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After the 1906 San Francisco earthquake, insurers resisted making payments. Lloyd’s of London, however, telegraphed instructions to its U.S. agents to pay all claims at once. Almost a century later, the four 2004 Florida hurricanes — Charley, Frances, Ivan, and Jeanne — collectively inflicted the largest insured loss from a natural disaster in U.S. history. The total loss was larger than that of Hurricane Andrew in 1992 or the San Francisco earthquake of 1906. Residents and businesses throughout Florida suffered the twin hardships of severely damaged properties and interrupted income streams. No insurer, not even Lloyd’s, issued an instruction to pay all claims at once. Many claims still remain in dispute. The issues lingering from the 2004 hurricanes could soon be repeated after the 2005 hurricane season. AFTER THE STORMS The state of Florida zealously protects individuals in their pursuit of insurance. The state passed various emergency regulations after the 2004 hurricanes to ensure prompt and fair treatment for individual policyholders. Yet many commercial policyholders throughout Florida continue to struggle with insurance recovery. While insurers have paid many claims, hundreds of millions of dollars in other claims remain unresolved. Up and down the Florida coast, the reopening of properties is held up by the lack of insurance resolution. The following 10 significant issues tend to divide insurers and policyholders: •

Property Valuation. Commercial property policies provide three main types of coverage: property, business interruption, and extra expense. With respect to property coverage, most policies provide “replacement cost new” (as opposed to “actual cash value”). Thus, the policyholder is entitled to replace a used item with a new item “of like kind and quality.” So a 10-year-old wood dresser gets replaced by a brand-new wood dresser. Replacement-cost-new coverage often results in an upgrade in the property. The insurers may attempt to decrease adjustment by arguing that the damaged property was old or defective. Policyholders argue that this is the very nature of replacement-cost-new insurance — something old is replaced with something new. Item by item, adjusters debate replacement cost valuation.


Causation of Damage. A related property-adjustment issue is causation and the scope of repairs required as a result of a hurricane. For example, a policyholder may have a building with a 20-year-old roof, five years from the end of its useful life. Before the storm, it was not leaking; after the storm, it leaked. The policyholder’s roofing expert may believe that the roof needs to be replaced because of the storm. The insurer may argue that the roof was defective and leaking before the storm or that only a small portion of the roof needs to be replaced. Meanwhile, the policyholder may need to replace the whole roof and be left unfunded by its insurer. Such causation issues are resolved in accordance with the “efficient proximate cause” rule, which poses a simple question: Was the hurricane the last or precipitating reason for the repair work? Perhaps the “pre-existing condition” of a building destroyed by a hurricane was very poor, with a cracked foundation in a state of near collapse. Nonetheless, if the hurricane was the “efficient proximate” cause of the collapse, there is coverage.


Mold Exclusion. Some policies include an exclusion for mold. The most common form excludes coverage for repairs to mold damage that existed before the storm but not mold damage that resulted from the storm itself. The issue again becomes one of causation. If an item was damaged by the storm and thus needs to be replaced, the fact that the item had some pre-existing mold damage should be irrelevant. An insurer may argue that the presence of pre-existing mold forever disqualifies the item from coverage, even if the hurricane was the proximate cause of the need for its replacement. The issue is how much coverage a mold exclusion can eliminate.


Code Upgrades. Most policies contain “code upgrade” coverage, which provides extra coverage to the extent that current building codes drive up the cost of repairs or replacements. Such coverage represents an exception to the usual rule of “like kind and quality” — for example, a damaged wood roof may have to be replaced by a steel roof. Moreover, the rule in most Florida counties is that if the entire structure is damaged by more than 50 percent of its total value (“value” is defined differently among counties), then the entire structure — including the undamaged portion — must be repaired to code. Particularly since Hurricane Andrew, Florida building codes have become stricter. Thus, the typical building damaged by the 2004 hurricanes can be repaired only with significant code upgrades. Because of the added expense, insurers routinely challenge code-upgrade claims, especially when the entire building must be repaired. Many buildings in Florida lie in flood zones, and a code upgrade, such as the need to raise the entire building by three feet or demolish it entirely, can be very expensive. Code upgrades would, of course, strengthen buildings so as to minimize future hurricane losses — to the benefit of the owners, the state, and, ultimately, the insurers.


Condominium Units. The 2004 hurricanes damaged many condominiums throughout Florida. The state law defining the boundary between repairs that must be completed by the condominium association (or its insurer) and repairs left to the individual unit owners (or their insurers) was amended after Hurricane Andrew. The dividing line now runs basically between the building (the walls, roof, common areas, etc.), which must be repaired by the association, and the area within the four walls of the unit, which must be repaired by the unit owner. At some condominiums, the association and the unit owners disagree over who is supposed to do what — a disagreement fueled in large measure by their respective insurers pointing the finger at each other. Meanwhile, repairs can languish. To complicate matters, the unit owners may have turned over repair obligations to tenants or property managers, adding another party and set of insurers to the multiparty discussion of who is supposed to repair what and when.


