Wisconsin Lawyer
Vol. 78, No. 10, October 2005

Real Property Transactions: Are Misrepresentations Insurable

by Monte E. Weiss

he Wisconsin Supreme Court recently answered a question that has been lingering since 1999 - are misrepresentations associated with the sale of real property within the scope of coverage provided by occurrence based insurance policies? In Smith v. Katz, the supreme court, while concluding that no insurance coverage was available for the particular loss at issue in Katz, left the window open for the possibility that insurance coverage was available for misrepresentations in occurrence based insurance policies.¹ Recently, in Everson v. Lorenz, the court, in a 5-2 decision, closed that window.²

The Facts

Everson arose out of a classic real estate dispute. The Eversons purchased a tract of land on which they planned to construct a single family home. As part of the transaction, the subdivision developer, Lorenz Land Development, provided the Eversons with a real estate condition report. The report indicated that lots 14 to 22 were in a flood plain as were lots 21 and 32. Lorenz claimed that the duplicate reference to lot 21 was a typographical error and that the report instead should have referred to lot 31, which was in the flood plain.

The Eversons purchased lot 31 and attempted to construct their home. The Eversons alleged that they were unable to construct their home because the lot was in a flood plain. The Eversons sued Lorenz, alleging the causes of action typical to the sale of property: breach of contract, negligent misrepresentation, strict responsibility misrepresentation, and intentional misrepresentation.

Lorenz tendered the defense of the suit to its commercial liability carrier, Pekin Insurance Company. Pekin furnished a defense and sought a declaration of its rights under the insurance policy. The circuit court concluded that no coverage existed.³ On appeal and after oral argument, the District II Court of Appeals certified the following questions to the Wisconsin Supreme Court:

1) Does an alleged strict responsibility misrepresentation or negligent misrepresentation in a real estate transaction constitute an "occurrence" for the purpose of a commercial general liability insurance policy such that the insurer's duty to defend the insured is triggered?

2) What allegations must a complaint contain to plead sufficiently "loss of use" within the meaning of a commercial general liability insurance policy?

3) Under what circumstances does a negligent misrepresentation or a strict responsibility misrepresentation cause the "loss of use" of property such that a "causation nexus" is established?

The supreme court answered the certified questions, holding that: 1) misrepresentations are not occurrences; 2) the Everson complaint did not allege a loss of use as that term is defined in the policy; and 3) the Everson complaint did not allege a causal nexus "within the terms of Pekin's policy."⁴

Misrepresentations are Not Accidents

The supreme court concluded that misrepresentations are not occurrences because misrepresentations involve some degree of volition that is inconsistent with accidents. In essence, misrepresentations are intended to induce reliance and therefore are not "accidental."

For coverage to exist under the Pekin policy, property damage must be caused by an occurrence. If the act that results in "property damage" (as defined by the policy) does not constitute an "occurrence" (as defined by the policy), then coverage will not exist. In other words, the complained of act and resulting alleged damage must fit within the policy's initial grant of coverage and not otherwise be excluded from coverage under the policy.⁵

In its quest for coverage, Lorenz argued that the alleged typographical error in the property condition report was the "accidental" misrepresentation.⁶ Accordingly, a reasonable insured would expect the accidental error contained in the property condition report to be an occurrence. In contrast, Pekin argued that there were, in fact, two different acts, one of which (the typographical error) might be an accident while the other (the representation contained in the real estate condition report) clearly was not. It was the latter act on which the Eversons asserted Lorenz's liability rested. The court agreed with Pekin.

According to the court, the first act might well be an accident. However, it was the second act on which the Eversons sought recovery. That is, the Eversons were not seeking recovery because Lorenz made a mistake on the property condition report. Rather, the Eversons were seeking recovery because Lorenz represented that lot 31 was not in a flood plain when, in fact, it was. It was the tendering of the property condition report that constituted the misrepresentation: "[t]o be liable, Lorenz must have asserted a false statement, and such an assertion requires a degree of volition inconsistent with the term accident."⁷

The distinction made by the supreme court was the same as one made by the U.S. Court of Appeals for the Seventh Circuit:

"A volitional act does not become an accident simply because the insured prompted the act. Injury that is caused directly by negligence must be distinguished from injury that is caused by a deliberate and contemplated act initiated at least in part by the actor's negligence at some earlier point. The former injury may be an accident. ... However, the latter injury, because it is intended and the negligence is attenuated from the volitional act, is not an accident."⁸

