California handed down the first state appellate court ruling on whether COVID-19 can cause direct physical damage or loss, deciding like four federal appellate courts before that it cannot.
A panel of the California 4th District Court of Appeal on Monday affirmed a Monterey County judge’s decision to dismiss a lawsuit filed by a group of five hotels seeking insurance coverage for business income lost because of COVID-19 shut-down orders. The case is Inns by the Sea v. California Mutual Insurance Co.
“As numerous courts have observed, the words ‘direct’ and ‘physical’ preclude the argument that coverage arises in a situation wherethe loss incurred by the policyholder stems solely from an inability to use the physical premises to generate income, without any other physical impact to the property,” the panel’s opinion, written by Associate Justice Joan Irion, says.
Five California-based Major League Baseball teams and United Policyholders filed amicus curiae briefs in support of Inns by the Sea. The American Property and Casualty Insurance Association and National Association of Mutual Insurance Companies filed briefs in support of the insurer.
The American Property and Casualty Insurance Association issued a statement repeating a message that the industry has been arguing for more than year.
“These policies are not intended to cover diseases or pandemic related losses,” said Claire Howard, senior vice president and general counsel. “In the vast majority of cases, insurers did not price policies to include such coverage, and policyholders did not pay for it. Lawsuits to mandate retroactive business interruption coverage where none exists would undermine the stability of the insurance industry and its ability to pay claims on all existing insurance policies.”
David E. Weiss, who wrote the brief for United Policyholders, said in an email that there is a good chance the decision will be appealed to the California Supreme Court. He said the decision cites extensively from Couch on Insurance, which he and other lawyers contend misstate prevailing case law on what constitutes direct physical damage or loss.
He noted an article published in the American Bar Association’s Tort, Trial and Insurance Practice Law Journal that asserts trial court judges around the country have recited a serious error in the Couch treatise that insurance coverage cannot be trigged unless there is a “distinct, demonstrable, physical alteration of the property.”
“The appellate court here did not give heed this warning and, instead, chose to double down on the incorrect Couch discussion,” said Weiss, who is a partner with ReedSmith in San Francisco.
Inns by the Sea operates four boutique hotels in Carmel-by-the-Sea and a fifth in Half Moon Bay. Restrictions imposed by county public health officials forced it to close its hotels last March. California Mutual denied the company’s claim seeking coverage for lost income.
Monterey County Superior Court Judge Lydia M. Villarreal granted a motion by the insurer to dismiss the lawsuit, called a demurrer in California. Inns filed an appeal, which the state Supreme Court assigned to the 4th Appellate District in San Diego.
Inns’ lawsuit alleged that coronavirus was present on its properties and caused physical damage by being there. Lawyers for the hotel chain cited court decisions that had found coverage under commercial property insurance for damage caused by the oder of cat urine, asbestos contamination and sulfuric gas released by drywall.
But the Court of Appeal said that in each of those cases, the damage was confined to a particular property. In contrast, Inns’ lawsuit soughtcoverage for income lost because of civil authority orders issued in response to a worldwide pandemic.
Even if the hotel group amended its complaint to allege that someone present at one of the hotels had contracted COVID-19, a thorough cleaning could remove any virus particles, the opinion says. The hotels still could not open because the state stay-at-home orders would remain in place.
The appellate panel also rejected the argument that the virus caused a “loss of” property. Citing the Couch treatise, the opinion says
“that mere loss of use of physical property to generate business income, without any other physical impact on the property, does not give rise to coverage for direct physical loss.”
“The policy’s reference to the ‘period of restoration’ further supports our conclusion that mere loss of use, without any other physical impact to Inns’ property, is not sufficient to trigger the business income coverage,” the opinion says.
Weiss said the appellate court erred by citing a flawed legal treatise, but that wasn’t the only error in its analysis.
“If the court is suggesting there can only be coverage for an event confined to a single location that causes that single location to close down or coverage only applies where an order is specific to a single location, but if you have a catastrophe like a global pandemic that affects an entire community there can be no coverage even if the insured’s property suffers covered physical loss or damage, that has troubling implications,” he said.
The 6th, 8th, 9th and 11th Court of Appeals have also affirmed dismissal of lawsuits seeking coverage for business interruptions caused by public health orders, as has a jury for the U.S. District Court for Western Missouri in Kansas City.
About the photo: Inns by the Sea rents oceanfront rooms like the one shown above for $359 to $479 per night, but was forced to shut down in March 2020 because of public health orders issued in response to the COVID-19 pandemic. Photo courtesy of Cypress Inn, one of five properties owned by Inns by the Sea.
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