The Other Property Problem–Applying the Economic Loss Rule to Construction Contracting Claims
Practitioners familiar with Florida’s economic loss rule are well aware of its general proscription against tort recovery for losses that do not arise out of either personal injury or damage to “other property.” While relatively straightforward in product cases, defining what property is “other”—and what is not—presents a challenging analytical problem in the case of services contracts, where there is no “product” sold and therefore no basis to compare tangible “properties.” The task is even more complicated in construction contracting cases, where products are installed—but only incidentally in the course of the contractor’s providing services—and where the work entails the combination of several different building materials in a single “property.” This article addresses the conceptual problem of applying the economic loss rule to construction contracting cases and proposes that the appropriate line of definition for identifying “other property” is the “scope of work” of the contract giving rise to the claim for damages.
Florida’s economic loss rule has its source in product liability cases. The first expression by the Florida Supreme Court occurred in Florida Power & Light Co. v. Westinghouse Elec. Corp., 510 So. 2d 899 (Fla. 1987), in which tort recovery was precluded where steam generators were themselves defective but otherwise caused physical damage to no other property or equipment. Tort law, said the court, “is particularly unsuited to cover instances where a product injures only itself.”1
While a product injuring only itself is merely economic loss, what of a product that injures other products with which it is assembled to form a larger whole? That issue was first addressed in American Universal Ins. Group v. General Motors Corp., 578 So. 2d 451 (Fla. 1st DCA 1991), a case involving components of a fishing boat engine. There the drive gear in a defective replacement oil pump seized while in operation and destroyed the engine. The insurer subrogated to the boat owner’s claim sought recovery in tort against General Motors, the manufacturer of the faulty pump, arguing that the economic loss rule did not apply because “the oil pump was the product and the engine was ‘other property.’”2 In rejecting that argument the First District noted that the entire engine had originally been manufactured by General Motors and that the “object of the bargain was a repaired engine, not just a replacement oil pump.”3 Because the “pump became an integral part of the engine. . . when it damaged itself, and the engine parts, this was not damage to ‘other property.’”4
Defective Building Materials
The same rationale was employed by the Florida Supreme Court in Casa Clara Condominium Association v. Charley Toppino & Sons, Inc., 620 So. 2d 1244 (Fla. 1993), in which homeowners sought tort recovery against a concrete supplier, whose defective concrete caused damage to other components of their buildings and the structural integrity of the buildings as a whole. Unlike the engine components in American Universal, building products typically are furnished by different manufacturers and suppliers and are often incorporated into real property by several contractors specializing in different trades.
Arguing that the disparate sources of building materials make them mutually “other” property under the economic loss rule, the homeowners in Casa Clara had relied on the precedent of Adobe Building Centers, Inc. v. Reynolds, 403 So. 2d 1033 (Fla. 4th DCA 1981), for the proposition that the concrete was a “product” and the rest of the building was “other property.” In Adobe the Fourth District had found a seller of defective stucco, which had damaged the surface of the wall to which it was applied, to be subject to strict product liability in tort under the Restatement (Second) of Torts §402A, on the theory that the stucco had caused “physical harm. . . to the ultimate user or consumer, or to his property.” But the Florida Supreme expressly disapproved Adobe, ruling that it “incorrectly refused to apply the economic loss rule to what should have been” a contract action.5
Orienting its analysis toward “the product purchased by the plaintiff, not the product sold by the defendant,” the Casa Clara court refused to recognize the concept of mutual “otherness” among building components.6 Because the homeowners had bought “finished products—dwellings—not the individual components of those dwellings,” the product had damaged itself and the concrete “thus, did not injure ‘other’ property.”7 defining the product as what the plaintiff bought, rather than what the defendant sold, the court neatly disposed of the component problem. then declaring that a building is a product, rather than real property as was customarily held,8 the court moved many defect claims cleanly within the ambit of the economic loss rule.
