The Definition of Property Damage

 

Property damage is defined on the CGL form as: physical injury to tangible property, including all resulting loss of use of that property; and loss of use of tangible property that is not physically injured. The loss of use is deemed to occur at the time of the physical injury (or occurrence, when there is no physical injury) that caused it.

 

There are several things to note about this definition.

 

Property damage under a CGL form pertains to tangible property, that is, property that can be touched, property that is physical and material. For example: a book is tangible property, an idea is not; a computer is tangible property, the information in the computer is not; a retail store building is tangible property, goodwill engendered by good retail business is not. For property damage to occur, the property has to have an alteration in appearance, shape, color, or some other material dimension, and that can only occur in property that is tangible.

 

There has been speculation (and some judicial opinion) that computer data is tangible property since it can be put on a disk, edited, and transferred from one person to another. However, in an effort to end that course of thought, the current CGL form specifically states that “for the purpose of this insurance, electronic data is not tangible property.” Electronic data includes information, facts, or programs stored as or on, created or used on, or transmitted to or from computer software. Also, the current CGL form has an exclusion applying to damages arising out of the loss of, loss of use of, damage to, corruption of, inability to access, or inability to manipulate electronic data. This should clear up the issue of whether computer software data is tangible property that could be covered as property damage under a CGL form, although whether this definition and exclusion will satisfy courts as the information age progresses remains to be seen.

 

Another notable point is that property damage includes loss of use of tangible property, even if there is no physical injury to the property. If physical injury to tangible property occurs, then the loss of use of that property is automatically included within the definition of property damage. For example, if the insured negligently crashes his mobile equipment into someone's retail store, the physical injury to the store is property damage covered under the CGL form, and the resulting loss of use of that store by the owner is also property damage covered under the CGL form. But, what if the loss of use of the tangible property occurs when there is no actual physical damage to the property? This part of the definition can be more troublesome than the first part in that different courts can interpret “loss of use” differently. Examine the following cases for some examples.

 

In Hendrickson v. Zurich American Insurance Company, 72 Cal. App.4th 1084 (1st Dist. 1999), an insured commercial nursery brought suit against its insurer for breach of the duty to defend in a case where the insured was sued by growers over defective plants that failed to produce a full crop; the plaintiffs in the complaint against the insured alleged that they were damaged by a loss of use of tangible property due to the defective plants that the insured sold to them. The court of appeals decided that the loss of use suffered by the growers did constitute property damage as defined on the insured's CGL form even though their land was not physically injured. The court found that the growers” complaint could be reasonably construed as alleging that, as a result of the insured's negligent delivery of defective plants, the growers suffered a loss of strawberry production, and thereby a loss of use of their land. The court concluded by saying that loss of profits and diminution in property value allegedly suffered by the growers in this case as a result of the defective plants were not solely economic losses—which are outside covered property damage in liability policies—but are damages because of property damage, and constituted alternative measures of property damage.

 

Hartzell Industries, Inc. v. Federal Insurance Company, 168 F. Supp. 2d 789 (S.D. Ohio 2001) is a case where the insured brought an action against the insurer, seeking indemnification of its liability in an underlying action. Hartzell supplied the Allegheny Power Company with seven roof fans to cool its boiler house. The propellers on one of the fans disintegrated and Allegheny shut down all the fans as a precaution; this led to lost worker productivity due to the hot work environment attributable to the lack of functioning roof fans. The power company filed a lawsuit against Hartzell for damages, and Hartzell tendered the claim to Federal. Then, the dispute over coverage began.

 

Hartzell said that there was a property damage claim because Allegheny lost the use of tangible property—its boiler house—even though that tangible property was not physically injured. Federal countered that Allegheny did not lose the use of its boiler house as a result of the fan failure, but merely lost the use of the fans; and, since the fans were the only tangible property that could not be used, the insurer said that Hartzell could not establish property damage based on the loss of use of tangible property that is not physically injured. Federal also said that Allegheny's alleged damages resulting from reduced worker productivity due to heat in the boiler house are purely economic losses which do not constitute the loss of use of tangible property. The court found Federal's arguments to be unpersuasive.

