Energy companies and policyholders with significant oil or pollution-related risks that purchase “time element pollution” endorsements can easily be surprised by denials of coverage when a release occurs. Insurers frequently question how the accident occurred and when it was discovered or reported; whether the policyholder or an employee expected or intended the accident or the events that led up to it; the timing, effectiveness or thoroughness of the response; the identity of the claimants; or even seemingly irrelevant criteria, such as who conducts the cleanup, where the cleanup is situated (on governmental property versus non-governmental or private property or natural resources), or whether the cleanup involves one type of environmental “media” versus another (such as polluted land versus water, air, sediments, flora or fauna).
Insurers have raised all of these issues in claims, but the last group may be the most surprising when they are asserted. For example, where the policyholder purchases time-element pollution coverage that includes “third party clean up loss, cost or expense,” the policyholder could suddenly face esoteric questions about the meaning of “third party” and what the term is modifying. Does this phrase imply coverage for the cleanup of a “third party’s” property, or does it mean that only a cleanup performed by a third party is covered? If the former, what exactly is “third party property,” and how should damage to public property and natural resources be treated? These issues, and policyholder arguments in support of a commercially sensible reading of these coverages, are set forth below.
Because most commercial insurance policies contain pollution exclusions, many policyholders purchase “time-element” pollution endorsements that promise coverage for things like bodily injury, property damage, and cleanup costs arising out of an actual, alleged or threatened discharge, dispersal, seepage, migration, release or escape of pollutants, provided that certain qualifications are met. The most common qualifications require the discharge, etc. commence on a specific date during the policy period, and be discovered and reported in writing within a specific numbers of days.
Insurance policies and pollution endorsements typically exclude coverage for damages and injuries that are not “expected or intended” by the policyholder. Under the law of New York law and most other states, these types of exclusion do not apply unless the policyholder’s control group subjectively intended to cause the injuries in question (This article focuses on New York law because many policies containing bespoke pollution endorsements are controlled by New York law, like the “Bermuda Forms” sold in the Bermuda and London markets.). The mere possibility of an accident should not be enough for an insurance company to prevail. As Judge Benjamin N. Cardozo recognized in Messersmith v. American Fidelity Co., 232 N.Y. 161, 133 N.E. 432 (1921), policyholders buy insurance precisely because they know or suspect that their operations could lead to damage to third persons or property that could lead to the policyholder’s liability. As he aptly put it: “To restrict insurance to cases where liability is incurred without fault of the insured would reduce indemnity to a shadow.” Thus, in Messersmith Cardozo and the New York Court of Appeals ruled that a liability insurance policy provided coverage to the policyholder, an owner of an automobile, even though the policyholder negligently entrusted his car to a youth under the age of 18, and even though the policyholder allegedly did so in knowing, willful violation of the law. Cardozo observed that no matter how willfully the policyholder acted in negligently entrusting the car to a youth, the policyholder “did not desire or intend that there should be an injury to travelers.” Likewise, an expected/intended defense should always be tested by whether the policyholder had a desire or intent to injure specific property or person, not whether it knew or suspected that its operations could injure some unknown property or person.
Subsequent cases have expanded upon this holding. Under that authority, an insurance company has the burden of proof and should not prevail on an expected/intended defense unless it can prove a specific expectation or intent to cause actual injury—not a mere taking of a calculated risk. Nevertheless, policyholders can expect insurance companies to run expected/intended defenses, if only to expand the scope of discovery and to put the policyholder on the defensive.
Beyond questioning the cause of the accident, any insurer challenging coverage for a pollution claim may challenge almost everything that happens afterwards. The insurer may argue the accident should have been discovered earlier, pointing to pollution endorsement wording requiring “reasonable efforts” in the wake of the spill to mitigate its efforts, and they may question the speed, methodology or effectiveness of the response or cleanup effort. If the EPA, a state environmental agency, or another government agency is involved, the policyholder may find the insurance company latching onto governmental findings concerning the response, and they may even be put in the situation of the insurer questioning response activities that were directed by the government.
For instance, in Coffeyville Resources Refining & Marketing, LLC v. Liberty Surplus Insurance Corp. (National Union), 714 F. Supp. 2d 1119 (D. Kan. 2010), National Union argued that the policyholder failed to use “reasonable efforts” to mitigate loss because, in retrospect, the release could have been avoided. In that case, the court rejected National Union’s attempt to rely on “hindsight” to argue the policyholder expected/intended or “knew to a substantial certainty” a tank was going to overflow and spill oil based on evidence of employees’ negligent oversight. Although the court agreed that the policyholder’s actions constituted “negligent oversight” in failing to prevent an overflow, the insurance company’s hindsight arguments that the policyholder “knew to a substantial certainty the tank was going to overflow” were only true in the sense that all negligent acts could be prevented by acting with greater care. As the court saw things, citing numerous examples, “the same could be said of almost any negligent act causing an unintended injury,” but the actor typically “miscalculates” rather than “expects” or “intends” the accident.
A “reasonable efforts” clause should not permit the insurer to question coverage unless it can show an intent to release or bad faith in the response (not a mere difference of opinion on tactics or strategy or a lack of available resources).
