The Right To Use A Property (Itself) Might, Itself, Be “Tangible Property” (Read On)

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Today’s blog posting will be a slight deviation from our mission to cover real property law and real property law-related issues. We don’t think so. We think its conclusion could be relevant outside of a pure insurance context. Even if some conclude otherwise, certainly today’s’ Ruminating will be of interest to a subset of readers, those who think they know a thing or two about insurance coverage, but would like to test whether what they know is correct. To those readers who are uninterested in how the sausage of insurance law is made, we concede that today’s posting looks like it belongs in an insurance law blog. Though that argument could be made, it hasn’t deterred us because we think the subject is interesting.

Generally, a Commercial General Liability (CGL) Insurance policy will not cover purely economic losses. But, a California court in October of 2018 decided that “generally” does not mean always.

A landlord owned a property benefitted by a use permit to operate a nightclub there. That enabled it to lease the property for such use. Local authorities approved plans for a single entrance equipped with a metal detector. Under the permit, the floor plan could not be changed without further municipal approval. The policyholder hired a security firm and unbeknownst to the owner, that firm created a “VIP” entrance unguarded by a metal detector. A gun was brought into the nightclub and it was used to shoot and kill a customer. As a result, the nightclub permit was lost. The best the owner could negotiate was to be able to use its property as a catering and banquet facility. It sued the tenant’s security company for the property’s loss of value as a nightclub. It obtained a default judgment based on testimony that the market value of the property fell by about $923,000 once it could no longer be used as a nightclub. It then pursued the security company’s CGL carrier. The carrier claimed “no coverage.” The policy covered the security company’s liability for “property damage” caused by an “occurrence.” Here’s how the CGL described “property damage”:

“Property damage” is either: (a) physical injury to tangible property, including all resulting loss of use of that property, or (b) loss of use of tangible property that is not physically injured. Occurrence, under these facts, meant “an accident.”

The insurance company argued that loss of the nightclub permit was neither a “physical injury” nor loss of use of tangible property. Instead, it argued that, at best, the property owner lost the use of “intangible” property or that its damages were an uncovered “economic loss.” The landlord claimed that by reason of what the security company had done, it lost the use of its otherwise physically undamaged tangible property and that this lowered the property’s rental value and hence its market value. The carrier counterargued that the property was still usable. It also argued that loss of the ability to lease the property for a specific use was not a loss of tangible property. The lower (trial) court agreed with the insurance carrier, but (on appeal) the California appellate reversed. Here’s what it wrote:

A building is tangible. Dirt is tangible. Hence, a lessee in possession has a tangible property interest in the leased premises.

In any event, the issue is not whether, as a technical legal matter, a leasehold is tangible property. Rather, it is whether an insured, reading his or her policy, would understand “tangible property” to include real property that he or she leases. If your leased apartment was rendered uninhabitable by some noxious stench, you would conclude that you had lost the use of tangible property; and if a lawyer said no, actually you had merely lost the use of your intangible lease, you would goggle in disbelief.

So, why did we write that this case was an exception to the general principle that CGL insurance does not cover economic losses? Here’s why (using the court’s words):

The correct principle, then, is not that economic losses, by definition, do not constitute property damage. … [We] find[] it difficult to conceive of loss-of-use damages as anything other than economic losses. … Rather, the correct principle is that losses that are exclusively economic, without any accompanying physical damage or loss of use of tangible property, do not constitute property damage.

Here, for the reasons already stated, [the landlord] did suffer a loss of use of tangible property. Moreover, the diminution in value of the property was a proper measure of the damages from that loss of use. Thus, the mere fact that the [landlord] was seeking to recover damages calculated on the basis of diminution in value falls short of showing that it was not seeking to hold [the security company] liable for a loss of use of tangible property.

This might not have been the outcome in other states, but even though the California court cites case-law that conflicts with its own decision, its ruling appears to be well grounded. And, the loss of other kinds of permits, say a liquor license, might not bring about the same result. So, what can we learn from this ruling?

The main takeaway is that loss of use of a property, despite there being no physical damage to insured property, might still be covered. Using the court’s own words, “[t]he loss of the ability to use the property as a nightclub is, by definition, a ‘loss of use’ of ‘tangible property.’ It defies common sense to argue otherwise.” Right after that, we learn that just because a loss may be purely economic doesn’t automatically mean there is no coverage. Is there an overriding principle? Yes, there is. Insurance is complicated. There are experts in the area. Use them. Today, we write about a non-transactional example, but the overriding principle is just as important before an agreement is executed. Take advantage of the wisdom and knowledge of competent insurance experts.

[For those readers who want to see more about the court’s reasoning, its decision can be seen by clicking: HERE.]

Next week, we’ll offer a potpourri of real property topics, including about suing an insurance broker over advice given or not given.

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Comments

  1. Peggy Israel says:

    One reason in those Landlord Waivers we need to explicitly say that the Collateral does not include the leasehold estate or any use permits or licenses (if those transfer to the Landlord when the lease is over).

  2. Jeremy Deeken says:

    Based upon precedent finding ambiguity in similar phraseology, the court read “loss of use of tangible property” to include “any” loss of use. This is despite the omission of the qualifier “including all resulting loss of use”, present in the preceding condition. While the decision is loyal to precedent, the decision equates the two conditions, despite their textual difference – appearing to violate the consistent usage presumption of contractual interpretation.

    Could a tenant claim a loss of use as an aromatherapy clinic if the landlord leases adjacent space to a restaurant emitting odors that may be considered tolerable to most users, but intolerable to an olfactory sensitive user? (This is not a hypothetical, but an argument made in a pending lawsuit in another jurisdiction). The result of this case would seem to permit recovery on such a claim.

    In the wake of this decision, insurers might insert “complete” before “loss of use of tangible property that is not physically injured” if they wish to argue that an expectation of coverage is unreasonable in similar circumstances.

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