Since 2001, most insurers have excluded coverage for terrorism and have charged additional premiums to add terrorism coverage back to the policy. Some commercial tenants who bought insurance opted not to buy back the terrorism coverage. The New York State Court of Appeals has found that they decline such coverage at their peril.
The New York Court of Appeals held that a tenant of a commercial building in Manhattan violated its lease by obtaining insurance that expressly excluded terrorism. The case arose in the aftermath of the September 11, 2001 terrorist attacks and was a direct result of concerns by commercial property owners that occupants carry proper insurance against potential future attacks.
The lease required that the tenant, TAG, obtain insurance coverage against loss or damage caused by fire and other named perils included under the terms of the New York Standard Fire Insurance Policy and Extended Coverage Endorsement in effect in 1989. That endorsement obligates lessees to provide full insurance for certain other named perils, including windstorm, hail, smoke, riot, civil commotion, explosion and physical contact with the building by an aircraft or vehicle, but specifically excludes from coverage damage to the building caused by various water disasters, riots and war-like actions by sovereign nations or their agents, among other things.
The Policies, and the Larger Question of What Constitutes Terrorism
In June 2002 TAG's insurance policy, which provided blanket coverage against all losses without excluding terrorism, expired. TAG obtained a new policy that covered all causes of damage covered under its previous policy but explicitly excluded terrorism, going so far as to disclaim any action caused even remotely "by terrorism." The exclusion clause of the policy additionally provided that the insurance did not cover any peril caused by terrorists "whether such loss or damage is accidental or unintentional, intended or unintended, direct or indirect, proximate or remote in whole or in part caused by, contributed to or aggravated by any perils insured by the policy."
The landlord, ComMet, subsequently advised TAG that it was in default on its lease because of insufficient insurance coverage. TAG countered by commencing an action seeking both a declaratory judgment that it was not in violation of its lease and a Yellowstone Injunction to prevent ComMet from prematurely terminating the lease and tolling the cure period in the default notice. The lower court granted TAG a Yellowstone Injunction, and ComMet then moved for summary judgment on its counterclaims, which required that the court decide whether the tenant's conduct constituted a violation of the terms of the lease. The landlord did not request an eviction, apparently because the tenant had obtained adequate insurance during the time to cure. We note that prior courts have held that a failure to obtain and maintain required insurance coverage, if not cured in a timely fashion, may lead to eviction.
ComMet argued that "terrorism" included actions taken by individuals who may use any of the enumerated perils to cause damage to the building. TAG maintained that the insurance it had procured provided coverage for any of the named perils and therefore met its obligations under the lease, even though the policy excluded terrorism.
The Findings and Their Implications
The court held that TAG's policy failed to meet the coverage obligations under the lease and awarded ComMet substantial damages and attorney's fees. The term "terrorism," the court explained, is not limited to a specific cause of harm—a fire or explosion, for instance, or collision with an aircraft, but can also describe individuals who may utilize any of the lease's named perils to damage the building. Therefore, the court held, by "...purchasing a policy that excludes from coverage all methods potentially used by terrorists, including the named perils in the lease, TAG breached its lease."
The court found that ComMet was entitled to reimbursement for "any reasonable damages it incurred as a result of TAG's breach of its lease." Accordingly, ComMet was awarded damages for the amount of money it paid in insurance premiums for the purchase of the coverage it deemed necessary. Additionally, because the lease included a "prevailing party" provision, ComMet was also awarded its attorney's fees.
What This Means to You
* Commercial tenants should make sure they have terrorism coverage if their leases require it, and they should make sure the coverage meets their obligations as defined in the lease. In most cases, as here, that means buying coverage for terrorism, either in a policy that includes such coverage or in a buy-back arrangement.
* Tenants must also buy coverage of sufficient quality—as measured by the rating agencies—that their leases call for. In today's climate, where rating agencies have downgraded carriers with increasing frequency, tenants' annual reviews of their policies should include checking the current rating and the lease's requirements. This case did not involve a violation of rating requirements so the court did not address that issue, but there is no indication that the courts would apply a different standard of damages had ratings—rather than exclusions—been at issue.
* Property owners should oversee their tenants' purchases of insurance to make sure that the policies are sufficient in all respects and conform to requirements enunciated in leases. Doing so may nip a problem in the bud, and failure to do so may expose owners to unanticipated exposure and damages that can be recovered only after costly litigation.
* Lenders with money at risk in commercial properties should take similar precautions as the property owners for the same reasons mentioned above.
Copyright © 2008 Herrick, Feinstein LLP. Insurance Alert is published by Herrick, Feinstein LLP for information purposes only. Nothing contained herein is intended to serve as legal advice or counsel or as an opinion of the firm.