Some time-element pollution endorsements are an ambiguous mess, allowing insurance companies the freedom to manufacture perplexing grounds to deny coverage. A good example is a three-part time-element endorsement, in which the first two paragraphs generally exclude coverage for most pollution claims and governmental cleanup or testing demands, but the third part nevertheless provides an exception permitting coverage for a “bodily injury” or “property damage” claim or “third party cleanup loss, cost or expense,” if the various time-element conditions are satisfied. A fair reading of this type of coverage would provide coverage for all related third-party claims, cleanup costs, testing costs, and other governmental demands, so long as the time-element conditions are satisfied.
Some insurance companies in this situation will attempt to over-read the first two paragraphs to swallow the the time-element exception in the third. That is, even if the time-element conditions are satisfied, the insurer may argue there is no coverage if there are governmental orders requiring the policyholders to act. This argument might be raised even if the third paragraph states it “will not apply to third party clean up loss, cost or expense otherwise covered by this endorsement that are also the subject of a governmental request, demand, order or statutory or regulatory requirement”—or similar wording. In other words, insurers may argue that after satisfying time-element conditions in one portion of the endorsement, coverage for almost all pollution-related damages are negated by another portion. Clearly this is an absurd position, but it still is asserted frequently.
The better interpretation acknowledges that the exceptions contemplate coverage for circumstances where costs are incurred to clean up the results of abrupt, accidental releases of pollutants, including where the cleanup is required by government orders, so long as the government order concerns “third party clean up loss, cost or expense.” This interpretation leaves open for debate what is meant by “third party clean up loss, cost or expense,” an issue discussed in the next section. The endorsement might, however, limit coverage for particular types of costs, such as those concerning waste disposal sites, fines, penalties, some first party property costs, acid rain related costs, and liabilities intentionally incurred. This interpretation is sensible, and avoids an impossible coverage test that would result in illusory coverage by distinguishing between covered “third party clean up loss, cost or expense” and costs incurred because of governmental orders and oversight following a major oil spill or pollution release—which of course follow any major release as night follows day.
This better reading was adopted in Coffeyville, where the court considered the conflict between an exclusion of clean -up costs and an apparent grant of coverage for property damage, with a definition of “loss” that included clean-up costs. The pollution endorsement was recognized as “confusing,” “circular,” internally contradictory and ambiguous. The court ruled that absent further clarification, a policy that promises pollution liability coverage for loss arising from claims for property damage reasonably includes “the full cost of remedying harm to the property of third-party claimants—including governmentally-imposed clean-up costs requiring the insured to completely remediate the property.”
An insurer may try to differentiate between “third party” costs relating to clean up of damage to individual landowners’ properties versus costs relating to clean up of damage to the policyholder’s property, public property or natural resources. In some recent cases, insurers have attempted to argue that an exception for “third party clean up loss, cost or expense” can only relate to third persons who would have standing to assert property damage claims concerning their own damaged property. As for cleanup of public property and natural resources, however, they assert that no individual “third party” has standing to assert such a remediation claim. This distinction has no support.
The most obvious problem with an effort to deny coverage for cleanup of public property and natural resources is that “third party cleanup loss, cost or expense” says nothing about a distinction between private and public property. It also says nothing about requiring a private party to have standing to demand a cleanup of natural resources. Typically, the key phrase, “third party clean up loss, cost or expense” is undefined.
Because public property and natural resources are not the policyholder’s property, they must be considered third-party. Accordingly, the scope of coverage would include loss, cost or expense incurred to clean up either private property or public property, including natural resources like public lands, waterways, air, flora and fauna, as well as efforts to prevent and mitigate further damage to such third-party property.
Further, even if it were necessary to demonstrate that a third party would have standing to assert a remediation claim for damage to public water, lands or natural resources, state and federal law typically permits neighboring landowners, community groups, members of the public and the government itself (all third parties to the insurance policy) to assert claims for cleanup and remediation of these categories of property. Likewise, state and federal law generally hold that all natural resources—whether held by the government or by private owners—are protected and held in trust by the government for the benefit of the public. Thus, any distinction between government as third party and private people or entities as third parties demanding cleanups is artificial and should be rejected.
Pollution endorsements frequently contain wording that excludes coverage for damage to the policyholder’s own property. Nevertheless, New York state and federal courts have long recognized that a government-ordered cleanup of contaminants in groundwater and other natural resources remediates damage to a third party or third parties, even where the contaminants are in soil owned by the first party (the policyholder), due to the risk of contaminating other land and water. As but one of many examples, in Bankers Trust Co. v. Hartford Accident & Indemnity Co., 518 F. Supp. 371 (S.D.N.Y. 1981), the court held that a policy providing coverage for damage to property of third persons but excluding damage to the insured’s property, covers work performed on the insured’s property in order to prevent damage to the property of third parties.
A string of similar cases agree that threats to groundwater contamination, streams and natural resources are threats requiring prompt remediation—and they typically decline to let insurance coverage recovery hinge on proximity to the policyholder’s property line. This precedent further demonstrates that New York considers various third parties to be injured by contamination of, or threats of contamination to, groundwater and other natural resources. Insurance company arguments that cleanups of these resources do not constitute third party clean up loss, cost or expense, should be rejected.
When a disaster involving oil, pollution or a contaminant occurs, time-element pollution coverage can be extremely valuable, but because of its value coverage can be hotly contested. Insurance companies may question coverage for reasons both good and bad, and policyholders should be prepared to respond with experienced coverage counsel.
