In the late 1990s and early 2000s, the insurance industry saw avery sharp increase in the number of claims being submitted formold damage associated with covered water damage claims. At thattime, most property policies had a standard mold exclusion that hadbeen present for many years. The standard Homeowners 3 form fromthe Insurance Services Office provided all-risk or open-perilscoverage for direct physical loss to the dwelling, but contained astandard mold exclusion that was generally interpreted as excludingonly damage that was caused by the peril of naturally occurringmold. It did not exclude the mold growth and damage that occurredas a result of a covered water damage claim.

In the early 2000s, the public became more aware of a potentialhealth hazard resulting from prolonged exposure to mold. As aresult, the insurance industry faced tens of thousands of claimsnationwide for mold damage associated with covered water damageclaims, with hundreds of millions of dollars in claims on the linealong with a lengthy and expensive litigation process.

By no later than 2001, the insurance industry was acutely awareof the potential cost of covering mold damages resulting from acovered cause of loss. The industry prepared and then enacted anumber of changes and endorsements to existing property policies.These changes and endorsements were aimed at eliminating orlimiting coverage for any mold damages.

Property insurance policies provide coverage or indemnity fordamages caused by perils or risks. Exclusions in these policieseliminate certain named perils or risks from coverage. The moldexclusions added by the insurance industry since 2000 are worded toexclude both peril (mold) and damage (mold), often withoutdistinction [see sidebar, "What Is Excluded?"]. This usage isambiguous and misleading when placed in an exclusion that typicallydeals only with perils.

Eradicating the Problem

Some companies took the approach of trying to eliminate any andall mold exposure from their policies, shifting the loss andfinancial burden instead to the policyholder. These endorsements orchanges were worded with the aim of totally eliminating anycoverage for mold, mold damage, or mold-related damage or expenseregardless of how it was caused.

However, an endorsement that excludes mold as a peril and triesto eliminate damages caused by another covered peril (such as awater loss) may run counter to state law and may be against publicpolicy. A blatant attempt by an insurance company to deny coveragefor damages resulting from a covered cause of loss may not standlegal scrutiny.

Other companies took a different approach, opting to firstexclude mold both as a peril and a damage, and then providinglimited coverage for mold, mold damages, and mold-related claims ifthe mold resulted from another covered cause of loss. Theseendorsements generally agreed to add back coverage for mold claimsbut also put forth a separate policy sub-limit (such as $5,000) tocover claims related to mold, such as physical damage to dwellingand contents, remediation, testing, and additional livingexpense.

Depending on the specific wording of the endorsement, theserevisions may have some problems. Some endorsements provide moldlimits for Coverages A, B, or C. The key word in theseendorsements, of course, is “or.” When written this way, theendorsement does not clearly state that there is one singlecumulative policy sub-limit of $5,000 applicable to mold for all ofthe insured property combined.

Since the basic homeowner's policy has separate limits ofliability for each coverage (A, B, C, and D), it is logical andreasonable for an insured to understand that the insurer intendedto provide a separate $5,000 sub-limit for each of the Coverages,A, B, and C (and possibly D). This would be $5,000 for thedwelling, $5,000 for other structures, and $5,000 for contents fora total of at least $15,000 (and possibly another $5,000 or 12months for ALE.). If the form is viewed as ambiguous, it likelywill be interpreted in favor of the insured.

When some mold endorsements talk about the $5,000 sub-limit formold, they do so in terms of remediation, which the endorsementdefines as covering repairs, investigation, and ALE. The insuranceindustry standard has been that the cost of investigating the claimhas not been part of the policy limit available to the insured forA, B, C, or D, but has been part of the routine adjustment expense.When the insurer agrees to provide $5,000 coverage for mold andthen charges investigation costs against that limit, the insurer isintentionally transferring part of its normal adjustment expense tothe policyholder and depriving the policyholder of the full limitor sub-limit of coverage normally available to indemnify theinsured for their physical loss.

Additionally, most property policies — when they place dollarlimits on certain categories of items or loss such as jewelry,cash, etc. — place the limitations together in one place where thesub-limits can be easily discerned by the policyholder. Placementof a sub-limit on mold damages in a section where one normallyencounters only exclusions of perils may serve to unduly confuse aninsured and fail to warn the insured properly of the limitation onmold damage.

Water Damage Claims

If the mold exclusions withstand legal scrutiny, the insuranceindustry is still left with the problem of dealing with suddenwater damage claims that are promptly reported. Procedures must beimplemented to deal with these claims in order meet industrystandards, minimize water damage, and prevent the growth of moldthat might follow.

