The Journal of The DuPage County Bar Association

Back Issues > Vol. 17 (2004-05)

Battling Scylla and Charybdis1 in the Flooded Basement: The insurer as both vendor manager and subrogee
By Edward N. Tiesenga

General Rule:

The Insurer can only assert against the contractor whatever the insured could claim.2 

3 Main Points:

1.Adjusters seek to minimize covered loss expenses by limiting the scope of the contractor’s work.

2.If the contractor agrees to an insufficient scope, perhaps under pressure to stay in a preferred vendor program, the owner may claim additional loss on the policy.

3.This technically empowers the insurer to subrogate back against the contractor, to blame the contractor for agreeing to the initial restricted scope under pressure from the adjuster.

Today’s insurance reconstruction market is characterized by increasing use of preferred vendor programs, whereby the carrier reduces the cost of claims by pre-qualifying certain contractors (the "vendors") to respond to a sudden loss that may be caused by a fire, a flood, or frozen pipes causing water damage. For these kinds of emergencies, carriers need a network of "on call" companies ready to deliver inter-disciplinary services to immediately "mitigate" damage and then to perform any necessary—or at least approved—reconstruction of the damaged area.

To quality as a preferred vendor, a contractor must agree to use certain packages of uniform documents to assess the loss, perform the work at pre-agreed rates, bill the work with certain procedures and terms, and to then warrant the quality of the work according to certain standards. Contractors are drawn to participate in these programs by the prospect of recurring work, and by the incentive of getting paid faster than a non-preferred vendor. Insurance companies design these programs to eliminate most routine assessment and documentation formerly performed by legions of adjusters, by engineering the documentation required from the contractor on each loss, to replicate what the adjuster formerly documented. This article focuses on one specific legal tension, or pressure point facing the contractor participating in these programs.

If we were using a Star Trek analogy, this would be the final frontier of the disaster restoration relationship between the insurance industry, contractors, and owners—typically homeowners facing fungal contamination, or mold. But this is a classical legal piece, so we’re going with Scylla the owner and Charybdis the insurer. After an insurance company pays for a property owner’s loss, the insurance company may have a cause of action against the party responsible for that loss as a subrogee3 of the property owner. Sometimes a loss cascades into a far more serious disaster if the initial problem is not properly mitigated, or if the damage is improperly repaired.

However, what if the insurance company itself was in some manner directing or limiting the scope of the allegedly incomplete or improper work that is now the basis for a subrogation lawsuit? When the insurer as a subrogee of the owner then launches a suit against the preferred vendor contractor, the insurer in a sense becomes both Scylla and Charybdis, and the contractor has an epic battle on its hands. The insurance company now decides to turn on its own favored vendor. In each such case, the contractor must decide what to do: just lay down and die, or keep going and fight back?4 Spirited contractors will instinctively fight, especially when they only learn of a problem with their work after being served with a Complaint.

Each subrogation suit must be analyzed on its own facts. Did the insurance company—through its adjuster—browbeat the contractor to limit the amount of water mitigation work it would pay for? Has mold developed in an area the contractor was never responsible for? Did the insurance company string out the owner by delaying approval of the claim, thus failing to mitigate the extent of the subsequent loss to the owner? Does the law firm bringing the subrogation action know anything about the underlying loss event? When carriers blithely launch subrogation suits at preferred vendors, at least sometimes without first checking their own facts, the contractor should immediately request, and then compel, disclosure of all insurance company records5, including at the broadest level (but not limited to):

Production List

• Describe in detail (by identifying the participant and stating each action, communication, or other conduct, included the dates, times, and witness involved) the procedure you followed in deciding to cover the loss under the above-referenced policy.

• Describe in detail (including all communications and complete contact information for all participants) all of your efforts to mitigate damages.

• Produce all documents and computer files (including all emails and computer data, whether on servers, hard drives, or hand held devices) relating to [the insured owner], and his property.

• Produce all documents in your possession upon which the [$__________] subrogation demand is based, including estimates and paid receipts.

These records may reveal instances or patterns of conduct by the adjuster, or whole networks and email hierarchies of adjusters,6 that can implicate either the owner or an adjuster as the proximate, efficient, or "but for" cause of the damage now being asserted against the contractor. Sometimes, too, it takes a document request like this to get the attention of the subrogee’s counsel, leading to returned phone calls, or even productive dialogue about the facts of the underlying claim.

