Insurers could soon face an onslaught of payment demands forso-called "stigma damages" claims as the number of environmentalcontamination claims and suits for methyl tertiary-butyl ether--agasoline additive--continue to grow.

Approximately 200 MtBE lawsuits are currently pending in courtsaround the country, including a large multidistrict litigation inthe U.S. District Court for the Southern District of New York.

This number appears to be on the rise as property owners andmunicipalities test for the presence of MtBE in groundwatercontaminated from such sources as leaking underground gasolinestorage tanks.

A significant component of these claims that insurers mustevaluate relates not just to the costs of remediating thecontaminated property but also demands for payment for thediminution in value of the property--in essence, economic lossesfor the "stigma" associated with the public's fear and anxiety inpurchasing previously contaminated property.

Moreover, stigma damages claims may come not just from theowners of the contaminated property itself but also fromsurrounding landowners who claim to have suffered a loss ofproperty value simply due to public fear regarding their land'sproximity to the MtBE contamination.

In evaluating stigma damage claims, general liability insurersshould be aware that they can assert significant coverage andliability defenses to these claims--both of which play asignificant role in an insurer's overall exposure to pay for eitherdefense or indemnity of these alleged losses.

Although courts have often failed to take a single, consistentapproach to stigma damage claims, they have laid out a number ofdifferent avenues--from the perspective of both coverage andliability--by which insurers can respond to these claims.

First, there may be no coverage for these stigma damages becausesuch economic losses do not constitute "property damage" as definedby general liability insurance contracts. Although no court hasspecifically addressed whether diminution in value due to MtBEcontamination constitutes "property damage," other courts haveaddressed the issue in the context of other forms of contaminationand have found no coverage for such claims.

The key coverage issue is whether a claim for diminution invalue constitutes a "loss of use" because general liabilitycontracts commonly define "property damage" as "physical injury totangible property, including all resulting loss of use of thatproperty" or "loss of use of tangible property that is notphysically injured."

In 1986, in Hawaiian Ins. & Guar. Co., Ltd. v. Blair, Ltd.,for example, the Hawaii Appeals Court ruled: "We hold that asapplied to the facts of this case, 'diminution in value' does notconstitute 'loss of use' within the meaning of the policyprovision."

In Iowa, in Kartridg Pak Co. v. Travelers Indem. Co., the 1988Appeal Court held that the "requirement of 'physical injury ordestruction of tangible property' is clear and unambiguous,"concluding that "tangible damages, such as diminution of value, donot constitute physical injury to or destruction of tangibleproperty."

Second, the issue of causation may also be a significantcoverage defense to a "stigma damages" claim. Under the terms of ageneral liability contract, the policy only provides coverage forthose losses that are caused by the physical damage to theproperty, and not the diminution in value caused by other marketfactors.

A new opinion from Texas in Nautilus Ins. Co. v. ABN-AMROMortgage Group Inc. (S.D. Tex. Dec. 8, 2006) recently addressedthis question.

In Nautilus, a Texas federal district court denied the insurer'smotion for summary judgment and found that the underlyingplaintiffs had alleged potentially covered property damage butdistinguished between covered and uncovered diminution-in-valueclaims.

The defendant-insured in this case was sued by 928 individualplaintiffs who purchased manufactured homes from the insured for,among other things, deficient construction and deceptive tradepractices. The plaintiffs' property had allegedly suffered damageto their foundations.

The insurer argued, however, that certain alleged economicdamages related to the over-valuation of the homes did notconstitute "property damage" under the insurance contracts.

The Texas court concluded that economic losses that were causedby the property damage would be potentially covered by theinsurance contracts. However, economic losses caused for reasonsother than the property damage would not be covered.

As stated by the court, "assuming the facts alleged in thecomplaint are true, the diminution in the value of theproperties...attributable to the physical defects would be coveredby the policies. Any additional loss...that was caused by [otherfactors and] is not related to the property damage" would not be"covered by the policies."

Under the reasoning of Nautilus, causation may be a significantdefense to stigma damages claims. If the economic losses--that is,stigma damages--were caused by MtBE contamination, then arguably aclaimant has suffered covered property damage.

However, if the economic losses were caused by factors otherthan the contamination--such as changes in the market or othereconomic conditions--then those losses would not be covered.

Insurers may be able to raise other coverage defenses as well,including, for example, the number of "occurrences"--an issue thatimpacts both limits of liability and self-insured retentions.

In Sunoco Inc. v. Illinois National Ins. Co., the U.S. Court ofAppeals for the Third Circuit found that 76 of 77 MtBE lawsuitsarose from a single "occurrence" in a Jan. 31, 2007 ruling.

Insurers also have other potential liability defenses to stigmadamage claims in the underlying suits that significantly impacttheir potential coverage obligations.

Liability defenses, for example, are an important part ofdetermining an insurer's good faith obligation to pay, if any, athird-party demand for losses and, thus, whether an insurer has anyduty to indemnify the policyholder for such losses.

As a general rule, courts have been reluctant to find that amere diminution in value alone was sufficient to support a claimfor nuisance where there is no evidence of actual physicalinjury.

For example, the Fourth Circuit in Adams v. Star Enterprise in1995 held that landowners' fears of future harm and ill healtheffects from the migration of an oil spill to their property werenot compensable under Virginia law in a negligence action againstoil facility operators, absent a showing of physical impact on thelandowner's property or physical injury.

In 1986, in Exxon Corp. v. Yarema, however, the Maryland Courtof Special Appeals held that a property owner could bring a claimfor nuisance without showing direct physical impact on the land,but only where gasoline contamination of groundwater resulted inthe imposition of crippling restrictions on the use of theland.

Other liability defenses could also potentially apply. In a 1998ruling in Black v. Coastal Oil New England Inc., the MassachusettsCourt of Appeals rejected diminution in value as an appropriatemeasure of damages except for permanent or irremediable injury.

In addition to its own coverage defenses, these liabilitydefenses are an important component of an insurer's evaluation of a"stigma damages" claim.

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