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Where a subcontract filed suit against the general contractor to collect the balance of its fee and the general contractor defended itself by claiming the right to an offset in the fee to cover damages that it alleged were caused by the subcontractor, a court held that the offset constituted a claim for damages that created a duty of the subcontractor’s insurance carrier to defend the subcontractor.

A general contractor (SHC) retained CPS Security Services to provide security on a construction project. After the project was damaged by fire, the contractor withheld approximately $27,000 in fee from CPS. CPS sued SHC for the fee it claimed was owed. In its answer to the pleadings, SHC pleaded as an affirmative defense that it was entitled to “an offset” pursuant to common law and/or the Code of Civil Procedure, as a result of CPS’s deficiencies in performance which resulted in damage to the construction project.

CPS tendered the defense of the affirmative defense to its insurance carrier, but the carrier refused to defend the matter, and CPS proceeded to employ its own attorney to defend the affirmative defense. While the matter was pending the contractor settled the case with CPS, with CPS forgiving part of the amount in question plus paying attorneys fees incurred by the contractor. CPS then sued its insurance carrier (TIG Specialty Insurance Company) for reimbursement, plus punitive damages. TIG asked the court to dismiss the action on the basis that the affirmative defense in the action between the contractor and the insured did not constitute a “suit” as defined by the policy and in case law, and that there was consequently no suit triggering a defense duty on TIG’s part. TIG also asserted that the contractor was only seeking to mitigate its own damages but did not seek any “damages” against CPS, as required for coverage. The trial court agreed with the insurance carrier and dismissed the case.

The appellate court reversed the decision, and held that the pleading of an offset “rose to the level of a suit.” According to the court, “damages are money ordered by a court” and an offset comes within this definition of damages. It didn’t matter that the contractor elected to assert an offset as an affirmative defense instead of bringing a counter-complaint or cross-complaint against CPS. The court cited cases from other jurisdictions that have held an “offset claim was in substance and effect a suit against the insured seeking damages for legal malpractice.” Construction Protective Services, Inc. v. TIG Specialty Insurance Company, 90 Cal. App. 4th 149 (June 27, 2001).

Risk Management Note: It is somewhat surprising that there are not more reported cases of disputes between insurance carriers and their insureds over the question of whether a fee offset constitutes an insured damage or claim. In the majority of cases in which a contractor or design professional sue their client for fee, the client defends itself with a counter-claim or offset claim alleging that they do not owe the fee since the plaintiff was negligent or otherwise failed to adequately perform the services required under the contract. The standard professional liability policy, for example, states that fee disputes do not constitute insurable damages or claims. As seen by the reported case, the matter may be less than perfectly clear.

About the author: Article written by J. Kent Holland, Jr.,  a construction lawyer located in Tysons Corner, Virginia,  with a national practice (formerly with Wickwire Gavin, P.C. and now with Construction Risk Counsel, PLLC) representing design professionals, contractors and project owners.  He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects.  He is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932.  This article is published in ConstructionRisk.com Report, Vol. 3, No. 6 (Sep 2001).

Copyright 2001, ConstructionRIsk.com, LLC