court of Canada. Should Canadian courts uphold such a clause, or hold that it is unenforceable?

Recent English Decisions

In MWB Business Exchange Centres Ltd v Rock Advertising Ltd [2016] EWCA Civ 553 and Globe Motors Inc v. TRW Lucas Varity Electric Steering Ltd. [2016] EWCA CIV 396, the English Court of Appeal considered whether a contractual provision stating that the contract may only be amended by a written document signed by the parties is enforceable. For example, in the MWB case the provision read as follows: “All variations to this licence must be agreed, set out in writing and signed on behalf of both parties before they take effect.” The Court of Appeal held that the provision was not enforceable.

In these lengthy judgments, the members of English Court of Appeal dealt with conflicting decisions on this issue in that court. The judges held that there was no binding precedent requiring them to decide either way. In the result, the judges in both appeals concluded that, on policy grounds, the “no oral variation” clause was not binding.

The policy ground for these decisions is party autonomy. In the MWB decision, the court quoted from one of the judgments in the Globe Motors decision as follows:

“The governing principle, in my view is that of party autonomy. The principle of freedom of contract entitles parties to agree whatever terms they choose, subject to certain limits imposed by public policy ……. The parties are therefore free to include terms regulating the manner in which the contract can be varied but just as they can create obligations at will, so also can they discharge or vary them, at any rate where to do so would not affect the rights of third parties. If there is an analogy with the position of Parliament, it is in the principle that Parliament cannot bind its successors.”

The English Court of Appeal in MWB also quoted from a decision of Justice Cardozo in in the USA:

“Those who make a contract, may unmake it. The clause which forbids a change, may be changed like any other. The prohibition of oral waiver, may itself be waived … What is excluded by one act, is restored by another. You may put it out by the door, it is back through the window. Whenever two men contract, no limitation self-imposed can destroy their power to contract again… “

The English Court of Appeal recognized that there are considerations on the other side: no oral variation clauses may “promote certainty, avoid false or frivolous claims of an oral agreement and can usefully prevent a person in a large organisation producing a document which unwittingly and unintentionally is inconsistent with a provision in a contract between the organisation and a counterparty.”

Nevertheless, the English Court of Appeal accepted the basic principle that a party cannot contract out of its ability to make a new contract in the future, even one amending a past contract.

The English Court of Appeal noted that a “no oral variation” clause may still have an impact as a matter of proof of the alleged variation. One of the judges in MWB quoted from one of the judgments in Globe Motors as follows:

“It does not follow that clauses like the second sentence of Article 6.3 have no value at all. In many cases parties intending to rely on informal communications and/or a course of conduct to modify their obligations under a formally agreed contract will encounter difficulties in showing that both parties intended that what was said or done should alter their legal relations; and there may also be problems about authority. Those difficulties may be significantly greater if they have agreed to a provision requiring formal variation.”

Canadian Decisions And Discussion

There are a number of lower court decisions in Canada holding that a “no oral variation” clause is enforceable. For example, in Toronto Dominion Bank v. Turk 1997 CarswellOnt 2054, [1997] O.J. No. 2669, Justice Cumming of the Ontario Superior Court of Justice stated:

“Even if the said representations were to be considered as made, the provisions of the guarantee at paragraph 3 provide that no subsequent alteration or waiver of the guarantee or of any of its terms is binding on the Bank unless made in writing over the signature of a specific officer…Subsequent oral alterations or waivers of the provisions of the guarantee would be ineffective.”

Justice Cumming then cited six decisions which supported that conclusion. All of them were decisions of superior court judges or masters.

None of the cited cases contain any apparent analysis of the public policy issues which are relevant to the enforceability of a “no oral variation” clause, and in particular the autonomy of the parties to enter into a new agreement.

The validity of a “no oral variation” clause was recently upheld by Master Prowse of the Alberta Court of Queen’s Bench in Becker v. Jane Doe No. 1, 2015 CarswellAlta 351, 2015 ABQB 144.