How strong is the argument that the preferred vendor sponsor is in fact directing the work they now are suing about? Strictly speaking, the preferred vendor agreements avoid explicitly saying that the insurance company is directing the work.7 The property owner contracts directly with the contractor, and directs the work. However, in reality, a property owner will rarely approve water mitigation work beyond the amount that insurance will pay for. 8 This means that the insurance company effectively limits the scope of the contractor’s work.9 Once again, the contractor finds itself in a very difficult position, as the amount of work the insurance company is willing to pay for may be less than the amount of work that should be done.10 A variant extreme example11 is the owner who refuses to give the contractor access to certain areas of a structure. Sometimes this is a hotel situation, where the owner can’t or won’t disturb a guest in a room that may be water-damaged. Or it could be a homeowner announcing that certain rooms in the house are off-limits.12 When the restricted area later turns up wet or mold-infested, a paradigm shift occurs13, and suddenly the only interpretation of history that makes sense to the owner and then to the carrier—after the owner forces a higher claim adjustment onto the carrier—is one in which the contactor is solely to blame.

There is not much a contractor can do to avoid this unfortunate situation, except to accommodate his attorney’s solution of breeding stronger "boilerplate" forms full of helpful language that might cut off a repetition of the same claim in the future. With a good contract in place with the owner, the contactor has the ability to use waivers, time limits to assert claims, damage limitations, "no reliance" and integration clauses and the like to move for dismissal of the often ill-drafted subrogation suit.14 Waivers of subrogation rights are commonly found in commercial leases, and are also a good fit for inclusion in the contract between the property owner and the restoration contractor.15

Another layer, or modality, of dispute resolution applicable to preferred vendor relationships may be defined by the agreement between the contractor and the carrier. These typically set out an arbitration process to be used either internally within the carrier’s organization, or sometimes by using a designated private arbitration service. In actual operation, however, carriers feel free to disregard these arbitration mechanisms and not infrequently will simply "declare" that a given dispute is "no longer covered by the program" as a justification to bring a subrogation complaint against the preferred vendor in the court system.16 Contractors working with preferred vendor agreements should be aware of possible conflicts between the terms of the contractor’s form contract with the property owner, and the terms of the preferred vendor agreement with the carrier. Any contradiction between the two can be used against the contractor in disputes over performance or payment.

And so the contractor—the only person really producing anything tangible to actually rebuild or clean up after a disaster—labors on, diligently documenting the limits placed on its scope of work by the property owner and trying to complete his commercial journey profitably to keep body and soul together in spite of whatever the sometimes inscrutable insurance companies do to him when they reach down from their headquarters to intervene in human affairs. After all, in one sense these same companies, with their various preferred vendor programs, have bestowed much of this work on the contractor in the first place. Understanding how these programs work, and how they can work even better, is thus in the interest of the insured, the carrier and the contractor. 17

1 See, Homer, The Odyssey (800 B.C.), in which two mythological entities, Scylla and Charybdis, block a waterway through which Odysseus must sail.

2 Therefore, subrogees such as insurance companies are vulnerable to all defenses that could have been raised by the contractor against an insured. See, Intergovernmental Risk Management v. O’Donnell, 295 Ill.App.3d 784, 800, 692 N.E. 2d 739, 229 Ill.Dec. 750 (1st Dist. 1998). This makes plain good sense, since "The object of subrogation is the prevention of injustice. It is designed to promote and to accomplish justice, …and rests upon the principle that substantial justice should be obtained regardless of form." People ex rel. Nelson v. Phillip State Bank & Trust Co., 307 Ill.App. 464, 30 N.E.2d 771, 773 (1st Dist. 1940).

3 Black’s Law Dictionary (5th Edition) defines a "Subrogee" as "A person who is subrogated; one who succeeds to the rights of another by subrogaton." Black’s defines "Subrogation" as: "The substitution of one person in the place of another with reference to a lawful claim, demand or right, so that he who is substituted succeeds to the rights of the other in relation to the debt or claim, and its rights, remedies, or securities."

