Insurable Interest—It’s Not Just Theory; Authorized Rep Steals $5.2 Mil—Firm “Fully Insured” But Collects Zero; After 40 Years in the Desert, Norman Rockwell Painting Returns; Vacancy and Ambiguity—A Bad Mix

Insurable Interest, It’s Not Just Theory

Insurable Interest is not just a topic in Insurance 101. You cope with it every time you specify the named insured for a property policy.

Insurable interest means the insured has to have some skin in the game. It doesn’t mean the insured has to be the absolute owner. New York insurance law says that a legal or equitable interest in the property insured is not necessary to support an insurable interest. Dependent property coverage (sometimes called contingent business income coverage) is an example of a coverage where no ownership interest at all is needed to establish an insurable interest. Dependent property coverage stipulates that the insured neither owns nor operates the location on which it’s dependent. It covers the loss of income to a business when, for example, a key supplier’s plant is destroyed by a hurricane. What is required is that the named insured will suffer financial loss if the specified property is damaged or destroyed.

Nevertheless, there are many situations where a lack of insurable interest spells trouble. One author’s list includes these examples:

1. The named insured is operating a business at the location, but is not the owner of the property, even though it is affiliated with the operating business.
2. The tenant, who is not the owner of the property, is the only one named as an insured.
3. Family trusts or limited liability entities are the owners of the property, but are not the named insureds.
4. A family member occupying, but not owning the premises, is the only named insured.
5. A divorce or separation occurs and the policy is not changed.
6. The property is sold, but the parties do not get permission to transfer the existing policy and no new policy is written to cover the buying entity.[i]

Not all of these situations are fatal to a claim, but even if they’re not, it can take work, worry, and wampum to collect a loss. Get it right before the loss.

The case of Raymond Azzato provides a textbook example of how not to handle insurable interest problems. He and Richard Pleasants purchased a rental property in East Islip. Raymond took out a landlord’s policy covering the property in his name and in the name of Tricia Williamson, his wife. Richard Pleasants was not named as an insured. When the loss occurred, the most Raymond could collect was his 50% interest. (The policy limited recovery to not more than the insured’s insurable interest in the property and Raymond and Richard were equal partners.)

But that wasn’t the end of his troubles. The insurance company denied coverage for the entire claim, arguing that Raymond had submitted fraudulent claims for appliances that had not, in fact, been installed in the building. Trying to salvage at least part of the claim, Raymond contended that his wife was entitled to at least 25% of the claim as she was a joint insured on the landlord’s policy and was not involved in the exaggerated claim. To support that position, he stated that she had “contributed to the purchase of (his) share of the subject property, that she helped to maintain it after it was purchased, and that she furnished portions of the dwelling with her own personal property.”[ii]

The court didn’t buy it. It ruled that even if Tracy had helped pay for or maintain the property, that did not create an insurable interest. It also pointed out that they didn’t claim that Williamson earned any income from the property, resided in the dwelling, or had any legal or equitable right to do so. The court found no “basis for concluding that she had an insurable interest.” The court concluded that “the interest must be of such a character that the destruction of the property will have a direct, and not a mere remote or consequential, effect upon it.”[iii]

What does create an insurable interest? The requirements are generally spelled out in each state’s insurance law. New York insurance law § 3401 defines insurable interest as “any lawful and substantial economic interest in the safety or preservation of property from loss, destruction or pecuniary damage.” In other words, an insurable interest exists if the insured might suffer financial harm from the destruction of the property and/or derive financial benefit from its continued existence. (Most other states have laws similar to New York’s.)

Another New York case went the other way. Leeza and Raffi Bardakjian had a homeowners’ insurance policy on the home they occupied. However, title was held by a corporation that paid all the operating expenses. Raffi had a 25% ownership of the corporation. Based on that and the fact that the Bardakjians were the sole occupants of the house the entire time it was owned, the court found that they had an insurable interest in the house. But, once again that’s not a good way to collect on an insurance policy. First, there was the expense and stress of the lawsuit and second, the Bardakjians’ recovery may have been limited to the 25% interest that Raffi had in the corporation.[iv]

PRACTICE POINT: Ask who holds title to the property to be insured and train your staff to do that, too. If someone other than the insured holds title, straighten out how the named insured should read before the loss. Furthermore, add a strong broad-named insured endorsement to policies whenever possible. It can save the day.

Authorized Rep Steals $5.2 Mil, Firm Is “Fully Insured” But Collects Zero

Juanita Berry started out as a consultant for Telamon Corporation. She progressed to become vice-president for major accounts, overseeing operation of the company’s facilities in New York and New Jersey. However she was still a consultant via a contract between Telamon and J. Starr Communications, Juanita’s one-person consulting firm.

Juanita oversaw Telamon’s Asset Recovery Program that removed old telecommunications equipment from AT&T sites and sold it to salvagers. She was probably good at her job, but she had sideline that Telamon wasn’t aware of: she pocketed the proceeds. By the time Telamon realized something was amiss, she had skimmed $5.2 million.

Telamon turned to its insurance to recoup its loss. It carried both commercial property insurance, which included theft and employee theft policies with Travelers.[v] Telamon felt that at least one of the policies would respond, but Travelers declined coverage under both. Travelers said that Juanita had control of the property and the commercial property coverage excluded theft by anyone to whom the property was entrusted. As to the employee theft coverage, it applied only to employees and Juanita was a consultant, not an employee. Telamon sued. Both the district court and the appellate court ruled that there was no coverage.[vi]

It doesn’t sit right that Telamon carried both property coverage that included property theft and employee theft coverage but couldn’t collect a $5.2 million theft loss. What went wrong? Was there a coverage missing? The answer is yes. There is a standard endorsement to the employee theft coverage that would have closed the gap: the Designated Agents endorsement, ISO form CR 25 02. (Insurers that don’t use ISO forms offer comparable endorsements.) The endorsement covers any natural person, partnership or corporation appointed in writing to provide the services specified in the endorsement. Each such agent and its partners, officers, and employees are considered to be, collectively, one “employee.”

