August 27, 2020 Articles

A Primer on Enforcing the Virus Exclusion

Regardless of whether a policyholder’s business interruption coverage requires damage to physical property, the virus exclusion will likely preclude recovery for economic losses associated with COVID-19 shutdowns.

By Stephen F. Butterfield

In early March 2020, the global pandemic arising from COVID-19 [1] led state and local governments across the country to issue unprecedented stay-at-home orders, leading to the closure of businesses deemed “non-essential,” including restaurants, bars, and retail establishments. [2] The purpose of those orders was to slow the spread of COVID-19 to prevent hospitals from being overwhelmed, rather than allowing the virus to plow through the population while a so-called herd immunity developed.  [3]

Sadly, the impact of those orders has been financially devastating for affected businesses, particularly small businesses. It is estimated that nearly 110,000 small businesses across the country have closed, never to reopen, as a consequence of those orders. [4] As a result, businesses nationwide have filed, or will soon file, first-party claims against their insurers seeking business interruption coverage under their commercial property policies for COVID-19-related losses. [5] But many of those small business owners will likely face the difficult burden of overcoming a heretofore sparsely litigated coverage exclusion included by endorsement in many commercial property policies: the Exclusion Of Loss Due To Virus Or Bacteria (referred to in this article as the virus exclusion). [6]

This article provides an overview of business interruption coverage with a particular emphasis on the virus exclusion, including the general interpretive principles by which courts will examine the exclusion, the history and purpose of the exclusion, and an analysis of arguments in favor of enforcing the exclusion.

Overview of Business Interruption Insurance

When evaluating any COVID-19 business interruption claim, it is important to consider the purpose and scope of such coverage. “‘Business interruption’ or ‘business indemnity’ insurance refers to a provision common in commercial property insurance policies, whereby the insurer agrees to compensate the insured for a loss of income resulting from an interruption of business caused by property damage covered by the policy.”[7]

 “[T]he general purpose of business interruption insurance is to protect earnings an insured would have enjoyed had there been no business interruption.”[8] In other words, the coverage is “designed to do for the business what the business would have done for itself had no loss occurred.”[9] The coverage “indemnifies an insured for losses sustained because of his or her inability to continue to use specified premises” due to a covered peril.[10]

There is considerable variety in the scope of business interruption coverage forms commonly included within commercial property insurance policies. Consequently, at the beginning of any analysis, it is critical to ascertain whether business interruption coverage is tethered to the requirement that the loss-inducing risk first caused property damage. In most—but not all—circumstances, business interruption policies and similar coverages may provide coverage for business interruption only after a covered peril first causes damage to property that also is insured under the property protection provisions and that, in turn, causes business interruption.[11]

By way of example, United Airlines was unable to recover over $1.2 billion in lost income under its business interruption policy after commercial flights were grounded nationwide following the September 11, 2001, terrorist attacks. Specifically, United Airlines could not show that its losses resulted from physical damage to its property or from physical damage to an adjacent property as required by the policy.[12] The court rejected United’s argument that a clause providing coverage for damage resulting from terrorism applied even in the absence of physical damage to airport property, and that a civil authority clause provided coverage for the post-attack shutdown of air travel.[13] As to United’s argument concerning the civil authority clause, the court explained that airlines were allowed to resume operations when they were “able to comply with more rigorous safety standards; the timetable had nothing to do with repairing, mitigating, or responding to the damage caused by the attack on the Pentagon.”[14] So, the court concluded, “[t]he interruption to United’s business following the attacks was . . . not the ‘direct result’ of damage to adjacent premises.”[15]

On the other hand, some courts have allowed recovery of business interruption coverage despite the absence of physical damage to the insured’s property. In those situations, the policy language covered “loss resulting from the necessary interruption or reduction of business operations conducted by the insured and caused by loss, damage, or destruction by any of the perils not excluded.”[16] Unless the loss-inducing risk was excluded, the policy provided coverage. Under those policies, the presence of the virus exclusion will be particularly critical to evaluating whether COVID-19-related business interruption claims are excluded because it may provide the only basis to disclaim coverage.