Thus, the volitional act of misrepresenting the condition of lot 31 was not accidental and as such, was not covered under the Pekin policy.⁹

Loss of Use

Subject to other provisions of its policy, Pekin agreed to indemnify its insured for the sums that its insured became legally obligated for due to "property damage."¹⁰ Hence, for Lorenz to receive the policy's benefits, the damages that the Eversons sought must be those that fall within the ambit of the policy-defined term "property damage." There was no physical injury to or destruction of tangible property as required under the policy's first definition of property damage. If coverage were to be found, it would have to be under the policy's second definition - the loss of use of tangible property that is not physically injured.

The Eversons alleged that as a result of Lorenz's alleged misrepresentations, they sustained "damages." Lorenz argued that this reference to damages was sufficient because the pleadings are to be liberally construed in favor of coverage.¹¹ The supreme court disagreed. Pekin's insurance policy did not agree to pay for all damages for which the insured may be held liable. Rather, Pekin agreed only to pay on behalf of its insured for "property damage" as that term is defined in the policy.

The Everson complaint did not allege that the damages allegedly suffered were the loss of use of tangible property that was not physically injured. Rather, the Eversons simply alleged that they suffered damages. The generic and undifferentiated allegation of harm was not sufficient to place the insurance company on notice that the damages alleged were potentially covered losses. This point is significant because insurance policies are not written to provide coverage for every type of damage that exists, but rather, only those damages that are covered by the particular policy at issue.

It is also significant to note, however, that had the Everson complaint contained different language, perhaps this hurdle to coverage could have been overcome:¹² "Just as in Smith, however, a differently worded complaint, one that would provide fair notice that the misrepresentation claims caused a `loss of use' might have yielded a different result."¹³ After all, the court evaluated Everson under a duty to defend analysis.¹⁴

Absence of a Causal Nexus

The final certified question concerned the existence of a causal nexus between the alleged misrepresentation and the damage claimed.

To obtain coverage, the "property damage" must be caused by an "occurrence." Lorenz argued that paragraph 7 of the Everson complaint (in which the Eversons alleged that the "construction of the home which they wished to construct on the property [was] impossible in the location in which the Plaintiffs wished to build based on the pre-sale representations of Lorenz") was sufficient to establish existence of the causal link.¹⁵

However, the supreme court noted that because the alleged misrepresentation was not an "occurrence" and the complaint does not allege "property damage" as both terms are defined in the policy, a causation nexus between the alleged misconduct and alleged damages was not sufficiently alleged.¹⁶

Notably, the court commented that the Eversons' claimed damages were not caused by the misrepresentation but rather by the existence of the flood plain. In so doing, the court cited approvingly to the court of appeals' decisions in Qualman and Benjamin,¹⁷ which, along with Katz, were the only property damage claims cases that addressed misrepresentation coverage issues.¹⁸

Qualman concerned structural defects with a home. The Qualman plaintiffs alleged that the presale misrepresentation as to the home's condition (defects of which the sellers were without knowledge) was the cause of the damages that the buyers sustained (the cost to repair the defects and loss of the benefit of the bargain). The court held, however, that coverage was not afforded under the sellers' homeowner's policy because the damages alleged did not constitute "property damage,"¹⁹ since the measure of damages for misrepresentations is either the loss of the benefit of the bargain or out of pocket losses.²⁰

Benjamin involved the purchase of a condominium complex. After the sale, the complex began to settle because it was constructed on a landfill - a fact that the buyers contended the sellers did not disclose. The Benjamin buyers alleged that the misrepresentations caused their damages, which included both physical injury to tangible property and loss of use. The court of appeals disagreed, noting that the structural defects, not the alleged misrepresentations, caused the damages that the buyers complained of.²¹

The fact that the supreme court in Everson and the courts of appeal in Qualman and Benjamin concluded that something other than the misrepresentations caused the damages sustained is not surprising because misrepresentations cannot cause property damage as that term is defined in the typical insurance policy. The loss of use is not caused by a misrepresentation, but rather by the property defect, which was inaccurately, incompletely, or simply not disclosed.