In dealing with this issue in an earlier decision in Toronto Dominion Bank v. Turk, 1992 CarswellOnt 3185, [1992] O.J. No. 2053, Justice Lane of the Superior Court of Ontario relied upon a decision of the Supreme Court of Canada upholding and applying an “entire agreement” clause: Hawrish v. Bank of Montreal, 1969 CarswellSask 9, [1969] S.C.R. 515. An “entire agreements” clause states that no representations or agreements prior to or at the time of the contract are binding on the parties, and that the sole agreement between the parties is that which is contained in the contract they are signing. Justice Lane’s decision was upheld by the Ontario Court of Appeal but without any consideration of the validity of or public policy behind the “no oral variation” issue: Toronto Dominion Bank v. Turk, 1994 CarswellOnt 2646, [1994] O.J. No. 353, 46 A.C.W.S. (3d) 72.

Similarly, in Sportsco International, L.P. v. Rogers Blue Jays Baseball Partnership, 2003 CarswellOnt 90, [2003] O.J. No. 189, Justice Pepall of the Superior Court of Ontario held that a “no oral agreement clause” was binding. In doing so, she relied on the Ontario Court of Appeal decision in Gutierrez v. Tropic International Ltd., 2002 CarswellOnt 2599, 63 O.R. (3d) 63. The contract in the Gutierrez case contained an “entire agreement” clause, not a “no oral variation” clause and the case concerned the enforceability of agreements made at the time of or before the written agreement in question, not a later varying agreement.

The Ontario Court of Appeal gave some consideration to this issue in Shelanu Inc. v. Print Three Franchising Corp., 2003 CarswellOnt 2038, 64 O.R. (3d) 533. There, the Court of Appeal refused to apply a “no oral variation” agreement on the ground that the new agreement was separate from, and could stand with, the original agreement, and because it would be unfair to apply the “no oral variation” clause. The court did not directly deal with the public policy issue, but it did say:

“Indeed, J.M. Perillo, ed., Corbin on Contracts (St. Paul, MN: Western Publishing Co., 1993) states at para. 1295 that an express provision in a written contract forbidding oral variation of the terms of a contract or its discharge is generally unsuccessful with respect to subsequent agreements. The reason he gives is that:

‘Two contractors cannot by mutual agreement limit their power to control their legal relations by future mutual agreement. Nor can they in this manner prescribe new rules of evidence and procedure in the proof of facts and events.’”

And in Colautti Construction Ltd. v. Ottawa (City), 1984 CarswellOnt 731, 46 O.R. (2d) 236, the Ontario Court of Appeal found that the contract was amended by the parties’ conduct notwithstanding the existence of a “no oral variation” clause.

An “entire agreement” clause is, or course, very different than a “no oral variation” clause. The “entire agreement” clause assures the parties that no past or present agreements exist at the time that the contract is signed, and that the only contract is the contract which the parties are then signing. That clause is really just an affirmation of the parole evidence rule which prohibits the admission of evidence that contradicts the wording of a written contract. The “no oral variation” clause purports to prohibit the parties from making a new agreement in the future that would vary or amend the written contract.

Obviously, there are good public policy reasons to support “entire agreement” clauses. However, the public policy that would support “no oral variation” clauses is more difficult to ascertain, and the English Court of Appeal and Justice Cardozo have eloquently expressed the public policy to the contrary.

In light of the frequent use of “no oral variation” clauses, it is hoped that this issue will be dealt with shortly by Canadian appellate courts, including the Supreme Court of Canada.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter 1, part 3(d)

Amendment of Contracts – Variation and Amendment – Validity of “no oral variation” clauses

Thomas G. Heintzman O.C., Q.C., FCIArb                                 September 25, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.

 

Faulty Workmanship Exclusion In A Builders’ Risk Policy Excludes Only The Cost Of Re-Doing The Faulty Work: Supreme Court Of Canada

In Ledcor Construction Ltd. v. Northbridge Indemnity Insurance Co., 2016 SCC 37, the Supreme Court of Canada has issued a definitive decision about the scope of the “faulty workmanship” exclusion in Builders’ Risk insurance policies. The Supreme Court has held that the clause only excludes coverage for the cost of re-doing the faulty work, and does not exclude the cost of repairing the damaged work.