Alternatively, even where policy language predicates coverage on property damage, the presence of a virus exclusion will also feature predominantly in the coverage analysis. This is because policyholders will likely argue that the presence of the virus on surfaces within insured premises qualifies as physical damage. Thus, as explained below, the virus exclusion may ultimately provide the clearest path for the insurer to obtain dismissal of a policyholder’s claim at the pleading stage of any litigation via a motion to dismiss even where the policy requires property damage.

Basic Interpretive Principles

When evaluating whether coverage exists, nearly all courts start from the premise that an insurance policy is a contract and, like all contracts, must be construed according to its terms and the evident intent of the parties as expressed in the policy language.[17] Generally, the party seeking coverage under an insurance policy bears the initial burden of proving coverage; thereafter, the burden shifts to the insurer to prove the applicability of policy exclusions and limitations.[18]

In interpreting and applying insurance language, courts generally look to the plain language of the policy provision to ascertain the mutual intent of the parties. “If the language is clear, that is the end of the inquiry.”[19] When the policy language is not deemed ambiguous—or susceptible to two or more reasonable interpretations—courts are constrained from engaging “in a strained construction to support the imposition of liability or write a better policy for the insured than the one purchased.”[20]

If, on the other hand, the language is ambiguous, some courts resolve the ambiguity “by interpreting the ambiguous provision in the sense in which the promisor (insurer) reasonably believed at the time of making it, that the promisee (insured) understood it.”[21] Under that circumstance, if the provision is still ambiguous, then, and only then, should the provision be construed against the insurer.[22] Still other courts construe any ambiguity against the insurer if the parties’ intent cannot otherwise be ascertained.[23] Consequently, it is imperative to know the general rules of policy construction and interpretation in the jurisdiction governing the applicable policy.

The Virus Exclusion and ISO Commentary

The virus exclusion is a relatively new exclusion. In 2006, the Insurance Services Office (ISO) issued Commercial Property Form CP 01 40 07 06, Exclusion of Loss Due to Virus or Bacteria.[24] The timing of this new exclusion was not a coincidence; it came on the heels of the global outbreak of another coronavirus, severe acute respiratory syndrome, or SARS, in 2003, which resulted in mandatory shutdowns and restrictions in East Asia.[25]

The background comments in the 2006 ISO circular note that the standard pollution exclusion encompassed contamination broadly, but that a specific exclusion addressing viral and bacterial contamination warranted “particular attention at this point in time.”[26]

In addition, the introductory comments further explain that

[w]hile property policies have not been a source of recovery for losses involving contamination by disease-causing agents, the specter of pandemic or hitherto unorthodox transmission of infectious material raises the concern that insurers employing such policies may face claims in which there are efforts to expand coverage and to create sources of recovery for such losses, contrary to policy intent.[27]

The ISO comments noted that an example of bacterial contaminant was “the growth of listeria bacteria in milk,” and that other examples of viral and bacterial contaminants included “rotavirus, SARS, influenza (such as avian flu), legionella and anthrax.”[28] Foreshadowing the appearance of other novel diseases and viruses in the future, the drafters noted, “[t]he universe of disease-causing organisms is always in evolution.”[29]

The introductory ISO comments explain:

Disease-causing agents may render a product impure (change its quality or substance), or enable the spread of disease by their presence on interior building surfaces or the surfaces of personal property. When disease-causing viral or bacterial contamination occurs, potential claims involve the cost of replacement of property (for example, the milk), cost of decontamination (for example, interior building surfaces), and business interruption (time element) losses.[30]

So stating, ISO appeared to anticipate that policyholders would argue that the presence of viruses, such as COVID-19, on interior surfaces could constitute “property damage.”

Analysis of the Virus Exclusion

As noted above, policyholders seeking coverage for business interruption due to COVID-19 shutdowns will face an uphill battle in establishing coverage based on the clear wording of the virus exclusion. An exemplar virus exclusion appears in ISO Form CP 01 75 07 06, which provides as follows:

A.    The exclusion set forth in Paragraph B. applies to all coverage under all forms and endorsements that comprise this Coverage Part or Policy, including but not limited to forms or endorsements that cover property damage to buildings or personal property and forms of endorsements that cover business income, extra expense or action of civil authority.
B.     We will not pay for loss or damage caused by or resulting from any virus, bacterium or other micro-organism that induces or is capable of inducing physical distress, illness or disease.
However, this exclusion does not apply to loss or damage caused by or resulting from “fungus”, wet rot or dry rot. Such loss or damage is addressed in a separate exclusion in this Coverage Part or Policy.
* * *
C.     With respect to any loss or damage subject to the exclusion in Paragraph B., such exclusion supersedes any exclusion relating to “pollutants”.
* * *
E.     The terms of the exclusion in Paragraph B., or the inapplicability of this exclusion to a particular loss, do not serve to create coverage for any loss that would otherwise be excluded under this Coverage Part or Policy.[31]

Regardless of whether the suspected presence of a virus on interior surfaces qualifies as “property damage,” the virus exclusion modifies insurance provided under both the “Commercial Property Coverage Part” and the “Standard Property Policy.”[32] In addition, per paragraph A, the exclusion explicitly applies to business-income, extra-expense, or action-of-civil-authority claims.

Further, paragraph B of the exclusion makes clear that no coverage is provided for “loss or damage caused by or resulting from any virus, bacterium or other micro-organism that induces or is capable of inducing physical distress, illness or disease.”[33] Without question, COVID-19 is a virus, and the exclusion’s use of the modifying term “any” makes clear that any economic losses resulting from COVID-19 should be barred from coverage. Thus, courts in jurisdictions that apply the plain and unambiguous language of the exclusion should have no reason to consult secondary sources to clarify any perceived ambiguities regarding the parties’ intent concerning application of the exclusion.

Even if a court felt compelled to consult secondary sources, however, the ISO comments make clear that the intent of the exclusion is to apply to all losses, including business interruption claims, arising from viruses such as COVID-19.[34] While not binding, ISO comments regarding the purpose of exclusions have been considered by courts when determining the scope, intent, and application of exclusions, including the pollution exclusion.[35] Given the relative dearth of judicial opinions construing the virus exclusion, it makes sense that courts would choose to consult the ISO comments when considering policyholder arguments regarding perceived ambiguities as to scope.

As to the scope of the virus exclusion, the ISO comments explain that

[t]he amendatory endorsement presented in this filing states that there is no coverage for loss or damage caused by or resulting from any virus, bacterium or other microorganism that induces or is capable of inducing physical distress, illness or disease. The exclusion applies to property damage, time element and all other coverages; introductory Paragraph A prominently makes that point.[36]

These comments make clear that the intent of the virus exclusion is to apply to business interruption claims involving viruses like COVID-19.

Conclusion

In sum, based on the virus exclusion, insurers whose policies contain the virus exclusion are indeed likely to achieve a form of “herd immunity” from the coming pandemic of policyholder claims seeking to recoup economic losses as a result of COVID-19-related shutdowns. Although some may find this result unpalatable, the presence of the exclusion makes clear that the policyholder knew, or should have known, that in the rare case of a viral pandemic, no coverage would be provided under the policy. Thus, the clear and unmistakable wording of the virus exclusion will likely foreclose attempts to recoup business interruption insurance for losses arising from or related to COVID-19.

Stephen F. Butterfield is an associate in the New Orleans office of Lugenbuhl, Wheaton, Peck, Rankin & Hubbard. His practice focuses on insurance coverage litigation, commercial litigation, and appellate advocacy.

[1] National Institute of Allergy and Infectious Diseases, Coronaviruses (discussing origin of global pandemic).

[2] See Holly Secon, “An Interactive Map of the US Cities and States Still under Lockdown—and Those That Are Reopening,” Bus. Insider, June 3, 2020.

[3] Alicia Lee, “What Is Herd Immunity and Why Some Think It Could End the Coronavirus Pandemic,” CNN Health, Apr. 23, 2020.

[4] Emily Flitter, “‘I Can’t Keep Doing This:’ Small-Business Owners Are Giving Up,” N.Y. Times, July 13, 2020.

[5] Jim Sims, “Number of Federal COVID-19 Business Interruption Lawsuits at 101 and Rising,” Claims J., May 21, 2020.

[6] See, e.g., Insurance Services Office (ISO) Properties, Inc., Form CP 01 40 07 06, Exclusion Of Loss Due To Virus Or Bacteria.