The Exclusions

Because the Everson court concluded that coverage was not available under the initial grant of coverage in the Pekin policy, the court did not need to further parse the policy's provisions. Nevertheless, the court commented that there were exclusions that Pekin relied on, which were supported by "extensive arguments, citing Wisconsin and federal court cases."²²

Perhaps the court was providing a bit of a cautionary warning to people seeking to establish a duty to defend by changing the language in their complaints. Even if one can establish the possibility of coverage under the initial grant, one still must contend with the exclusions. Under Wisconsin law, the existence of an applicable exclusion can determine the duty to defend.²³ This point reaffirms that the determination as to whether coverage exists does not end with the initial grant of coverage but rather continues with an analysis of the claimed loss in relation to the policy exclusions.

The Dissent

The Everson dissent took issue with the most substantive question raised in the case - whether misrepresentations can be occurrences. The main point of the dissent, authored by Justice Bradley, was that one cannot divorce the negligence component from the misrepresentation component and as such, the cause of action must be taken as a whole.

That is, the typographical error that is the claimed negligent act cannot be separated from the whole act of providing the property condition report that contains the error. The negligent misrepresentation necessarily is "an unintentional occurrence leading to undesirable results."²⁴ Once having concluded that a negligent misrepresentation can be an occurrence, the dissenting justices had little trouble finding that the balance of the allegations were sufficient to trigger a duty to defend.

The Legal Requirement for Loss of Use

While perhaps not necessarily critical to its decision, the Everson court took time to explain the legal requirement of "loss of use" within the context of the insurance policy's second "property damage" definition. Under a typical insurance policy, the second of the two property damage definitions provides coverage for the "loss of use of tangible property that is not physically injured."

In Everson, the plaintiffs alleged that they could not use lot 31 the way that they intended. According to the Eversons, the presence of the flood plain kept them from constructing the home that they wanted in the location they wanted. Based on this allegation, Lorenz argued that the Eversons alleged property damage in the form of a loss of use of the property.

The supreme court disagreed. While the Eversons may have lost a useof the property, they did not lose the use of the property. The Eversons simply lost a particular use of the property (a claimed inability to construct a single family home in the location they wanted) as opposed to the loss of use of the entire property (such as might be caused by contamination of land making it uninhabitable for humans). The Eversons' alleged partial loss was not enough - complete and total uselessness is needed to qualify for "loss of use" coverage.²⁵

Lessons from Everson

Everson most likely sounds the death knell for arguments seeking insurance coverage for home or property misrepresentation claims under typical liability policies, including homeowner policies. Since misrepresentations are not accidents, they do not fit within the definition of "occurrence" and thus, no coverage is afforded under the initial grant of coverage. Lawyers for aggrieved buyers would be wise to avoid suing, and lawyers for sellers should avoid tendering such lawsuits to sellers' insurance carriers when the only policies their clients own are "occurrence" based. Such efforts will most likely result in additional costs without achieving a concomitant benefit of a finding of coverage or even a duty to defend. It would seem that such lawsuits would be summarily dismissed on motion practice.

The same probably cannot be said for professional liability policies. Typically, these errors and omissions policies provide coverage for "professional services" and do not predicate coverage on the existence of an occurrence. As such, these policies generally respond in damages for misrepresentation claims.

Further, even if somehow the Everson impact on the initial grant of coverage could be overcome, attempts to establish coverage still will have to overcome the effect of policy exclusions. While the supreme court did not address the exclusions asserted by the carrier, it did comment on their existence as, perhaps, a reminder that establishing coverage under the initial grant is only the first of the two steps required to establish coverage; prevailing over the exclusions is the second step.

Finally, the supreme court explained that legally, loss of use of tangible property requires complete and total uselessness. Some loss of use will not be enough to meet the definition of property damage in most insurance policies.

In many respects, the Everson conclusion is not all that surprising. Insurance policies are not "one-size-fits-all" documents, providing coverage for every type of damage. Policies are written to provide coverage for certain types of events and losses. In Everson, the commercial lines policy at issue was not a professional errors and omissions policy, which in all likelihood would have provided for defense and indemnity obligations. The Pekin policy was simply the wrong insurance vehicle to establish coverage for this type of loss; other insurance products exist to address these types of claims.

Endnotes

¹Smith v. Katz, 226 Wis. 2d 798, 595 N.W.2d 345 (1999).