In this landmark decision, the Supreme Court has set at rest the ongoing debate about the proper interpretation of this clause, a debate which has embroiled the construction and insurance industries for many years.

Background

During the construction of a building, the windows which had been installed were dirtied. Before the project was completed, the owner hired cleaners to clean the windows. Because the cleaners used improper tools and methods, they scratched the windows. The windows had to be replaced and the building’s owner and the general contractor made a claim for the replacement cost under the builders’ risk insurance policy covering the project. The insurers denied coverage, asserting that the claim fell within the policy’s exclusion for the “cost of making good faulty workmanship”.

Proceedings Below

The trial judge in Alberta held that the clause was ambiguous and applied the contra proferentem rule to find that the claim was not excluded.

The Alberta Court of Appeal reversed the trial judge’s decision. It applied a test of physical or systemic connectedness to decide if the physical damage was excluded as the “cost of making good faulty workmanship” or covered as included within the exception for “resulting damage.” The Court of Appeal concluded that the damage to the windows was excluded because it was directly caused by the intentional scraping and wiping motions involved in the cleaners’ work.

These decisions were reviewed by me in my articles dated December 27, 2013 and March 30, 2015.

The Supreme Court reversed the Court of Appeal’s decision and re-instated the trial judge’s decision.

The Exclusion and Exception

In the policy in question, the Exclusion for “faulty workmanship” and the Exception to that exclusion for “resulting damage” read as follows:

“This policy section does not insure:

…(b) The cost of making good faulty workmanship, construction materials or design unless physical damage not otherwise excluded by this policy results, in which event this policy shall insure such resulting damage.”

The Supreme Court’s Reasoning

Justice Wagner delivered the judgment for all the judges of the Supreme Court of Canada on this issue. Justice Wagner arrived at his decision through the following reasoning:

  1. The Court of Appeal had held that the Exclusion must relate to physical damage since the policy covers physical damage. The Court of Appeal then went on to develop a new theory about how the Exclusion should be construed in light of that requirement.

The Supreme Court held that this conclusion by the Court of Appeal was wrong. The mere fact that the policy covered physical damage did not require that the exclusions also relate to physical damage. The Supreme Court pointed to several other exclusions in the policy that clearly did not relate to physical damage.

  1. There were two competing interpretations of the Exclusion. The Insureds said that only the cost of redoing the faulty work — in this case, cleaning the windows — is excluded from coverage. The Insurers said that the Exclusion covers not only the cost of redoing the faulty work, but also the cost of repairing that part of the insured property or project that is the subject of the faulty work.

On balance, and while the Supreme Court was of the view that the clause was ambiguous, the Supreme Court favoured the Insured’s interpretation, stating its reasons as follows:

“The word “damage” figures only in the exception to the Exclusion Clause; it is not included in the language setting out the exclusion itself, i.e., the “cost of making good faulty workmanship”. As such, “making good faulty workmanship” can, on its plain, ordinary and popular meaning, be construed as redoing the faulty work, and “resulting damage” can be seen as including damages resulting from such faulty work. “

  1.  Any ambiguity in the Exclusion should not, in the first instance, be resolved by reliance on the contra proferentem rule, as that is a rule of last resort. Rather, the ambiguity should be resolved by reference to the true purpose of the policy. The Supreme Court expressed its conclusion on this point as follows:

“…the purpose of these polices is to provide broad coverage for construction projects, which are singularly susceptible to accidents and errors. This broad coverage — in exchange for relatively high premiums — provides certainty, stability, and peace of mind. It ensures construction projects do not grind to a halt because of disputes and potential litigation about liability for replacement or repair amongst the various contractors involved. In my view, the purpose of broad coverage in the construction context is furthered by an interpretation of the Exclusion Clause that excludes from coverage only the cost of redoing the faulty work itself — in this case, the cost of recleaning the windows.”