Cases involving the purchase of a building or of building materials provide an easier basis for analyzing “other property,” because the identity of the “product” is readily determined by an examination of the deed or bill of sale setting forth the transaction. Arguably, everything appearing on the face of the purchase document is “product” and everything that does not is “other property.” On the other hand, cases involving the work of a construction contractor present a more difficult problem, because there is no “product” as such sold by the contractor. Contractors are viewed as providers of services, not of products.9 Shortly after the adoption of the economic loss rule in Florida Power & Light Co. v. Westinghouse Elec. Corp., the Florida Supreme Court in AFM Corp. v. Southern Bell Tel. & Tel. Co., 515 So. 2d 180 (Fla. 1987), extended the rule from cases involving defective products to those involving negligent services. Courts thereafter have duly applied the economic loss rule to prevent tort claims against contractors for their negligence.10
Analyzing the “other property” exception in the context of construction contracting is conceptually awkward, because, as recently noted by the Florida Supreme Court in Comptech Int’l, Inc. v. Milam Commerce Park, Ltd., 24 Fla. L. Weekly S507, S509 (Fla. Oct. 28, 1999), that “term is not truly applicable. . . where the subject of the contract is a service.” In Comptech a computer hardware distributor sought to recover in negligence for damages to its computers that stemmed from the construction of tenant improvements in premises it was leasing. Although the work was performed pursuant to the lease agreement, the contractor was hired by the landlord and was not in privity with the tenant. The Third District had upheld dismissal of the negligence count on the basis of the economic loss rule, ruling that the computers were not “other property,” because they “constituted an essential part of the business endeavor,” and, therefore, the damage “was, or should have been, contemplated by the contract.”11 It was difficult to draw from the Third District’s decision a clear definition of what was or was not to be considered “other property.” broadly basing the analysis on a generalized underlying purpose imputed to the injured party in entering into the contract, the Third District’s decision appears to exclude from the definition of “other property” any physical property related to the business and located near the construction.
The Florida Supreme Court, however, quashed the decision of the Third District, concluding that “[t]he ‘product’ purchased by Comptech was the renovation of the warehouse,” and that “to the extent the warehouse is the object of the contract, the computers in the warehouse are indeed ‘other property.’”12 Nevertheless, other than broadly declaring the “product” or “object” of the contract to be the warehouse renovation, the court still did not set forth a clear rule by which “other property” can be identified when an owner engages the services of a construction contractor to improve an existing property.
One obvious line of demarcation that Comptech does reveal lies between the improvements to the real property and such personal property, for example, Comptech’s computers, that may happen to be located at the site. That line has been implicitly recognized before.13 But, it is not clear from Comptech whether damage to other parts of real property, for example, a different area of the warehouse that was not being renovated, would be considered damage to “other property.” In noting that the “object” of the contract was the “warehouse” and that the “product” purchased was the “renovation of the warehouse,” did the Court in Comptech intend to include the entire building or only that portion of the structure actually subject to the renovation work?
Contracting often involves repairs or modifications to existing structures that involve only specific components or systems, but which expose other components to risk of damage. This author submits that equating the entire building, rather than the particular part being modified, with the “product” for economic loss rule purposes would be overly broad and analytically unnecessary. It would also be inconsistent with analogous cases construing contractors’ liability insurance policies (discussed below), which recognize parts of an existing building damaged as a result of contractors’ faulty workmanship as being “other property” for coverage purposes.
In determining the point where the “object” of the contract ends and “other property” begins, the most logical boundary is the written scope of work that a contractor undertakes to perform in the contract. A particular scope of work analytically corresponds to the “product” for economic loss rule purposes, because that specifically is “the product purchased” by the owner as contemplated by Casa Clara. All of the remaining components or systems of the existing structure then logically fall within the realm of “other property.”
Formulated in that manner, the rule benefits from being relatively objective, requiring no more than an inquiry into the definition and extent of the particular scope of work. In fact, it has already been implicitly recognized in an earlier Florida decision. In Southland Constr., Inc. v. The Richeson Corp., 642 So. 2d 5, 9 (Fla. 5th DCA 1994), a contractor sued an engineer for costs incurred in connection with a faultily designed retaining wall, which cracked and bulged, damaging an existing pool deck and wall. The Southland court noted that “the record supports the view that other structures not involved in the building project were damaged by the failure of the retaining wall,” and found that the case presented “a material question of fact as to whether damages to ‘other property’ was involved. . . and not just ‘economic loss’.. . . ”14
Comprehensive General Liability Coverage
Although not discussed in case law addressing the economic loss rule, the “other property” problem has historically arisen in another area of construction defect litigation, claims against contractors’ comprehensive general liability insurance. While the vocabulary is different, the analysis is parallel and a single, neutral principle should apply in both situations.
Comprehensive general liability policies typically indemnify manufacturers and contractors against liability arising from their own defective workmanship, but not against liability for deficiencies in the work itself.15 Within the general ambit of a comprehensive general liability policy, separate coverages must be purchased to cover the period of time during which product is being made at the manufacturer’s premises or the contractor’s work is in progress on site (“premises” or “operations” coverage), and the period after the product has been made and sold or the contractor’s work has been performed (“product liability” or “completed operations” coverage).16
Comprehensive general liability insurance covers only personal injury and damage to property that is not itself part of the work performed by the contractor.17 Claims for inadequate or faulty work come within the province of warranties and performance bonds, not comprehensive general liability insurance. Therefore, an owner dissatisfied with a contractor’s workmanship must seek recovery in contract directly against the contractor or, if the job is bonded, against the surety.18 In essence, comprehensive general liability insurance covers the contractor against claims sounding in tort, but not claims sounding in contract.
