Protecting Your Wallet from Mold

June 1, 2003
BY SUSAN LINDEN MCGREEVY Special to CONTRACTOR (Editors note: This is the second in a series of articles on mold written by CONTRACTOR legal expert Susan Linden McGreevy. The first part can be viewed by clicking here.) How can your mold risk be reduced or shared? Lets look at the variety of ways. The first is through design and construction modifications. The construction industry has generally followed



(Editor’s note: This is the second in a series of articles on mold written by CONTRACTOR legal expert Susan Linden McGreevy. The first part can be viewed by clicking here.)

How can your mold risk be reduced or shared? Let’s look at the variety of ways. The first is through design and construction modifications.

The construction industry has generally followed the First Rule of Holes (to get out of a hole, first stop digging) and abandoned construction techniques that were found to produce faulty results.

This approach is not easily implemented with mold because, unlike asbestos, mold could result from any number of benign, non-toxic sources. Mold, as a problem, will frequently not even exist at the time of construction and may not be seen for years thereafter. Because it exists naturally, it cannot be eliminated entirely outside of clean rooms.

Nevertheless, the industry has already started to identify means of minimizing mold proliferation.

The Associated General Contractors has appointed a task force to develop a protocol of “best practices.” This protocol will describe steps to be taken, with the intent of reassuring insurance companies. Some ideas include best practices for inspecting installation of windows, grading, drainage, review of HVAC designs or recommendations for increased airflow in occupied spaces.

Once such best practices are developed and the insurers have indicated their willingness to underwrite contractors who adhere to them, the AGC will take its campaign to its members.

HVAC practitioners writing in Construction Specifier magazine recommend considering dew points rather than relative humidity levels for control of humidity and running HVAC systems during unoccupied periods for humidity control. It has been common practice to turn the HVAC systems off in commercial buildings at night and on weekends. That practice may not be prudent in warm, humid climates.

Other recommendations include use of HEPA filters, use of permeable wall finishes, protection of interior construction materials and frequent removal of debris from the construction site. Such measures are even more important during renovation work at sites occupied by susceptible persons, such as at hospitals, nursing homes and schools.

The authors also recommend avoiding negative pressure that might suck humid unconditioned air into a building.

The American Society of Heating, Refrigeration and Air Conditioning Engineers is funding research to develop a database of microbial volatile organic compounds (mVOCs) to try to identify more specifically some typical culprits in construction contexts.

Many of these recommendations will increase operating costs and lower energy efficiency, which may run afoul of other regulations!

All this will constitute a tightening of standards. All this will cost money. Some of the construction standards and practices will include:

  • Requiring certain IAQ standards in specifications, forcing contractors and subcontractors to observe procedures that previously weren’t required.
  • Requiring employment of special IAQ consultants, much like acoustical or other specialty consultants, adding to design time and cost.
  • Requiring IAQ inspection throughout construction so that certification can be given at completion.

A higher standard of care may be owed by innkeepers and operators of facilities where persons considered more vulnerable can be expected. For this reason, a stricter regimen of design/inspection/safety precautions is recommended.

Contract terms

Another way for contractors to protect themselves from mold claims is through contract terms and conditions.

Many construction agreements have “standard” terms that parties have agreed to for years, without attaching much significance to them. Now they will have greater risk attached, so parties should rethink how they allocate these risks among them.

This is more complicated than it first appears because many terms in construction contracts are beyond the ones parties think are the “important” ones. Terms may be implied by the law or tradition, express, which means actually said — but this can include written as well as oral agreements, and frequently construction contracts have terms that have been incorporated by reference, which includes “pass-through” terms as well as many third-party organizational standards (e.g., ASTM).

All these can be sources of agreements to be responsible (or not responsible) for damage created by mold.

Most commercial transactions have certain implied contract terms that will be considered part of the deal unless the parties specifically show that they have agreed otherwise.

Implied warranty of adequacy of design documents. Under the Spearin Doctrine, owners, particularly public owners, warrant to the contractor that the documents, if followed correctly, will produce the desired results within the reasonable contract price and schedule. (U. S. v. Spearin, 248 U.S. 132 [1918]).