The Supreme Court was of the view that the Insurers’ interpretation of the Exclusion would re-introduce the very uncertainty that the insurance was intended to eliminate:

“Consequently, an interpretation of the Exclusion Clause that precludes from coverage any and all damage resulting from a contractor’s faulty workmanship merely because the damage results to that part of the project on which the contractor was working would, in my view, undermine the purpose behind builders’ risk policies. It would essentially deprive insureds of the coverage for which they contracted.

[71] In my opinion, therefore, the Insureds’ position on the meaning of the Exclusion Clause better reflects and promotes the purpose of builders’ risk policies. In the words of this Court in Commonwealth Construction, it keeps “to a minimum the difficulties . . . created by the large number of participants in a major construction project” and “recognizes the realities of industrial life” (p. 328). Their position finds additional support in some of this Court’s other comments in that case, at pp. 323-24, where it was emphasized that these policies exist to account for the fact that work of different contractors overlaps in a complex construction site and “there is ever present the possibility of damage by one tradesman to the property of another and to the construction as a whole”. (underlining added)

  1. The contract between the owner and the window cleaning company was irrelevant to the proper interpretation of the insurance policy, and the Court of Appeal erred in referring to that contract in interpreting the policy. After all, the window-cleaning contract was between different parties than the policy, and was entered into years after the policy was placed.

Moreover, the fact that the cleaners’ contract provided that the cleaners accepted responsibility for its work and agreed to pay for damages arising from its work did not preclude coverage under the policy. As in the present case, insurance contracts often have deductibles or limits, and the contractor may be responsible within those features of the policy.

  1. The Court of Appeal’s new “physical and systemic connectedness test” did not solve the alleged disconnect between the policy’s coverage and the cleaners’ obligation for damages under its contract with the owner. The cleaners would be liable for collateral damage to areas where it was not working, yet there would still be coverage under the policy for this damage. In these circumstance, the Supreme Court said: “In effect, there would be dual responsibility for payment, under both the Policy and the service contract, even though, as discussed above, the Court of Appeal stated it would be artificial to draw the dividing line where such dual responsibility would result.”
  1. The Insureds’ interpretation of the policy was commercially sensible, best reflected the reasonable expectations of the parties and did not result in an unreasonable result:

“As already discussed above, the interpretation advanced by the Insureds in these appeals best fulfills the broad coverage objective underlying builders’ risk policies. These policies are commonplace on construction projects, where multiple contractors work side by side and where damage to their work or the project as a whole commonly arises from faults or defects in workmanship, materials or design. In this commercial reality, a broad scope of coverage creates certainty and economies for both insureds and insurers. In my opinion, it is commercially sensible in this context for only the cost of redoing a contractor’s faulty work to be excluded under the faulty workmanship exclusion. Such an interpretation strikes the right balance between the two undesirable extremes… “ (underlining added)

  1. The Insureds’ interpretation “did not transform the insurance policy into a construction warranty. It does not inappropriately spread risk, nor would it allow or encourage contractors to perform their work improperly or negligently.” The Supreme Court noted that the cleaners were “precluded from receiving initial payment for its faulty work and then receiving further additional payment to repair or replace its faulty work” and that the “cost of redoing faulty or improper work is excluded from coverage.”
  1. The Insurers argued that Insureds’ interpretation of the policy would create an incentive for the owner or contractor to divide up the work, in order to maximize the amount of damage that would be covered under the policy. To this suggestion, the Supreme Court said:

“With respect, I do not find this persuasive. It is premised on a theoretical concern that does not reflect the commercial reality of construction sites on the ground. In my view, it is unreasonable to expect that the owner of a property or the general contractor on a construction site will divide up work exclusively on the basis of potential coverage under their insurance policy. Many other considerations, such as costs, subcontractor expertise and the risk of delay, will likely be more relevant in deciding how to allocate work.”

