Waiving the Right to Sue
 
June 25, 2002
 

Contractors and owners should beware of - or be prepared to take advantage of - powerful American Institute of Architects (AIA) contract language waiving the right to sue for certain construction claims.

The AIA A201 General Conditions of Contract have long contained a provision by which the owner and contractor waive the right to sue one another and virtually all other parties to the construction project for many problems that could occur on the project, as long as the harm that occurred is covered by insurance. Paragraph 11.4.7 of the 1997 edition and paragraph 11.3.7 of the 1987 edition of the A201 provides as follows:

The Owner and Contractor waive all rights against (1) each other and any of their subcontractors, sub-subcontractors, agents and employees of each other, and (2) the Architect, Architect's consultants . for damages caused by fire or other causes of loss to the extent covered by property insurance ... .

The purpose of the clause is, in part, to ensure that construction work proceeds on schedule, without interruption by lawsuits or claims negotiations. The parties are to accept the insurance payment and move on to completion. The AIA contracts require the insurance to be maintained in place "until final payment" or "until no person or entity other than the Owner has an insurable interest in the property." [See, e.g., § 11.4.1, A201-1997 edition] Most argue that the waiver of the right to sue remains in place for the same time period.

This "fine-print" term is almost never negotiated or even considered in contract document formation. Why not? In short, if a problem occurs during construction and it is covered by insurance, the parties to the AIA agreement have little or no incentive to pursue claims against the company that caused the loss.

In certain cases this often-overlooked contract provision can be a powerful tool for a project participant who has been accused of causing a loss. Occasionally, a casualty loss will occur shortly after completion of the project, at a time when the construction contract has been, for practical purposes, fully completed. In such a case, the insurance company will routinely pursue the negligent party - contractor, architect or engineer - to recover the paid-out insurance benefits. The insurance companies argue that the AIA waiver of claims provision shouldn't apply in such a case, since the purpose of the waiver is to make sure that if something went wrong during construction, the project wouldn't grind to a halt in a flurry of court proceedings over who created the problem. They aver that the waiver provision would not apply to claims arising after the project is finished and the asset is producing income. However, courts have not always agreed with that position.

In a number of reported cases, parties who are responsible for covered casualty losses occurring after completion of construction have successfully argued that the waiver of claims provision applies to them as well. This would appear to be contrary to the purpose of Section 11.4.7, since the building has been turned over to the owner, who likely has secured separate property insurance, and there is no need to preserve comity among the parties to the construction contract. Owners often argue that application of the waiver permits the party responsible for the loss - whether the contractor, the architect or the engineer - to reap a windfall.

A leading case is Blue Cross of Southwestern Virginia v. McDevitt & Street Co., 234 Va. 191, 360 S.E. 2d 825 (1987). The contract at issue in Blue Cross included the 1976 edition of the AIA General Conditions, which did not require that insurance be maintained until any specific point in the project. In that case a water pipe froze and burst due to alleged contractor negligence, after the building had been occupied by the owner and a substantial completion certificate had been issued. However, the contractor was still involved in some minor completion work, and the loss occurred three months before the date of final payment from the owner to the contractor.

Insurance covered part of the loss, and the owner's insurer filed an action against the contractor who was responsible for the damage. The contractor made the argument that the owner had waived claims, including subrogation rights, for such losses under the AIA contract. The insurer, incredulous at this novel argument, asserted that:

• the waiver provision applied only during construction
• the waiver provision had to lapse at substantial completion and occupancy, and
• the insurance covering the loss was not contractor's all-risk insurance, but rather the owner's permanent property insurance, which under no circumstances could be held to insure against contractor negligence

The Virginia Court sided with the contractor and against the insurance company, stating that, despite substantial completion and occupancy, the contractor had an "insurable interest" in the building until "final payment" had been made, which did not occur until after the loss. See also Automobile Insurance Co. of Hartford v. United H.R.B. General Contractors Inc., 876 S.W. 2d 791 (Mo. App. 1994) (owner's and insurer's claims against contractor had been waived, and AIA waiver applied for building destroyed by fire, even after final payment had been made to the contractor); Butler v. Mitchell-Hugeback, Inc., 895 S.W. 2d 15 (Mo. 1995) (waiver applied despite final payment and substantial completion because other obligations remained between the parties under the contract).

Beginning with the 1987 edition, the AIA agreements have amended the insurance provisions to clarify the rights and responsibilities of the parties, and to make it clear that the waiver is in effect until final payment. Contractors, owners, and architects need to be aware, however, that some courts have interpreted the waiver provision to be in effect, in existing contracts, even after final payment. If a casualty loss occurs after construction and substantial completion, and even after occupancy by the owner, remember that a court might conclude that the insurance waiver provision of the AIA contracts will apply. The party allegedly responsible for the loss would do well to remember this extra arrow in its quiver, when confronted by the process server.

For more information, contact Paul S. Marks or Alex R. Baghdassarian by e-mail by clicking on their names or call 888-688-8500.