Business Interruption Period. For many companies the biggest dollar loss is the lost income during the period in which they cannot do business because of the storm damage. This loss is covered by business interruption (BI) insurance. A threshold issue is the length of the BI period. In general, the BI period ends when all repairs are complete, the business is reopened, and an income stream is restored. Most policies also include “extended BI” coverage until the business returns fully to its prior income levels. The insurer may argue that the policyholder failed to use due diligence and dispatch to complete repairs, and, therefore, may cut off payments before the business reopens based on a theoretical measure of what the BI period should have been. After four successive major hurricanes, there was a dramatic shortage of labor and materials in Florida. Repairs at some properties could not be started for many months. Even when repairs did begin, prices soared for labor and materials. Yet some insurers have looked at the issue in the abstract and stated how long it “should have taken” to complete repairs, as if the policyholder had suffered a one-time flood in the midst of available and cheap labor and materials.


BI Valuation. Once the BI period is defined, the next issue is how to measure the BI loss. Most policies define it as “lost net profits” that would have been earned had there been no loss, plus “continuing expenses” within the period. The net profit that would have been earned must be estimated, as there are no actual numbers for the interrupted business. Accountants typically look at several things in making the estimation, including the historical numbers for the business (e.g., revenue for the same months in previous years), the numbers for a comparable set of businesses, and industry trends. For example, if a restaurant is out of commission for one year, a forensic accountant might look at the records of comparable restaurants. Say the “comp set” shows a 25 percent increase in net profits over the previous year; then the BI measurement might likewise show 25 percent over last year’s net profits. An insurer might dispute such an adjustment. Overall, since the 2004 hurricanes, the Florida economy has been strong, especially in the tourism industry. Thus, most businesses interrupted by damage would have enjoyed significantly increased profits compared with prior years.


Continuing Expenses. The BI measure also includes continuing expenses — items such as ground rent and taxes that do not stop during the BI period. There are many continuing expenses that insurers might contest. For example, many policies allow the policyholder to decide whether to lay off nonsalaried employees. A policyholder may decide to keep all employees on the payroll, even if some will not be working during the BI period, so that labor will remain available. Otherwise, a tight labor market could make reopening difficult, not to mention the extra training costs (to be paid by insurers). But the insurer might contend that the policyholder should have laid off these employees and thus decline to pay the continuing “ordinary payroll.” Another big issue in continuing expense claims is whether the policyholder’s financial loss from an inability to claim depreciation (due to property damage) should be captured by the claim.


Extra Expenses. A typical policy covers the “extra expenses” beyond the costs of repair, such as the cost of emergency generators, an alternate office location, and marketing to reopen the business. Also, if the insurer does not provide adequate advances to fund repairs, the policyholder may need to borrow funds, thus incurring fees and interest, which the policyholder will claim as an extra expense. Any expense that mitigates the insurer’s loss is covered, though this can raise more disputes with the insurer.


Deductibles. After Hurricane Andrew, most insurers shifted from a flat deductible to a deductible of 2 percent of building value. With the four storms of 2004, many insurers argued that the storms represented four separate occurrences for purposes of the deductible — meaning that the policyholder would have to pay four 2 percent deductibles. Under pressure from the state, many insurers agreed to charge individual homeowners only one deductible. But for businesses, disputes over deductibles continue. For businesses with multiple properties damaged by one hurricane, a related issue can be whether the company must pay one deductible for the one hurricane occurrence or, as the insurer may argue, a separate deductible for each damaged location. The process for dealing with the aftermath of the 2004 Florida hurricanes has not been as easy as when Lloyd’s of London covered claims from the 1906 San Francisco earthquake. The terms of each policy, of course, define what is covered and how each claim is to be adjusted. But even when the policy terms are clear, parties often debate the facts — the valuation of the damaged property, the scope of damage caused by the hurricane, the correct BI trend, and the like. Increasingly attorneys are involved in the early stages of a claim. In some cases, the process can be long and grueling, heated and accusatory. If the parties — and their counsel — remain focused on communication, dialogue, and good faith, resolution is achievable.

Gary Thompson is a partner at Gilbert Heintz & Randolph in Washington, D.C. He represents policyholders with insurance claims, including property claims arising from the 2004 Florida hurricanes. The views expressed here do not necessarily reflect those of the firm, its other attorneys, or its clients.

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