Water damage claims are among the most common property-damageclaims made, both in terms of number of claims made and dollarspaid. Adjusters should be very aware of the need to immediatelyremove water and start dry down of the property to mitigatedamage.

In the case of water damage claims, the industry standard is tomake contact in 24 hours and inspection in 48 hours. It isimperative in a significant water damage claim that inspection ismade in 48 hours and that the insured be urged to obtain immediateemergency water removal services to mitigate the damages. Theinsured also should be advised as to whether or not such emergencyservices are covered under the policy and whether the insurancecompany will be paying for such services or not.

The duty may be statutory, judicial, or simply an insuranceindustry standard, but the general rule is that an insurancecompany has a duty to offer, provide, and assist the insured incollecting the available policy benefits.

Most insureds are not aware of the areas where water may remainhidden and cause further damage, but adjusters are. Most insuredsare not aware of the dangers of the continuing presence of water inthese hidden areas. Again, adjusters are.

Adjusters are, or should be, aware of the potential for furtherproblems since they will often handle water damage claims on afrequent basis. Adjusters are aware that the presence of water in aparticular location is an indicator of possible or even probablehidden water in other locations.

An insurance company can commit bad faith or be negligent to theextent of malpractice in their handling of routine water damageclaims when their action or inaction results in new or additionaldamages and injuries.

A Duty to Perform

When the insurance industry knowingly instituted measures toeliminate coverage for mold damage or to cap mold damages, it wasin response to an industry-wide history and awareness of theexpense of handling and paying mold claims.

These changes in coverage provided by the property policies arespecifically designed to eliminate or limit claim payments that theinsurance companies would be required to make in mold-relatedclaims. An insurance company, in limiting or capping mold claims,does so with the knowledge that what used to be covered mold claimsoften arose from covered water damage claims.

When the insurance industry re-wrote the policy provisions toexclude such an expensive set of damages, they did so with fullknowledge that when they did not indemnify the insured for whatused to be a covered damage, the financial burden would fall on theinsured.

The number of claims and lawsuits involving mold contaminationresulting from covered water damage claims since 1999 indicatesthat special handling of mold issues was often only lip service andnot actual good-faith claim handling. An insurance company'sknowing or willful or even negligent failure to properly handle awater damage claim is a severe breach of their duty to theirpolicyholders.

An adjuster may be held responsible for their conduct if theirnegligence causes damage or injury. In the same manner, if thegrowth of mold is caused by the negligence or failure of theadjuster to immediately advise, offer, and assist the insured withemergency water removal and dry down of the covered property loss,the adjuster may be in bad faith under an insurance contract orliable in tort outside of the contract for causing a damage thatmay not be covered. In such cases, there may be a claim directlyagainst the adjuster or insurance company, or under the errors andomissions policy carried by the adjuster or insurance company.

If there is both water damage and mold damage, at the very leastthe insurer should determine the full scope of the covered waterdamage claim and extend coverage for the water damage, excludingonly that which is necessitated due solely to mold and mold alone.Some companies have gone so far as to deny the water damage ifthere is mold associated with it. The duty to segregate damages mayvary from state to state but the general industry standard is topay for the covered water damage, regardless of the presence ofmold. If cleaning up the covered water damage means coincidentallyremoving the mold, then so be it. A covered claim should be honoredeven if it also takes care of a non-covered loss.

It has been estimated that a mold claim may cost up to five or10 times what an ordinary water damage claim costs. Insurancecompanies know from expensive experience that the failure toproperly and promptly handle a water damage claim could result in amold claim. Such awareness brings with it an obligation to thepolicyholder to promptly and properly handle a covered water damageclaim. If the covered water damage is mishandled, the insured willbe burdened with a mold claim of the very sort that the insurancecompany has gone to great lengths to avoid covering.

The insurance company is relying on the mold exclusion orlimitation to preclude or limit payment of mold claims. Theinsurance company may not be allowed to mishandle a covered waterdamage claim that allows mold to develop, and then cite the moldexclusion and walk away from the problem.

It is imperative that insurance companies implement proceduresand train adjusters to immediately respond to water damage claimsand provide any emergency benefits available in the policy forremoval of the water and drying down the property. Many insuredsmay be unaware of hidden damage or dangers, and may not have thefinancial means to undertake extensive water removal and dryingdown. Offering immediate advice and providing any available policybenefits for emergency services will go a long way towardsassisting the insured in mitigating the water damage preventing themold growth that companies have worked so hard to avoid paying.

Everette Lee Herndon, Jr. is a claim consultant and expertwitness in matters involving insurance claim handling, coverage,and bad-faith issues. He also is a member of the California Bar. Hecan be reached at www.leeherndon.com.