 

The district court noted that Allegheny's complaint against Hartzell was that its boiler house became too hot as a result of the inability to use Hartzell's roof fans. This, the court found, qualified as a covered loss of use of tangible property that is not physically injured. The boiler house became less useful because the fans were turned off and this resulted in a loss of productivity for Allegheny. This loss of use constituted property damage as defined on the CGL form.

 

Another case is American Mercury Insurance Group v. Urban, 2001 WL 1723734 (D. Kan. 2001). (Note that this case is not reported in F.Supp.2d.) This was a declaratory judgment action to determine whether American Mercury Insurance Group had a duty to defend and indemnify its insured, Meadows General Contracting. Urban purchased a wet bin and a grain dryer and arranged with Meadows to construct and install these and other parts and components of Urban's grain handling facility. Meadows started the work but could not complete it, so Urban hired another construction company to do that. After a while, Urban put 5,000 to 6,000 bushels of shelled corn into the facility, but the concrete pad upon which the wet bin sat and which was poured by Meadows settled and the wet bin tilted. Urban filed a lawsuit against Meadows alleging that the unexpected, sudden and accidental tilting of the wet bin resulted in his being able to fill the wet bin to only one-third of its capacity, which meant that the grain handling facility was able to operate at only one-third capacity; in other words, the loss of use of the wet bin damaged Urban's grain handling facilities as a whole. Urban charged that the tilting was caused by Meadow's inadequate and negligent design of the concrete pad.

 

Meadows tendered the lawsuit to its insurer, but American Mercury filed a declaratory judgment action, saying that Meadows' policy did not cover claims made by Urban. Urban asserted that the damages he claimed related to the partial loss of use and the resultant diminished value of his entire grain handling facility, and that this was property damage as defined on Meadows policy. This court, however, found that the definition of property damage did not extend coverage to intangible injuries such as Urban's partial loss of use of his business. In other words, loss of use of tangible property that is not physically injured does not describe the loss that Urban suffered in this instance. Judgment was entered in favor of the insurer.

 

In Advanced Network, Inc. v. Peerless Insurance Company, 119 Cal.Rptr.3d 17 (2011), the Court of Appeal, Fourth District, Division 1, California held that the permanent loss of cash was not covered under the CGL form's loss of use provision. In this case, the servicer of cash distribution machines in credit unions brought an action against its commercial general liability insurer for breach of contract after the insurer denied coverage for a claim arising out of a theft of cash by the servicer's employee from a credit union client. The appeals court ruled that this action was not for the “loss of use” of the cash, but rather was for the permanent “loss” of the cash (the property) and its replacement value; thus, this claim was not covered under the loss of use section of the definition of property damage as claimed by the insured. The court noted that the terms “loss of use” and “loss” are not interchangeable for liability insurance purposes.

 

These cases show that “loss of use”, when there is no physical injury to tangible property, can be subject to a case by case judicial interpretation. However, logic would seem to say that if the claimant cannot use his tangible property because of the negligence of the insured, that sometimes can be seen as within the bounds of the definition of property damage on the CGL form.

 

One final point to note about the property damage definition: the loss of use is deemed to occur at the time of the physical injury or occurrence that caused it; this pertains to which policy applies to a property damage loss.

 

Now, there is general agreement that property damage occurs at the time the damage is discovered or when it has manifested itself. For example, see Wrecking Corporation of America, Virginia, Inc. v. Insurance Company of North America, 574 A.2d 1348 (D.C. 1990); and see Travelers Insurance Company v. Eljer Mfg., Inc., 757 N.E.2d 481 (Ill. 2001). However, what if the property damage occurs in a policy period that ends in 2001, for example, but the actual loss of use of the property because of the damage occurs in 2002, after a new policy period has begun? Which policy should cover the loss of use? Since the definition on the CGL form now says that the loss of use occurs at the time of the physical injury or occurrence that caused it, the answer is simple: the policy in force at the time the property damage occurs also applies to any resulting loss of use, no matter when that loss of use occurs.