Implied duty of full disclosure of information material to contractor’s performance. Under this principle, an owner can be held to have breached a duty to the contractor if information about sources of moisture are not communicated and damage results. It is logical that the duty would be extended to the advisers to the owner, such as designers and investigators to whom the owner looks for information on which decisions about construction are made. City of Indianapolis v. Twin Lakes Enterprises Inc. 568 N.E. 2d 1073 (Ind. Ct. App. 1997).

Implied warranty of merchantability (UCC § 2-314) and implied warranty of fitness for a particular purpose (UCC § 2-315) . Whether these warranties will apply will depend on whether a court would view the transactions as predominantly a sale of goods (they apply) or of services (they don’t apply), which varies from situation to situation and state to state.

The parties can always agree by contract to change these warranties in any case. Manufacturers’ “limited” warranties are, for the most part, designed to overcome and negate these UCC warranties.

Express contract terms. These are the standard “boilerplate” terms that frequently are given no thought when development, sales or construction contracts are signed.

“Changed conditions” clauses protect contractors from unknown conditions that affect the cost, time or safety of performing work. (AIA A201 General Conditions paragraph 4.3.4, AGC Document No. 200, paragraph 3.16.2 ) These Changed Conditions clauses, however, would probably only apply to remodel or added work.

Warranty coverage

Contractual warranties are contained in all form documents (see A201 General Conditions, paragraph 3.5). By them, the contractor represents, or “warrants,” that all material will be new, all workmanship of the highest quality and all work done in strict accordance with the design documents (or other similar words).

These warranties generally do not expire — as a limited warranty might be just for a set term (a 40,000-mile tire, a one-year limited warranty). At any time within the statute of limitations (unless shortened by a statute of repose), the party giving the warranty can be sued if it can be shown that the work was defective when performed. The danger of such warranties is that they will often survive the insurance to cover them.

“Hazardous materials” clauses protect contractors from having to work around toxic substances “encountered” at the site. (AIA A201, paragraph 10.3.1-3, AGC Document No. 200, paragraph 3.13.1-6).

Terms incorporated by reference. Contract clauses requiring contractors to comply with laws, codes and similar governing bodies. (AIA A201, paragraph 3.7.1). Without clear definition of what are “acceptable” levels of mold, this is more difficult to utilize. Departure from code that can be traced as a cause or contributor to development of mold or mildew could be a source of liability under these paragraphs.

“Pass-through” clauses. These clauses require one party to fulfill all the obligations of the other to a third party (the owner or general contractor, typically), and bind it to disputes-resolution procedures, limitations on recovery, etc. They are of limited value unless backed up by insurance that provides coverage, however.

Standards incorporated into specifications. It is not at all unusual for designers to throw a lot of “alphabet soup” lists of organizations publishing standards and require that the work comply with them.

Through indemnification agreements. Typically, construction contracts, design contracts, development agreements and leases will all contain some form of indemnification requirement. These provisions would protect either party from liability if it later receives claims for property damage or personal injury from third parties. (AIA A201, paragraph 3.18-1, AGC Document No. 200, paragraph 10.1.1). Indemnification provisions are generally only as good as the insurance that backs them up. Note that many states now limit such clauses to only liability for the indemnitor’s own fault.

Many manufacturers will not furnish such indemnification. In the future, part of contract negotiation and risk management will be specific discussion of indemnification against mold-related damage. Expect to see manufacturers refusing to sell their products if such indemnities are demanded from them. Expect to see manufacturers and distributors demanding indemnification from their customers if they are sued because the product as installed caused a health hazard.

Expect to see insurers and sureties refusing to assume risk unless written indemnification agreements are received from subcontractors and other parties who might have some share of the risk as well.

Expect to see purchasers of property and their lenders demanding such indemnities from prior owners, along with estoppel certificates from tenants, before committing to significant transactions.

Through surety bonds. Historically, the use of surety bonds has been primarily associated with public work. The performance bond backs up the contractor’s obligation to correctly perform the work, and the surety can be sued anytime within the statute of limitations if the plaintiff can trace the problem back to defective construction.