  1. The Supreme Court undertook a lengthy review of the cases dealing with the Exclusion for faulty workmanship. It concluded that the case law was consistent with its present decision once the facts in each case were understood. In each case, it is necessary to determine exactly what work was undertaken by the contractor or sub-contractor whose work was allegedly faulty. The Exclusion only excludes that work. In the present case, the cleaners were responsible for cleaning the windows, not installing them. Accordingly, the Exclusion applied to the work of re-cleaning the windows, not installing replacement windows.
  1. The Supreme Court pointed out the necessity to distinguish between cases dealing with Exclusion clauses relating to “faulty workmanship” and those relating to “faulty design.” In the latter cases, a contractor’s obligation to provide the design (and therefore the scope of the Exclusion) may be much broader than would be the case for a contractor’s obligation to provide work, and the factual circumstances that have been found to fall within the Exclusion for “faulty design” are not necessarily a guide to the circumstances that fall within the Exclusion for “faulty workmanship”.
  1. Interpreting the Exclusion Clause as precluding coverage for only the cost of redoing the faulty work was consistent with the accepted approach to interpreting similar exclusions to comprehensive general liability insurance policies. These policies usually contain a “work product” or “business risk” exception, which excludes from coverage the cost of redoing the insured’s work.
  1. If the general rules of contractual interpretation had not clarified the meaning of the Exclusion clause, and the clause still remained ambiguous, then the court would have reached the same conclusion on the basis of the contra proferentem rule.

In its decision, the Supreme Court also dealt with the standard of review to be applied by an appellate court when reviewing (as in this case, by the Court of Appeal or the Supreme court of Canada) the decision of a lower court interpreting a standard form contract such as a construction contract. A majority of the Supreme Court held that the review should be conducted according to a standard of correctness, not reasonableness. This important part of the Ledcor decision will be reviewed by me in a future article.

Discussion

It will take some time to digest the full ramifications and impact of this seminal decision. This article has sought to identify the ingredients in the decision as a basis for further discussion.

Clearly, the decision results in a much narrower interpretation of the ”faulty workmanship” Exclusion than insurers have been arguing for, and one that does not depend upon the “resulting damage” Exception to achieve that interpretation.

This decision requires the parties to exactly determine the scope of the defaulting contractor’s work. The “faulty workmanship” Exclusion is limited to the cost of making good that work, and not the cost of correcting damage to the subject matter of that work.

How far this decision will impact the faulty “construction materials or design” elements of the Exclusion will have to await future cases. However, the logic of the Supreme Court’s decision would seem to apply to all three elements of the Exclusion: once the defaulting contractor’s work, materials or design is determined, the Exclusion applies no further.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter 14, paras. 3(b), 4(b)

Ledcor Construction Ltd. v. Northbridge Indemnity Insurance Co., 2016 SCC 37

Insurance – Exclusions and Exceptions- Builders’ and All Risk Insurance – Exclusion for faulty workmanship

Thomas G. Heintzman O.C., Q.C., FCIArb                                     September 18, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

 

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.

Lien For Work Done Before The Certificate Of Substantial Completion And Payment Of The Major Lien Fund Does Not Attach To The Minor Lien Fund

Summary

In Chandos Construction Ltd. v. Twin Peaks Construction Ltd., a Master of the Alberta Court of Queen’s Bench has held that a lien for work done prior to the filing of a certificate of substantial completion and payment of the major lien fund does not attach to the minor lien fund.

Background

Chandos was the general contractor and Twin Peaks was the structural steel supplier and installer on the project. Chandos posted a certificate of substantial performance and delivered it to the owner. At that time, and within 45 days afterwards, no relevant lien was registered. The owner paid to Chandos the 10% holdback up to the date of the issuance of the certificate of substantial performance. The owner retained $45,000 being 10 % of the remaining final cost of construction, which under the Alberta lien statute is the minor lien fund.

After that, Twin Peaks registered a builders’ lien. Almost all of the work referred to in the lien related to work done prior to the date of substantial performance.