 

An example of this is Mitchell, Best, & Visnic, Inc. v. Travelers Property Casualty Corp., 121 F. Supp. 2d 848 (D. Maryland 2000). In that case, an insured builder of custom homes sued its insurer, seeking coverage for claims by home purchasers who alleged negligent misrepresentations on the part of the insured. One of the defenses of Travelers was that the claimed damages did not occur during the policy period. Travelers” policy with Mitchell ran from January 1, 1998 through January 1, 1999, and the alleged misrepresentations by the insured did occur during that time. However, Travelers argued that the only real damages that may occur would do so in the future, if the houses under construction need to be modified and repaired; thus, any damages would occur outside the policy period. The district court did not agree.

 

The court reviewed the policy and said that the definition of property damage states clearly that the loss must occur at the time of the occurrence that caused it; in order for the insured to be covered, the occurrence must take place during the coverage period. The court found that the occurrence was the alleged negligent misrepresentation by the insured. This took place during the policy period, and any damages from this alleged misrepresentation occurred during the policy period, even though any costs resulting from the misrepresentation—that is, modification of homes to satisfy restrictive covenants—would be incurred in some future time outside the policy period.

 

Conversion, Theft, or Disappearance

 

The question of whether “loss of use of tangible property that is not physically injured” is property damage often comes into play when the loss is caused by conversion, theft, or disappearance. After all, if some property of the claimant is missing (that is, not actually physically injured), it cannot be used. But, there can be side issues with these three actions that affect the answer of whether they are property damage and are covered by the CGL form.

 

For example, conversion is certainly an action that deprives the owner of his property, but does it fit the definition of property damage under the terms of the CGL form? A good discussion of this question can be found in Collin v. American Empire Insurance Company, 21 Cal. App.4th 787 (Cal. App. 1994). This was a case where Collin owned a house which he leased to Gordon. Gordon hired Southwest Design to do some remodeling work without informing Collin. The remodeling work required the removal of some of the household items that belonged to Collin. These items were stored in a warehouse, but when Collin went to retrieve the property, it was gone. Collin sued the remodeling company, alleging conversion of personal property. Collin attained a judgment against Southwest Design and then commenced this action against American Empire to satisfy the judgment. The trial court ruled that the conversion of the personal property was an accident covered by the policy, and the insurer appealed.

 

The appeals court conducted an extensive review of the legal meaning of conversion and its relation to property damage, and reversed the trial court's decision. The appeals court noted that virtually every court to consider the question has agreed that conversion of property is not property damage. The court accepted the idea that conversion is not property damage, but rather is the taking or deprivation of property. The court then added that loss of use of property is different from loss of property in that loss of use refers to the rental value of similar property that the owner can hire for use during the period when he is deprived of the use of his own property.

 

This decision can be seen as somewhat confusing and, perhaps hairsplitting, but there was another part to the court's decision that is more to the point of whether the CGL form covers conversion as a property damage loss. Conversion does result in the owner being deprived of his property and thus, deprived of the use of that property, but the court also held that conversion is an intentional tort. In order to establish a conversion, one must show an intent to exercise ownership over property that belongs to another; in other words, conversion is an expected or intended injury and not an occurrence or accident. This means that even if conversion were to be considered property damage as defined on the CGL form, the conversion is not caused by an occurrence and so, the CGL form would not apply to a property damage claim. For another example of this point, see American Casualty Company of Reading, Pennsylvania v. Amsouth Bank, 2002 WL 1397263 (W.D. Tenn.). (Note that this case is not reported in F.Supp.2d.)

 

Note also, in the Advanced Network case mentioned previously, the court said that “insurance coverage for loss of use does not apply to an underlying action in which the claimant seeks only the replacement value of converted property”.