4 While the contractor decides what to do, the contractor should also give notice of the subrogation claim to the contractor’s CGL or specialized mold liability carrier, since defending against the preferred vendor sponsor is no less expensive than any other lawsuit. The subrogee carrier may be hoping for a quick kill in the form of a rollover, or opportunistic settlement offered by the contractor’s carrier. The contractor may have other plans for the Scylla and Charybdis monsters who are tearing apart his or her company—particularly if the contractor’s carrier has defended under a reservation of rights (entitling the insured to exercise more control over the defense strategy).

5 Including a subpoena duces tecum to any independent adjuster if litigation has already started. This cuts off a carrier’s attempt to obfuscate by claiming they outsourced the claim investigation to an independent agency.

6 A familiar pattern found in the matrix of adjuster emails and phone logs is the lower level adjuster who needs to please a superior adjuster by keeping the claim within an arbitrary claim limit, who then instructs the contractor to cut corners or otherwise act in a way that fails to meet the carrier’s own standards applicable to qualified contractor work (especially relating to specialized subcontractors who may be needed to address unique features of the loss site). After the contractor obeys, a higher level supervisory adjuster uses the contractor’s obedient non-compliance with program standards as a reason to withhold payment to the contractor, or to sue the contractor, if the sub-standard approach to the performance of the work in fact has produced a disgruntled, enraged, or litigious insured property owner. The best way to litigate out of this labyrinth is to follow the map made by these adjuster emails, which can leave an iridescent trail suggesting bad faith or perhaps worse. The more such information you can find, the more authority you will bring to resolving a dispute fairly and rapidly.

7 Although they do dictate price lists for labor, equipment, and procedures using labor and equipment.

8 Most contractors know the feeling of learning after some work has been done, that it has exceeded the payable scope of an adjuster’s approval. This usually results in free work for the owner, at the contractor’s sole expense.

9 Parallels with health care HMOs are tempting, but not exactly analogous, as this author is unaware of any carriers paying contractors more money for not performing certain repair procedures. Compare, Neade v. Portes, 193 Ill. 2d 433; 739 N.E.2d 496; 2000 Ill. LEXIS 1691; 250 Ill. Dec. 733 (2000); See also, B. Furrow, Managed Care Organizations and Patient Injury: Rethinking Liability, 31 Ga. L. Rev. 419, 484 (1997).

10 In the hermetic world occupied by industrial hygienists, plaintiff attorneys specializing in mold damage litigation, and sophisticated owners of major real estate who remember the asbestos experience, the amount of work that "should" be done can at times seem to approach infinity.

11 Extreme situations make for more instructive or at least more memorable examples. They tend to be unforgettable for the owners and contractors who must live through them.

12 Perhaps to conceal a home laboratory of some sort; maybe to hide the pornography collection; or sometimes simply an irrational refusal to allow the full extent of recommended demolition procedures.

13 See, Thomas S. Kuhn, The Structure of Scientific Revolutions, Univ. of Chicago Press (2d. ed., 1970). Kuhn gives a history of how old ways of looking at the world suddenly collapse under the weight of accumulated evidence to the contrary. When this happens, it becomes clear that the old paradigm, or structure of understanding, is universally disregarded. The tripartite structure of insurers, owners, and preferred vendors can easily give rise to competing views of the world, or structures of understanding who-pays-for-what, and who is responsible when a problem has been left unresolved. Since law in practice is somewhat less exact than the science Kuhn works with, it is possible to advocate self-interested paradigms that have no relation to reality or commercial reasonableness. Law then resembles a paradigm-clubbing contest, essentially limited by the transaction costs of persuading courts to enforce competing alternative realities.

14 When the carriers fail at "subrogation" they sometimes seek to bounce back with what they blandly style a "Third Party" cause of action. Contradictions and problems inherent in this type of pleading and the relationship of such efforts to the Illinois Contribution Act are worth exploring, but beyond the scope of this article.

15 These anti-subrogation clauses are enforceable provided they are not "unreasonable or oppressive." Bastian v. Wausau Homes, Inc., 635 F.Supp. 201 (N.D. Ill. 1986).

16 Thus implementing the ancient adage: "Those the carriers wish to destroy, they first make mad."

Edward N. Tiesenga is a partner in the law firm of Tiesenga & Tiesenga P.C. located at 1200 Harger Road, Ste. 830 Oak Brook, IL 60523

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