²Everson v. Lorenz, 2005 WI 51, 280 Wis. 2d 1, 695 N.W.2d 298 (Butler, J., concurred in three of four parts of the opinion).

³While Everson involved the four typical causes of action in real estate disputes - breach of contract and all three of the misrepresentation species - only the negligent and strict responsibility misrepresentations causes of action were the subject of supreme court review. The breach of contract and intentional misrepresentation causes were "excluded under the terms of Pekin's insurance policy." Everson, 2005 WI 51, ¶ 13 n.5, 280 Wis. 2d 1.

⁴Everson, 2005 WI 51, ¶ 33, 280 Wis. 2d 1.

⁵Arnold P. Anderson, Wisconsin Insurance Law

§ 5.15 (State Bar CLE Books 5th ed. 2004).

⁶An accident is "an unexpected, undesirable event" or "an unforeseen incident" "which is characterized by a `lack of intention.'" Everson, 2005 WI 51, ¶ 15, 280 Wis. 2d 1 (citing Doyle v. Engelke, 219 Wis. 2d 277, 289, 580 N.W.2d 245 (1998)).

⁷Id. ¶ 19 (citing Sheets v. Brethren Mut. Ins. Co., 679 A.2d 540, 552-53 (Md. 1996) (Karwacki, J. dissenting)).

⁸Red Ball Leasing Inc., v. Hartford Accident & Indem. Co., 915 F.2d 306, 310 (7th Cir. 1990).

⁹Everson, 2005 WI 51, ¶ 20, 280 Wis. 2d 1.

¹⁰Id. ¶ 12.

¹¹Id. ¶ 25.

¹²This statement presumes that there was some intent to establish coverage by the Eversons. In light of the damages claimed and perhaps, the likelihood of recovery, the Eversons may not have been concerned about insurance coverage.

¹³Everson, 2005 WI 51, ¶ 27, 280 Wis. 2d 1.

¹⁴It is also important to note that the supreme court decided Everson at the duty to defend stage. The case has been subsequently remanded for discovery and trial. Therefore, the allegations of misrepresentation are simply that, allegations that remain to be proven.

¹⁵Everson, 2005 WI 51, ¶ 34, 280 Wis. 2d 1.

¹⁶Id. ¶ 37.

¹⁷Qualman v. Bruckmoser, 163 Wis. 2d 361, 471 N.W.2d 282 (Ct. App. 1991); Benjamin v. Dohm, 189 Wis. 2d 352, 525 N.W.2d 371 (Ct. App. 1994).

¹⁸Although Jares v. Ullrich, 2003 WI App 156, 266 Wis. 2d 322, 667 N.W.2d 843, was issued before the supreme court's review of Everson, the carrier in Jares disclaimed coverage only on two bases: 1) the absence of an allegation of property damage in the complaint, and 2) the absence of an alleged causal nexus between the misrepresentation and the damage claimed. Id. ¶ 6. In contrast, in addition to the two defenses raised in Jares, Pekin also raised the defense that misrepresentations are not occurrences.

¹⁹Qualman, 163 Wis. 2d at 366-67.

²⁰Luebke v. Miller Consulting Eng'rs, 174 Wis. 2d 66, 70-71, 496 N.W.2d 753 (Ct. App. 1993); Gyldenvand v. Schroeder, 90 Wis. 2d 690, 697-98, 280 N.W.2d 235 (1979)

²¹Benjamin, 189 Wis. 2d at 365.

²²Everson, 2005 WI 51, ¶ 40, 280 Wis. 2d 1.

²³Production Stamping Corp. v. Maryland Cas. Co., 199 Wis. 2d 322, 544 N.W.2d 584 (Ct. App. 1996); Bruner v. Heritage Cos., 225 Wis. 2d 728, 593 N.W.2d 814 (Ct. App. 1999).

²⁴Everson, 2005 WI 51, ¶ 55, 280 Wis. 2d 1.

²⁵Id. ¶ 29 (citing Wisconsin Label Corp. v. Northbrook Prop. & Cas. Ins. Co., 2000 WI 26, ¶ 50, 233 Wis. 2d 314, 607 N.W.2d 276; Sola Basic Indus. Inc. v. U.S. Fid. & Guar. Co., 90 Wis. 2d 641, 654, 280 N.W.2d 211 (1979)).

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