Against that background, decisions regarding comprehensive general liability coverage of damage to property caused by poor workmanship are instructive in defining the economic loss rule’s “other property” exception to tort claims for a construction contractor’s negligence. These decisions support reliance upon the scope of work for the particular job as the logical line of demarcation between “product” and “other property.”
For example, in American States Ins. Co. v. Villegas, 394 So. 2d 222, 223 (Fla. 5th DCA 1981), a contractor’s compensive general liability policy was held not to cover poor workmanship in an addition constructed to the plaintiff’s home, although “property damage to [the] original structure caused by [the] addition may be covered.” In Old Republic Ins. Co. v. Sheridan, 407 So. 2d 619 (Fla. 4th DCA 1981), a contractor negligently constructed a swimming pool, which crackedand which caused erosion in the back yard. Although the damage to the pool itself was not insured, comprehensive general liability coverage was found for the back yard erosion.
In Greenway Village South Condominium Ass’ns. I, II, III and IV, Inc. v. Roach, 397 So. 2d 954 (Fla. 4th DCA 1981), a contractor hired to install gutters and downspouts damaged metal strips sealing the existing mansard roofs. The damage resulted in ruining the water-tight property of the roofs, and was held to be compensable under the “operations” coverage of the contractor’s comprehensive general liability policy. Because the contractor had not paid for “completed operations” coverage, the policy did not cover subsequently occurring damage to the interiors of the buildings caused by water leaking through the improperly opened seals. Implicitly, however, had the additional coverage been purchased, the water-damaged interiors would have been compensable as well.
Many Florida cases exclude coverage for the work actually performed by the contractor, but treat the existing structure as “other property,” subject to comprehensive general liability insurance coverage.19 Non-Florida cases reflect a consistent treatment.20
The most logical and workable means of defining “other property” under Florida’s economic loss rule, in claims against contractors for defective workmanship, is by examining the contractor’s scope of work. If the “product” purchased by the owner is a repair, addition, or modification to an existing structure, any portion of the structure that is not intended to be removed or changed under the contract should constitute “other property.” An owner would be limited to contract remedies to recover for faulty workmanship, but any damage to the existing structure would be recoverable in tort.
dovetailing with insurance law, this formulation of “other property” would be consistent with the underlying policy of the ELR that property owners protect themselves from defective work by resorting to contract devices.21 As part of the contract price, owners could insist that, in addition to surety bonds, contractors—and the contractor’s subcontractors—carry comprehensive general liability insurance for both ongoing and completed operations. This would have the obvious benefit of providing a remedy against nonprivity subcontractors (and their insurers) for damage stemming from their work, in the event that remedies against the prime contractor are inadequate. This formulation would also provide a bright-line rule for defining “other property” in an area of the law that has unfortunately been characterized by much uncertainty and debate since the ELR was adopted.22
1 Westinghouse, 510 So. 2d at 901.
2 American Universal Ins. Group v. General Motors Corp., 578 So. 2d at 453.
3 Id. at 454.
5 Casa Clara Condominium Association v. Charley Toppino & Sons, Inc., 620 So. 2d at 1248.
6 Id. at 1247.
8 See, e.g, Gable v. Silver, 258 So. 2d 11 (Fla. 4th D.C.A. 1972), adopted, 264 So. 2d 418 (Fla. 1972).
9 See, e.g., Arvida Corp. v. A.J. Industries, Inc., 370 So. 2d 809 (Fla. 4th D.C.A. 1979) (affirming dismissal of UCC warranty claims against contractor who repaired bathrooms, where furnishing of plumbing parts was merely incidental to repair services contracted for); Jackson v. L.A.W. Contracting Corp., 481 So. 2d 1290 (Fla. 5th D.C.A. 1986) (holding road surfacing contractor not strictly liable as manufacturer of road sealer applied in accordance of manufacturer’s instructions, and not liable in warranty under UCC, where contract to apply sealer was essentially for services not goods).
10 See, e.g., Sandarac Ass’n, Inc. v. W.R. Frizzell Architects, Inc., 609 So. 2d 1349 (Fla. 2d D.C.A. 1992), rev. denied, 626 So. 2d 207 (Fla. 1993).
11 Comptech Int’l, Inc. v. Milam Commerce Park, Ltd., 711 So. 2d 1255, 1261 (Fla. 3d D.C.A. 1998).
12 Comptech Int’l, Inc. v. Milam Commerce Park, Ltd., 24 Fla. L. Weekly at S509.
13 See, e.g., Murthy v. N. Sinha Corp., 618 So. 2d 307 (Fla. 3d D.C.A. 1993) (reversing dismissal of negligence claim against a contractor where defective work resulted in both damage to personal property and personal injury).