Chandos asserted that Twin Peaks no longer had a valid lien claim. It said that Twin Peaks failed to file a lien claim referable to its work done before the issuance of the certificate of substantial completion, and accordingly its lien claim for that work no longer existed. It asserted that Twin Peak’s lien claim for that work did not “migrate” to the minor lien fund.

The Alberta Builders’ Lien Act

Sections 18 to 27 of the Alberta Builders’ Lien Act (the Act) create a major and minor fund regime. Under section 18, the major lien fund provides security for the payment of liens up to the date of substantial completion by requiring the owner to withhold 10% of the value of the work and materials provided to the lands in question. Under section 23, the minor lien fund provides security for the payment for work done after that date by requiring the owner to retain 10% of the value of the work and materials after the date of the issuance of the certificate of substantial completion. .

In sections 34 and following, the Alberta Act contains the normal regime for the registration of builders’ liens. Section 41 provides that the time for the registration of the lien expires 45 days after the last material or work is furnished or completed or the contract is abandoned.

Decision Of The Alberta Queen’s Bench

Master Robertson of the Alberta Queen’s Bench held that Chandos’ view of the operation of the Act was correct. He held that:

  1. “A builder’s lien is initially against the interest of the owner in the land, but if the owner pays the lien funds the owner is required to retain into court, then there is a claim against the funds, which stand in place of the land.”
  1. “Pursuant to section 25, an owner is not liable for more than the total of the major lien fund and the minor lien fund. If the owner follows the requirements of the Act, there is no further claim to be had against the owner’s land or the fund.”
  1. The Act deals “with the major lien fund and the minor lien fund as two separate funds, but the basic concept remains the same: once the owner has paid the major lien fund properly to the general contractor, no liens having been filed within 45 days of the applicable date, then the major lien fund is gone. So long as the owner still has that money in his hands, the liens attach the land until funds are paid into court in place of the land.”
  1. “Therefore, a lien properly registered within 45 days of completion or abandonment is properly registered, and if it is done after the 45 days following the date of the certificate of substantial performance, but the owner has not yet paid the major lien fund to the general contractor, then it still attaches it. That is the effect of section 18(3)(b), section 23(2) and section 23(5). But if the money has been paid, there is nothing to attach.” (emphasis added)
  1. While the subcontractor may no longer have a lien claim, it still has its contractual claim against the contractor and, possibly, a trust claim under Section 22 of the Act.

The Master made the following declaration:

Accordingly, I declare that the lien claimed by Twin Peaks is not a valid claim against the minor lien fund to the extent that it claims for work done and material supplied before the date of issuance of the certificate of substantial performance.

Discussion

This decision is a helpful clarification of the operation of the Alberta Act. That Act does not expressly resolve the timing issue between the two regimes: the major and minor fund regime, and the regime relating to the registration of liens against the land.

The Master effectively held that the proper interpretation of the Act must coordinate the two regimes. The Act must mean that, even though a claim is registered in a timely fashion in relation to the completion or abandonment of the contract, a claim against the major lien fund comes to an end when the 45 day period expires after the issuance, posting and deliverance of a certificate of substantial performance, and the owner pays the monies held by it in the major lien fund. The only sensible interpretation is that the lien claim against the land for work done to that date must also expire at the same time. Otherwise, the whole purpose and operation of the major lien fund would be frustrated. In these circumstances, a lien for that work cannot survive and attach to the minor lien fund. That fund exists to deal with lien claims after that date.

Chandos Construction Ltd. v. Twin Peaks Construction Ltd., 2016 CarswellAlta 987, 2016 ABQB 296

Construction and builders’ liens – major and minor lien funds –expiry of liens against the land

Thomas G. Heintzman O.C., Q.C., FCIArb                                   September 11, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.

 

Faulty Materials Or Workmanship Exclusion In Insurance Policy Does Not Exclude Resulting Damage: Ontario Court Of Appeal

Summary

In its recent decision in Monk v. Farmers’ Mutual Insurance Company (Lindsay), the Ontario Court of Appeal has held that the exclusion for faulty materials or workmanship in an owner’s property insurance contract does not exclude the insured’s right to recover the resulting damage that the faulty materials or workmanship has caused.