In the current gig economy, “employees” who are actually contractors are very common. Ask your clients if they use independent contractors and amend their policies as needed if they do. An uninsured $5.2 million loss can really spoil your day.

After 40 Years in the Desert, Norman Rockwell Painting Returns

In 1976, a Norman Rockwell painting, Boy Asleep with Hoe, was stolen from the Grant family of Cherry Hill, NJ. The painting, which Rockwell painted in 1919 early in his career, shows a chubby young boy asleep in a field with his hoe lying across his chest. It came into Robert Grant’s possession in the 1950s when he was playing pool in a friend’s house. He drew his cue back too far and punctured the picture. In keeping with the rule “you break it, you bought it,” Grant gave his host $50 or $100 and took the painting—Grant died in 2004 and his heirs aren’t sure exactly what he paid. What they do know is that he proudly displayed the painting and that it is very valuable today. It’s not one of Rockwell’s best, but it is one of the earliest of the 323 paintings he did for covers of the Saturday Evening Post.

Robert Grant carried homeowners’ insurance with Chubb. Chubb paid him for his loss, which included a TV set and other property. As part of loss settlements, title to stolen property is transferred to the insurer. Therefore, Chubb owned the recovered painting. However, crime policies give the insured the option to repossess covered property by reimbursing the insurance company the amount paid in settlement of the loss. And the repayment is the exact amount the insurance company paid for the loss, not its current value.

Robert Grant’s heirs are glad to have the picture back—they remember it hanging in their childhood homes. But they’re not hanging it in their homes. Estimates of its current value range up to $1 million. It’s in storage. I hope it’s insured.

Vacancy and Ambiguity, a Bad Mix

Village Heights is a gated community that includes fifteen stand-alone homes, thirty apartment units, one duplex, and one triplex. The Village Heights Condo Association was responsible for insuring the buildings. Insurance written by Cincinnati Insurance covered all the buildings on a blanket basis for $15,282,755.

In December of 2013, Mr. and Mrs. Herbert Graves, the owners of one of the stand-alone units, moved to an apartment in Village Heights and signed a contract to sell their stand-alone unit. Unfortunately, in the summer of 2014, the sale fell through. The Graves were unable to find a buyer during the rest of 2014 and the beginning of 2015.

On March 1, 2015, while the Graves were on vacation, a pipe froze and burst in the unit, causing significant water damage. Under the offering plan governing the association, Village Heights was responsible for the building up to the interior surface of the unit walls. That meant that much of the damage would be covered under the association’s policy, not by any insurance that the unit owner carried.

Cincinnati Insurance said that the Graves’ unit was vacant and had been for more than 60 days prior to the loss, therefore the water damage loss was not covered. The policy contained a standard ISO vacancy definition that a building is vacant when less than 31% of the square footage of building is rented to others or used by the owner. It excluded water damage to vacant property.[vii] The Association and the Graves countered that the policy covered all 19 buildings blanket, and that the 31% calculation should be applied to the square footage of all 19 buildings. That approach would not trigger the exclusion.

The US District Court decided that the policy was ambiguous; it was not clear whether “building” as used in the 31% requirement meant the one building or all 19 buildings. In accordance with the doctrine accepted in just about every state that ambiguities in contracts are resolved against the drafter of the contract, the court ruled in favor of the Association. It was a Pyrrhic victory for the Association and the Graves. Much of loss proceeds were undoubtedly eaten up by legal costs.

This case is a warning. Condominiums and homeowners associations just like Village Heights are common. Some are almost entirely composed of single-family units, but even so single-family units can turn up in unexpected places. The homeowners association where we lived until last year consisted of 12 structures that each contained three or four units, however the resident manager’s house was a single-family structure. A few years ago, a fire did $600,000 damage to that building. All the structures were insured blanket under one policy, just like Village Heights. What if our association had changed from a resident manager to a management company that hired contractors to do the work, and the former manager’s building had been vacant for more than 60 days while it was up for sale? We might have gone through the same ordeal as Village Heath.

Solution: Get the insurer to agree before the loss that the vacancy exclusion applies to the percentage of all the buildings covered blanket, not separately to each specific building.

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[i] Chip Merlin, “California Insurable Interest and the Merlin Law Blog Search Function” Property Insurance Law Blog http://www.propertyinsurancecoveragelaw.com/2016/06/articles/insurance/california-insurable-interest-and-the-merlin-law-blog-search-function/

[ii] Azzato v. Allstate Ins. Co., 951 N.Y.S.2d 726 (NY Sup. Crt., App. Div. 2d Dept. 2012)

[iii] Ibid

[iv] Bardakjian v Preferred Mut. Ins. Co., 2013 NY Slip Op 51086(U) [40 Misc 3d 1209]

[v] The policies were written by Travelers and Charter Oak, both members of the Travelers Group of Insurance Companies. At Telamon’s request, Travelers adjusted both claims as part of one procedure.

[vi] Telamon Corp. v. Charter Oak Fire Ins. Co., Nos. 16-1205, 16-1815 (7th Cir. March 9, 2017).

[vii] Village Heights Condominium Association v. The Cincinnati Insurance Co., No. 16-554, M.D. Pa., 2017.