[7] David Polin, 41 Am. Jur. Proof of Facts 3d 319, Recovery Under Business Interruption Insurance § 1 (Aug. 2020 update).

[8] Baxter Int’l, Inc. v. Am. Guarantee & Liab. Ins. Co., 861 N.E.2d 263, 269 (Ill. App. Ct. 2006); see also Nw. States Portland Cement Co. v. Hartford Fire Ins. Co., 360 F.2d 531, 534 (8th Cir. 1966) (“In numerous cases and text authorities it has been stated, and we think correctly, that the essential nature and purpose of business interruption insurance generally is to protect the earnings which the insured would have enjoyed had there been no interruption of the business.”).

[9] Verrill Farms, LLC v. Farm Family Cas. Ins. Co., 18 N.E.3d 1125, 1129 (Mass. App. Ct. 2014).

[10] Keetch v. Mut. of Enumclaw Ins. Co., 831 P.2d 784, 786 (Wash. Ct. App. 1992); see also 11A Couch on Insurance § 167:11 (3d ed. June 2020).

[11] 11A Couch on Insurance § 167:12 (3d ed. June 2020).

[12] United Air Lines, Inc. v. Ins. Co. of State of Pa., 439 F.3d 128, 129 (2d Cir. 2006).

[13] United Air Lines, 439 F.3d at 132–35.

[14] United Air Lines, 439 F.3d at 135.

[15] United Air Lines, 439 F.3d at 135.

[16] E.g., Fountain Powerboat Indus., Inc. v. Reliance Ins. Co., 119 F. Supp. 2d 552, 557 (E.D.N.C. 2000) (emphasis in original).

[17] 2 Couch on Insurance § 21:4 (3d ed. June 2020).

[18] 17 Couch on Insurance § 254:12 (3d ed. June 2020).

[19] Chubb Custom Ins. Co. v. Prudential Ins. Co. of Am., 948 A.2d 1285, 1289 (N.J. 2008) (internal citations omitted).

[20] Chubb Custom Insurance Co., 948 A.2d at 1289 (internal quotation marks and citations omitted).

[21] See, e.g., Cooper Cos. v. Transcontinental Ins. Co., 37 Cal. Rptr. 2d 508, 511 (Cal. Dist. Ct. App. 1995).

[22] Cooper Cos., 37 Cal. Rptr. 2d at 512.

[23] See, e.g., Williams v. Great Am. Ins. Co., 240 F. Supp. 3d 523, 528 (E.D. La. 2017) (applying Louisiana law).

[24] ISO Circular LI-CF-2006-175, New Endorsements Filed to Address Exclusion of Loss Due to Virus or Bacteria, July 6, 2006, at 1.

[25] See World Struggles to Deal with Deadly SARS Virus,” Ins. J., Apr. 25, 2003; see also Conronavirus: Worldwide Cases Overtake 2003 Sars Outbreak,” BBC News, Jan. 31, 2020.

[26] ISO Circular LI-CF-2006-175, supra note 24, at 1.

[27] ISO Circular LI-CF-2006-175, supra note 24, at 2.

[28] ISO Circular LI-CF-2006-175, supra note 24, at 1.

[29] ISO Circular LI-CF-2006-175, supra note 24, at 1.

[30] ISO Circular LI-CF-2006-175, supra note 24, at 1–2 (emphasis supplied).

[31] ISO Form CP 01 40 07 06, Exclusion Of Loss Due To Virus Or Bacteria. Subparagraph D removes references to “bacteria” in other policy provisions.

[32] ISO Form CP 01 40 07 06, Exclusion Of Loss Due To Virus Or Bacteria.

[33] ISO Form CP 01 40 07 06, Exclusion Of Loss Due To Virus Or Bacteria (emphasis added).

[34] ISO Circular LI-CF-2006-175, supra note 24, at 2.

[35] See, e.g., Queen City Farms, Inc. v. Cent. Nat’l Ins. Co. of Omaha, 882 P.2d 703, 722–23 (Wash. 1994) (en banc) (noting that other courts have examined the history of the qualified pollution exclusion and ISO comments in interpreting the clause).

[36] ISO Circular LI-CF-2006-175, supra note 24, at 2 (emphasis in original).


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