This is a significant decision because owner’s insurance policies often contain an express exception for resulting damage arising from faulty materials or workmanship. The Court of Appeal has held that this exception may be read into the exclusion for faulty materials or workmanship itself.

The Policy

The policy contained the following relevant provisions:

We do not insure: 2. the cost of making good faulty material or workmanship;

We do not insure loss or damage to: 4.   Property (ii) while being worked on, where the damage results from such process or work (but resulting damage to other insured property is covered);

The Claim And Lower Court Decision

Monk made a claim under an insurance policy issued by Farmers for damage caused by a contractor during work on the exterior of her home. Farmers asserted that the claim was excluded under the “faulty workmanship” and “property being worked on” exclusions in the policy.

A motion was brought to interpret the policy. The motion judge held that the “faulty workmanship” provision excluded damage caused both directly and indirectly by the contractor. Although the “property being worked on” exclusion preserved coverage for indirect “resulting damage”, the motion judge held that it was “trumped” by the general “faulty workmanship” provision. The motion judge granted summary judgment to Farmers and dismissed Monk’s claim.

The Court of Appeal’s decision

The Court of Appeal reversed the lower court decision. It held that, on a proper interpretation of the “faulty material or workmanship” clause, that clause did not exclude resultant damage. It arrived at that conclusion by the following reasoning:

  1. Based on general principles of contract interpretation, an exclusion clause should be narrowly construed. It was not obvious that a clause excluding the cost of making good faulty workmanship precludes coverage for resulting damage. The court said:

“Insurers draft insurance policies knowing that exclusions of coverage will be interpreted narrowly and that ambiguity will be resolved in favour of the insured party. If an insurer wants to exclude particular coverage, especially for something as well-known as resulting damage, it should do so specifically rather than by implication”.

  1. While the motion judge considered it significant that “faulty workmanship” exclusions in insurance policies typically include an exception for resulting damage, this fact was “irrelevant to the proper interpretation of this insurance contract.”
  1. An interpretation of “faulty workmanship” that denies coverage for resulting damage is an “overly broad interpretation of the exclusion clause”. The Court of Appeal considered that the proper interpretation of that clause only excludes direct damage and not the resulting damage flowing from faulty workmanship. The Court of Appeal said:

“ It is not a matter of reading an exception into the exclusion, as the respondents submitted; it is a matter of interpreting the “faulty workmanship” exclusion narrowly in accordance with established principle.”

  1. The motion judge’s interpretation of the “faulty workmanship” exclusion resulted in an inconsistency or conflict with the ”property being worked on” exclusion. The former would exclude resulting damage from coverage, while the latter would include it within coverage. The motion judge solved that conflict by having the former clause over-ride the latter. This approach was wrong on a number of accounts. It did not resolve the ambiguity between the two clauses in favour of the insured, and it did not attempt to give meaning to both clauses, as it ought to have.

Discussion

This decision will provide considerable guidance in the interpretation of owner’s insurance policies applicable to building projects. Normally, Builders’ Risk policies contain a “faulty material or workmanship” exclusion and a “resulting damage” exception to that exclusion. But the present case holds that the exclusion itself should be interpreted to not exclude resulting damage, at least if the exclusion is worded as the one in this case was worded.

It may be argued that this decision was due to the existence of the “property being worked on” exclusion in the policy, and the resulting damage exception in that exclusion. The contrary argument will be that the court’s conclusion was based upon its narrow interpretation of the faulty workmanship exclusion, and its reference to the “property worked on” exclusion was a supporting consideration.

See Heintzman and Goldsmith on Canadian Building Contracts, chapter 14, part 3(b0(ii)

Monk v. Farmers’ Mutual Insurance Company (Lindsay), 2015 ONCA 911,

Insurance – Exception for faulty workmanship or material – Exception for resulting damage

Thomas G. Heintzman O.C., Q.C., FCIArb                                      September 5, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.