The Indiana Court of Appeals, in a split decision, recently held that a waiver of subrogation clause in a construction contract serves to waive all claims for damage, where those damages are covered—or should be covered—by the contractually required insurance to be procured by the Project Owner. In The Board of Commissioners of the County of Jefferson v. Teton Corporation, the Indiana Court of Appeals addressed interpretation of several American Institute of Architect (AIA) contract provisions relating to the procurement of insurance by the owner and the associated waiver of claims for damages covered by that insurance.
The case involved a repair and renovation project to the Jefferson County courthouse in Madison, Indiana. During the course of the project, a fire occurred that caused over $6 Million in damages. The property insurer for the Project Owner made payments for damages caused by the fire. The Project Owner then sued several of the contractors involved in the project, alleging negligence, breach of implied warranties, and breach of contract in relation to the fire and the resulting damages.
The Project Owner’s contract was an AIA contract form that included several provisions relating to insurance. The contract provided:
- The Project Owner would purchase and maintain property insurance;
- The property insurance would be “all risk” to insure against the perils of fire;
- If the Project Owner decided not to purchase the required insurance, then the Project Owner agreed to notify the Contractor, so that Contractor could procure the insurance and pass the cost to the Project Owner through a Change Order;
- The Project Owner and Contractor mutually waived all rights against each other for damages caused by fire or other perils “to the extent covered by property insurance obtained pursuant to [the Contract]…”
The Project Owner argued that (1) the waiver of subrogation only applied to the “Work” as defined in the construction contract, and not to “non-Work” or other property not part of the project; and (2) the damages sought against the contractors included both damages covered by the Project Owner’s property insurance and damages that were not covered by the property insurance.
On the first argument, the Indiana Court of Appeals held that the “majority view” on application of the waiver of subrogation clause in the AIA contract is that the waiver applies to all damages covered by property insurance, regardless of whether those damages were to the “Work” or “non-Work” on the Project. The Court noted that requiring the parties to determine what damages were “Work” and what damages were “non-Work” would lead to more litigation and expenses for the parties. Therefore, the Court settled on what it deemed to be the clear intent of the AIA waiver of subrogation clause—to waive all claims for damages, where those damages were covered by property insurance, without requiring proof of whether the damages were to the “Work” or to other property.
On the second argument, the Court held that the Project Owner was contractually required to obtain “all risk” insurance for the Project, or, if it chose not to purchase that insurance, then to notify Contractor so that Contractor could procure the insurance. The Court stated that the insurance procured by the Project Owner was property insurance, but was not builder’s risk insurance with the required “all risk” coverage. The Court further stated that the Project Owner breached the contract by failing to notify the Contractor that it had not procured the insurance required under the contract. In light of this breach, the Court held that since the Project Owner did not secure the contractually-required insurance, that it still waived its subrogation rights for any loss described within the AIA contract provisions.
Procedurally, the parties to the The Board of Commissioners of the County of Jefferson v. Teton Corporation case may seek a rehearing or even review by the Indiana Supreme Court. We will have to wait and see whether there are any further proceedings on this issue. But in the meantime, the lesson for project owners, contractors, and architects is clear: Be very aware of the insurance requirements in your contracts, and make sure that you (and the other project participants with whom you are dealing) have the necessary insurance policies and coverages in place. While the waiver of subrogation clause is an important risk sharing tool for the parties, it can have dire consequences for parties that fail to follow the insurance requirements in the contract.