 

Theft is similar to conversion in that it requires an intent to deprive the owner of some property of the possession, use, or benefit of that property. Theft would result in an expected or intended injury and so, liability for the loss of use of the stolen property would not be covered by the CGL form.

 

Of course, this denial of coverage based on the expected or intended exclusion is based on the insured having this expectation or intention. If the insured is not the party that has converted or stolen the property, then the exclusion would not apply. The insured still has to be held legally obligated to pay the damages because of property damage for the CGL form to apply, but if the insured is not the one that intends or expects the injury, the exclusion does not come into play.

 

Disappearance of property is another matter. Disappearance of property does not automatically mean there was an intent to deprive the owner of his possession and use; the property could have been misplaced or mistakenly thrown out. Disappearance of property does result in the loss of use of that property by its owner, so the definition of property damage is met and, if the insured is found legally liable for that loss (property damage), the CGL form can apply. Now, there are exclusions that may apply to prevent coverage—such as, the expected or intended exclusion, the damage to property exclusion, and the impaired property exclusion—, but the insurer has the duty to prove that the exclusion applies. For example, the insured motel locks the customer's jewels in the motel vault for safekeeping. When the customer wants the jewels back, it is discovered that they are missing. The insured is legally liable for the missing jewels (property damage as loss of use), but the insurer can say that the care, custody, or control exclusion (j.4) applies and there is no coverage. But, if no exclusion can be shown to apply, the disappearance of the jewels would be covered as property damage under the CGL form.

 

Diminution in Value

 

The idea of diminution in value as property damage can be complex. A purely economic loss—that is, a decline in value of the property—is not property damage as defined on the CGL form. On the other hand, a loss in the value of some property in that the property is made useless, can be seen as property damage. The following case represents a thorough discussion of diminution in value and its differing meanings.

 

In Wisconsin Label Corporation v. Northbrook Property & Casualty Insurance Company, 607 N.W.2d 276 (Wisc. 2000), the insured brought a declaratory judgment action against its insurer, seeking coverage for claims in connection with its mislabeling of a promotional package for a customer. The Wisconsin Supreme Court decided that mislabeling of a client's promotional products did not result in any physical injury; that any diminution in value resulting when the customer's products were sold at the incorrect (lower) price did not fall under the policy's definition of property damage; and that damages from the insured's mislabeling did not result from loss of use within the policy's definition of property damage.

 

The United States District Court in Grennell Mutual Reinsurance Company v. Wollak Construction, Inc., 2010 WL 4121906 (D.Minn.) ruled that the argument that diminution in value was property damage lacked legal or factual support. The court held that diminution in value does not constitute property damage as defined in the general liability policy in question in this case.

 

The Wisconsin Label Corporation case is noteworthy also because, as part of the decision, the court discussed other cases that had found that diminution in value constituted property damage, why this was so, and why this case was different. The cases listed are: Eljer Manufacturing, Inc. v. Liberty Mutual Insurance Company, 972 F.2d 805 (7th Cir. 1992); Sola Basic Industries, Inc. v. United States Fidelity & Guaranty Company, 280 N.W.2d 211 (Wis. 1979); and Hauenstein v. St. Paul-Mercury Indemnity Company, 65 N.W.2d 122 (Minn. 1954). (It should be noted that these cases dealt with a definition of property damage on the general liability policy that has since changed. The current definition requires actual physical injury to tangible property or some actual loss of use of tangible property that is not physically injured; the “loss of use” phrase was missing in the definitions of property damage that the courts used in deciding these cases.)

 

So today, a blanket statement that “diminution in value is not property damage” is not accurate. It would be better to say that, for diminution in value to be considered property damage, the “loss of use” part of the property damage definition has to be met. A good example of this point can be found in Vogel v. Russo, 613 N.W.2d 177 (Wis. 2000). (Note that this case has been overruled in part, but not with reference to the diminution in value holding, in Insurance Company of North America v. Cease Elec., Inc., 688 N.W.2d 462 [2004].) In the Vogel case, a follow-up to the Wisconsin Label decision, the Wisconsin Supreme Court had to determine whether the general liability policy provided coverage for diminution in value of a home due to faulty workmanship. The court said it did not because the plaintiffs never lost use of their home, and diminution in value—even to the point of worthlessness—is not the same as loss of use under the terms of the insurance policy which, by its plain language, contemplates some sort of loss of use in fact, not merely a reduction in value.