14 Southland Constr., Inc. v. The Richeson Corp., 642 So. 2d at 9.
15 See, e.g., United States Fire Ins. Co. v. Meridian of Palm Beach Condominium Ass’n., 700 So. 2d 161 (Fla. 4th D.C.A. 1997); Lassiter Constr. Co., Inc. v. American States Ins. Co., 699 So. 2d 768 (Fla. 4th D.C.A. 1997); Home Owners Warranty Corp. v. Hanover Ins. Co., 683 So. 2d 527 (Fla. 3d D.C.A. 1996).
16 See, e.g., Tucker Constr. Co. v. Michigan Mut. Ins. Co., 423 So. 2d 525 (Fla. 5th D.C.A. 1982) (discussing “premises/operations” coverage versus “products liability/completed operations” coverage).
17 LaMarche v. Shelby Mut. Ins. Co., 390 So. 2d 325, 326 (Fla. 1980) (“Rather than coverage and payment for building flaws or deficiencies, the policy instead covers damage caused by those flaws.”).
18 See, e.g., C.A. Fielland, Inc. v. Fidelity and Cas. Co. of New York, 297 So. 2d 122, 125 (Fla. 2d D.C.A. 1974) (noting that a holding that would allow coverage for deficiencies in the work itself “would have the effect of converting the policy into a performance bond rather than liability insurance”).
19 In Aetna Cas. & Surety Co. v. Monsanto Co., 487 So. 2d 398 (Fla. 1st D.C.A. 1986), the cost of a yarn manufacturer’s removing defective bobbin sleeves from its machinery was held to be a covered loss, although the cost of replacing the sleeves themselves was not. Although a products case, Aetna expresses a rule applicable in the construction setting to the incorporation of building materials in existing structures: “The majority rule, where a product has been incorporated into another product, is that the damage is considered damage to the larger entity, and the damage is deemed to have resulted from an insurable occurrence, as opposed to a business risk.” 487 So. 2d at 400.
20 See, e.g., Calvert Ins. Co. v. Herbert Roofing and Insulation Co., 807 F. Supp. 435 (E.D. Mich. 1992) (holding exterior walls and foundation, and interior ceilings, flooring and fixtures, damaged by water, but not the defective roof itself, to be covered by a negligent roofing contractor’s comprehensive general liability insurance); Hartford Ins. Group v. Marson Constr. Co., 452 A.2d 473 (N.J. App. 1982) (holding that damage caused by defective workmanship of one prime contractor to work performed by a different prime contractor on same project was covered by the first contractor’s comprehensive general liability policy); St. Paul Fire and Marine Ins. Co. v. Sears, Roebuck and Co., 603 F.2d 780 (9th Cir. 1979) (holding that the cost of removing defectively installed urethane roofing and repair of damage to existing roof caused by the removal was covered by contractor’s comprehensive general liability policy).
21 In declining property owners a tort remedy in Casa Clara, the Florida Supreme Court noted the availability of contract protections against loss: “There are protections for homebuyers, however, such as statutory warranties, the general warranty of habitability, and the duty of sellers to disclose defects, as well as the ability of purchasers to inspect houses for defects. Coupled with homebuyers’ power to bargain over price, these protections must be viewed as sufficient when compared with the mischief that could be caused by allowing tort recovery for purely economic losses.” 620 So. 2d at 1247.
22 See, e.g., Moransais v. Heathman, 24 Fla. L. Weekly S308 (Fla. 1999) (noting that the Court’s characterization of “other property” was not unanimous; observing that the Court” may have been unnecessarily over-expansive” in relying on the economic loss rule as opposed to fundamental contract principles in deciding AFM Corp. v. Southern Bell Tel. & Tel. Co.; andrecognizing the “danger in an unprincipled extension” of the rule); Id. at S312 (Wells, J., concurring) (advocating receding from AFM and limiting the rule to cases involving products which damage themselves); Comptech Int’l, Inc. v. Milam Commerce Park, Ltd., 24 Fla. L. Weekly at S510 (Wells, J., dissenting) (same).
H. Hugh McConnell practices appellate law in his own firm in Coral Gables, concentrating in commercial and construction matters. He received his B.A. from Yale University, J.D. from Northeastern University, and masters in regional planning from the University of North Carolina at Chapel Hill. Mr. McConnell is a member of the panel of construction arbitrators of the American Arbitration Association and a certified mediator for the state and federal courts.
This column is submitted on behalf of the Trial Lawyers Section, Michael G. Tanner, chair, and D. Keith Wickenden, editor.