Does the AIA Construction Contract Avoid Litigation?

Insured May Effectively Waive Subrogation

Subrogation is an equitable remedy where an insurer that pays to indemnify its insured will be able to step into the shoes of the insured and sue any tortfeasor who is responsible for the property damage that its policy of insurance was required to indemnify its insured because of the property damage.

Like all rights the right of subrogation can be waived. Most Commercial Property Insurance contracts authorize the insured to waive subrogation as long as the waiver happens before the loss and is a clear, unambiguous written agreement. When people enter into a construction contract published by the American Institute of Architects (“AIA”), the written agreement includes a waiver of subrogation against each other. What that means in understandable language is that the parties agree – rather than sue each other for tort damages – to rely on their own insurance in the event of a loss. By so doing the builder can charge less to do the work and the owner can be sure to avoid litigation.

FACTS

The County, which had entered into construction project contract with general contractor for courthouse renovation, filed suit against general contractor and subcontractors, alleging negligence, breach of implied warranties, and breach of contract, alleging that subcontractor’s negligence was primary cause of fire that occurred during renovation that severely damaged courthouse. Defendants filed motions for summary judgment, arguing that the county had agreed to provide insurance for project, and that county had waived its subrogation rights against them and, thus, was not entitled to recover damages.

Property owners and contractors routinely agree to waive subrogation rights for damages. Here, the parties did so by incorporating an American Institute of Architects (“AIA”) standard form into their contract for the repair of the Jefferson County courthouse. While the repairs were underway, a fire severely damaged the courthouse.

The AIA contract waives subrogation rights for all “damages caused by fire or other perils to the extent covered by property insurance.” The parties now dispute the meaning of the subrogation waiver. Owner seeks to subrogate all damages unrelated to repairs, arguing that the subrogation waiver applies only to construction- related damages. Contractor argues that all damages covered by Owner’s property insurance policy are waived. Both parties cite other states’ precedent to support their position, and the decision below created a split of authority in our own Court of Appeals. We granted transfer in this matter of first impression to establish the Indiana approach.

On May 20, 2009, a fire destroyed much of the Jefferson County courthouse, located in Madison, Indiana. Jefferson County alleged that the fire began while Daniel Gutapfel—a roofing subcontractor— was soldering copper downspouts near the wood frame of the courthouse as part of a four-phase plan to remodel and renovate the entire building. The damages far exceeded the remodeling costs, but were fully covered by Jefferson County’s property insurer, which paid Jefferson County under its policy after the fire.

Jefferson County could satisfy its property insurance requirements in one of two ways: either (1) procure a separate policy to cover only the renovations – commonly referred to as “builders-risk insurance” – or (2) rely on its existing “all-risk” property insurance policy to cover the entire courthouse, including the renovations. Jefferson County chose to rely on its existing “allrisk” policy that it maintained with St. Paul Fire and Marine Insurance Company (“St. Paul policy”).

Discussion and Decision

We must decide whether, under the plain meaning of the AIA contract, property owners waive subrogation rights for construction damages by maintaining “allrisk” property insurance policies that cover both their construction-related damages and their entire property.

The AIA subrogation waiver is wellknown in the construction industry and it plays a critical role in the AIA contract’s scheme of remedying construction losses through insurance claims, not lawsuits. The court had no choice but to presume the waiver represents the freely bargained agreement of the parties.

The waiver applies to all “damages caused by fire,” but only “to the extent covered by property insurance obtained pursuant to this Paragraph 11.3 or other property insurance applicable to the Work.” Thus, to determine which fire damages are covered by the subrogation waiver, we must look at everything that follows the phrase “to the extent.” The positioning and plain meaning of the word “covered” restricts the scope of the subrogation waiver based on the source and extent of the property insurance coverage, not the nature of the damages or of the damaged property.

CONCLUSION

The Supreme Court of Indiana, in Board of Com’rs of County of Jefferson v. Teton Corp., — N.E.3d —-, 2015 WL 2242352 (Ind., 5/13/15), concluded that the plain meaning of the contract defines the scope of the waiver based on the extent and source of coverage, not the nature of the property damaged. Accordingly, it agreed with the majority of jurisdictions that have applied this plain meaning to bar recovery for all damages covered by the same property insurance policy used to cover construction-related damages, commonly referred to as the “any insurance” approach. Because Contractors have shown that Owner’s insurance covered all damages, the subrogation waiver applies to bar Owner’s claim.

The Supreme Court’s holding is supported by the majority of other jurisdictions that have adopted the “any insurance” approach when interpreting similar AIA waivers. The contract also waived all subrogation rights for damages “to the extent covered by property insurance obtained pursuant to this [agreement] or other property insurance applicable to the Work.

Jefferson County agreed to waive its rights to bring this subrogation claim by relying on its existing “all-risk” property insurance policy that covered the Work and all other losses suffered in the courthouse fire. The Supreme Court reached this decision because the plain language of the AIA contract restricts the scope of the waiver based on the source and extent of property insurance coverage, not the nature of the damages. Accordingly summary judgment in favor of Contractors and against Jefferson County was proper.

ZALMA OPINION

Waivers of subrogation are important tools for owners of property, whether dealing with contractors or lessees. It gives each party to a contract with an owner of real property the assurance that regardless of the cause of damage to the property, or who was responsible for the cause, both parties agree that they will rely on their own insurance rather than go to the trouble, inconvenience and expense of litigation. The county and its insurer tried to change the terms of their agreements and the Supreme Court insisted on requiring the parties to rely on their own insurance.