Lenders concerned about assuring a source of funds to fix a construction problem could make bonds a requirement of their commitment. Expect to see more demands by lenders for financial assurance to back up contractual commitments. Some contractors involved in areas prone to mold claims (such as HVAC) may find that they cannot obtain bonds.

Buying insurance

Because public projects generally contain insurance requirements that cannot be negotiated or varied, contractors submitting bids thereby commit to provide the insurance required. If the low bidder cannot obtain insurance, it could be disqualified, and its bid bond called upon.

Expect to see sureties more closely scrutinize construction techniques, and require evidence of insurance, before committing to issue either performance or bid bonds.

The insurance industry has a “deer in the headlights” look to it these days. Even though it is, to many, the logical first line of defense, it has become the core of the problem, because without insurance, there may be no deal.

Specific policy language may be viewed differently if the claim is a first- party claim for an insured’s own claim of damage on a property insurance policy, and a third-party claim on a commercial general liability policy.

Commercial Property Policies are the customers’ own property damage policies. These days, there are strict limits as to how much mold-caused damage will be covered.

If an insurer is using Insurance Services Office Inc. forms, the generic form says that the insurer will pay for “direct physical loss of or damage to Covered Property ... caused by or resulting from any Covered Cause of Loss.” Since mold may be found everywhere, is it “direct physical loss or damage?”

Many policies contain an ISO limitation on coverage for “Pollutant Clean Up and Removal.” This coverage grant is generally limited to “pollutants from land or water,” which may not apply to mold. Many policies contain exclusions for mold-related claims.

But even ISO admits that this exclusion doesn’t deal with the proximate cause issue of what caused the mold.

Commercial General Liability policies are the coverage that most business policyholders would expect to provide coverage for third-party claims. Most CGL policies have some form of “absolute” pollution exclusion, and with the explosion of lawsuits, the immediate insurance reaction is to deny coverage.

Courts have found coverage despite the “absolute” exclusion based on all these theories. This, in turn, leads to the lawsuits by policyholders over “bad faith” denial of claims. The trend appears to be the use of “clarifying endorsements” by commercial general liability carriers as a means of excluding mold coverage.

Specialty coverages

The “specialty” environmental insurance market is more and more frequently being approached to fill the gap being left by the conventional market. The scope of coverage differs dramatically depending upon the insurer. Most environmental insurance is written on non-admitted, excess and surplus (“E&S”) lines, which means that the insurers do not have to go through the process of filing forms and rates with state insurance commissions. As a result, the rule of caveat emptor applies, and all customers must work closely with an experienced broker to assure that they are getting valid coverage.

These policies are generally “claims made” and cannot be expected to provide coverage if not continually maintained. In many cases, the effects of mold won’t appear for several years after construction is completed and the insurance is no longer in place.

Some environmental markets will consider specific mold and IAQ coverage. Typically, the underwriters will require the applicant to complete an IAQ questionnaire. If the proposed “insured property” has had mold-related problems in the past, or has experienced significant water damage, the applicant will have an uphill battle to persuade the insurer to provide coverage. Hiring a consultant to inspect the property and issue a report giving it a “clean bill of health” might win over the underwriter.

For example, one of the microbial matter endorsements that provide mold coverage with a sub-limit also adds an additional exclusion to the policy for “Failure to Maintain and Construction Defects.” For an insured in the construction business, a large portion of the mold claims will be alleged to arise from construction defects - it is to protect against precisely such claims that the contractor is buying the coverage. This language in effect negates the protection of the coverage.

The next asbestos?

There is no particular legal or business reason that mold claims should have morphed into The Next Asbestos. Yet, until the litigation wave runs its course or another, more lucrative source for widespread panic and litigation appears on the horizon, all parts of the construction and development industry will have to find ways to adapt and work around the problem.

One hundred percent risk-shifting is probably not going to work, particularly because the parties to whom the risk would be shifted will not be likely to obtain sufficient insurance to cover the potential obligations. A variety of different risk-sharing techniques could, however, allow those with a substantial financial risk to reduce their exposure to what may be more acceptable levels.

Susan McGreevy is CONTRACTOR’s monthly columnist on construction law. She is a partner at Husch & Eppenberger, Kansas City, Mo., tel. 816/421-4800, e-mail to [email protected].

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