 

Of course, it would be helpful if the current CGL form included in its definition of property damage something to the effect that diminution in value is or is not included as property damage. After all, the current CGL form does try to put the loss of electronic data out of the realm of property damage with specific language in the definition of property damage and with a pertinent exclusion. And, the current business auto policy declares that diminution in value (actual or perceived loss in market value or resale value) is not a covered loss. So, it is possible for an insurance policy to clarify what it covers and what it does not cover. But, until then, the question of diminution in value as property damage will not be settled.

 

Property Damage versus Physical Damage

 

Property damage is defined on the CGL form as physical injury to tangible property, and that seems to mean actual physical damage to some property. However, insurance policies do make a distinction between property damage and physical damage. The distinction is mainly that property damage is associated with liability coverage and physical damage with property coverage. As examples: the general liability policy applies to damages the insured is legally obligated to pay because of property damage; the building and personal property coverage form pays for direct physical damage to covered property; the liability coverage section of the business auto policy applies to damages because of property damage, while the section that applies to loss to the insured's own car is called the physical damage coverage section; the homeowners policy covers direct physical loss to property, and pays for property damage as a liability coverage.

 

The difference may be simply grammatical, but worth mentioning.

 

Pollution Clean Up Costs as Property Damage

 

The current CGL forms have a paragraph at the end of the pollution exclusion declaring that the clean up costs part of the exclusion does not apply to liability for damages because of property damage that the insured would have in the absence of any request or demand or order for a clean up. This points out a thin line between paying for property damage for which the insured is liable and clean up efforts.

 

It may be said that, if some property has suffered damage due to pollution, it necessarily follows that the property damage has to be cleaned up; and, since the pollution exclusion prohibits coverage for pollution clean up costs that means the CGL form of the insured will not respond to a property damage claim. This is not always the case under the terms of the current CGL forms. The wording noted in the previous paragraph means that the pollution exclusion does not prevent the CGL form from paying for property damage for which the insured is legally liable. In other words, if the insured is liable for property damage caused by pollution, and the exclusion does not apply for whatever reason, the insurer will not deny coverage for cleaning up the property damage by asserting that the process is really a clean up cost.

 

The distinction between paying for property damage and paying clean up costs has to be made on a case-by-case basis, but there should be no confusion about whether the clean up costs part of the pollution exclusion prevents payment for property damage. If the insured is liable for the damage and the exclusion does not apply, the property damage costs will be paid.

 

Is This Property Damage?

 

The following scenarios represent typical situations that have been presented to FC&S by readers concerning the meaning of property damage. These scenarios may help all readers handle the claim questions that arise in the everyday business of insurance.

 

Theft of Jewelry: A hotel guest had her jewelry stolen while staying at the insured's hotel. The guest sued the hotel for negligence and the insured sought coverage under its general liability policy for the property damage claim. Is this property damage since there was no proof of physical injury to the jewels? Even if there is no proof that the jewels have been physically injured, there has been a loss of use by the claimant. The definition of property damage under the CGL form includes loss of use of tangible property that is not physically injured, so the definition of property damage has been met. Whether there is coverage for this loss is another matter. Even though there has been property damage, the insured would have to be legally responsible for the damage (loss of the jewels) in order for the CGL form to apply. And, there has to be any applicable exclusions—such as the care, custody, or control exclusion—to be considered before coverage for the loss is accepted.

 

Defective Product: The insured made valves that were incorporated into another's products. The valves were later found to be defective and the manufacturer of the other products sued the insured, claiming the products were now worthless. Is this a property damage claim? The answer has to be seen in the light of whether the claim is for actual physical damage to or loss of use of those other products, or whether the claim is just for loss in value or repair costs. If the claimant can show that the insured's defective valves physically damaged the other products—for example, by causing the other products to break apart or crack—or if the claimant can show that the defective valves made the other products totally unusable, that would be property damage. However, if the claim is that the other products were only less valuable, or that repair work (or replacement of the defective valves) could fix the problem, then that is not a covered property damage claim. In such a claim, there is no physical injury or loss of use, only an economic loss (diminution in value) and that is not considered property damage. And incidentally, the impaired property exclusion could be applied if the other property could be repaired, so the settling of whether this was property damage or not would still not necessarily result in payment of the claim.

 

Forced Closing of Stores: A large piece of mobile equipment owned by the insured broke down in the street in front of some stores. Access to the stores was limited and, in one case, completely shut down. The store owners sued the insured for lost income. Is this a property damage claim? Even though the claim is for lost income which some may see as an economic loss, the fact is that the store owners lost the use of their property because of the possible negligence of the insured. This is the loss of use of tangible property that is not physically injured and if the insured is liable, the property damage (loss of use) suffered by the store owners would be covered by the CGL form. The loss of income by the store owners would serve as a guide to the amount of property damage caused by the insured.

 

Loss of View: The insured built his apartment building in such a way that it blocked the view of the ocean for his neighbors. The neighbors sued for loss of use and enjoyment of their residences and loss in value. Is this property damage? There was no physical injury to the neighbors property, so the question is, was there a loss of use because the insured's building obstructed the view of the ocean? The claimants did not suffer a loss of use of their residences since the places are still usable and fit for their purpose, that is, as residences. The loss of enjoyment due to an obstructed view is not a loss of use. As for the loss in value, this is not a loss of use; it is a straight economic loss, a perceived decline in value of the property, and that is not covered as property damage.

 

Tangible Property: The insured manufactured defective frames for tennis rackets. The tennis racket company filed a lawsuit claiming loss of investments, loss of profits, and loss of good will. The insured sought coverage under its CGL form for property damage claims. Is this property damage? The definition of property damage under the CGL form has two parts, but both require something to happen to tangible property, either physical injury to tangible property, or loss of use of tangible property. Either way, the key element is tangible property, that is, something that is physical and material. Investments, profits, and good will may legally be considered property, but they are not tangible property. None of the claimed losses are property damage covered by the CGL form.

 

Termite Damage: The insured is an exterminator. He failed to notice the presence of termites in a customer's home and so, did not treat the house for the creatures. After a while, the house became infested, and the home owner sued the insured for diminished home value and the physical damage caused by the termites. Is this property damage covered by the CGL form? The diminished value of the home is not property damage; it is an economic loss. However, the physical damage done by the termites certainly is property damage as defined on the CGL form. The question is: is the insured liable for the damage done by the termites? If so, the CGL form would apply to the claim.

 

Toxic Materials in Walls: The insured is an exterminator company. While treating a home for insects, an employee accidentally used too much of the toxic material, and the walls and carpets of the house became saturated with the material. After a short time, the home owner had to move out and could not live in the house for several months; he and his family had to rent an apartment. He sued the insured for the loss of his house. Is this property damage covered by the CGL form? The activities of the insured not only caused physical injury to the house because of the toxic material being sprayed into the walls and onto the carpets, but also caused a loss of use since the claimant had to leave and could not use his house for its intended purpose. This is a completed operations property damage loss, and the CGL form should cover the cost of the damage to the walls and carpets and the rental costs that the claimant incurred due to his loss of the use of his house.

 

These loss situations are just a few examples of situations where questions can arise over whether property damage as defined on the CGL form has occurred. The definition of property damage on the CGL form, with its emphasis on tangible property, does help to alleviate many problems. However, the particular facts of each claim and the reasoning processes of different courts mean that the issue of what constitutes property damage may still be subject to opinion. Of course, if there is any doubt over the matter—doubt that is based on a reasonable interpretation—the insured gets the benefit of the doubt.