In Quaker Hills, LLC v. Pacific Indemnity Co., 2013 U.S. App. LEXIS 18040 (2d. Cir., August 29, 2013), the insured Quaker Hills LLC (“Quaker Hills”) owned real property on which its principal built a home in or about 2005. From 2005 through 2009, the home was insured via a series of fire insurance policies issued by Pacific Indemnity Co. (“Pacific”). The policy in effect during the 2009 policy term (the “2009 Policy”) included a policy limit of $14,388,000. The 2009 Policy also included an apportionment-of-loss clause which provided in relevant part as follows:
IN THE EVENT OF A COVERED LOSS TO YOUR HOUSE, OTHER PERMANENT STRUCTURE(S) OR CONTENTS, INCLUDING ALL RELATED COVERAGES FOR YOUR HOUSE AND CONTENTS, THE AMOUNT OF THE COVERED LOSS WILL BE APPORTIONED BETWEEN YOU AND US AS FOLLOWS. FIRST, WE WILL APPLY THE BASE OR ANY APPLICABLE SPECIAL DEDUCTIBLE TO THE AMOUNT OF THE COVERED LOSS. SECOND, WE WILL PAY 38% OF THE AMOUNT OF THE COVERED LOSS REMAINING AFTER THE APPLICATION OF THE BASE OR SPECIAL DEDUCTIBLE. . . . THE REMAINING 62% OF A COVERED LOSS TO YOUR HOUSE . . . IS THE AMOUNT APPORTIONED TO YOU.
According to Pacific, the apportionment-of-loss clause was initially added to Quaker Hills’ 2007 Policy at the request of Quaker Hills’ principal and in exchange for a reduced premium. With respect to the 2009 Policy, the apportionment-of-loss clause effectively reduced the policy limits to approximately $5,500,000.
The 2009 Policy also contained an “Extended Replacement Cost” coverage provision pursuant to which, under certain conditions, Pacific would pay all reconstruction costs, “even if this amount is greater than the amount of coverage for your house shown in your Coverage Summary.” However, Pacific’s obligation under that provision was limited, in part, as follows:
If you cannot repair, replace or rebuild your house because your primary mortgagee or its assignees has recalled your mortgage, we will pay the reconstruction cost up to the amount of coverage shown in the Coverage Summary for your house, minus what is due to the mortgagee.
In March 2009, the home was destroyed by fire. After the fire, Quaker Hills submitted a claim under the 2009 Policy, seeking more than $26.5 million in losses and extended replacement costs. Pacific refused to pay extended replacement costs and, on the basis of the apportionment- of-loss clause, also refused to pay more than 38 percent of the stated loss coverage. The home was never rebuilt. Thereafter, in September 2009, Quaker Hills’ bank commenced a foreclosure action. Ultimately, Quaker Hills and the Bank entered into a Standstill and Forbearance Agreement, in which Quaker Hills acknowledged that it was in default and the Bank agreed to delay demanding full payment of the outstanding mortgage. For its part, Pacific agreed to pay directly to the Bank approximately $5,500,000, or 38 percent of $14,388,000.
Quaker Hills brought suit alleging that Pacific breached the insurance contract by refusing to pay the full stated amount of loss coverage in the 2009 Policy and refusing to pay extended replacement costs. Following discovery, each side moved for summary judgment. In support of its motion, Quaker Hills argued that the 2009 Policy’s apportionment-of-loss clause was unenforceable in New York because it did not conform to the minimum requirements imposed by New York’s Standard Fire Insurance Policy. Pacific opposed Quaker Hills’ challenge to the apportionment-of-loss clause, contending, inter alia, that such clauses are analogous to enforceable co-insurance clauses, and that, in any event, Quaker Hills’ principal had specifically insisted on the apportionment-of-loss clause in order to reduce premiums. Pacific also opposed Quaker Hills’ claim for replacement costs on the ground that Quaker Hills had not been able to rebuild the house because its mortgage on the property had been recalled.
The district court granted, in part, Quaker Hills’ motion for summary judgment. Specifically, the district court concluded that the 2009 Policy’s apportionment-of-loss clause was void as a matter of New York law because its application resulted in a policy which offered less favorable terms than the New York Standard Fire Policy. According to the district court, the New York’s Standard Fire Insurance Policy sets the minimum coverage standards for fire insurance policies and requires such policies to provide, at the very least, the lesser of either (1) the actual cash value of the property at the time of loss; (2) the replacement cost; or (3) the value of the property as predetermined in the policy. The district court held that the application of the apportionment- of-loss clause resulted in the 2009 Policy providing substantially less coverage than the minimum standards set by the New York Standard Fire Policy. Consequently, the district court held that Policy must be enforced as if its terms complied with the statute and, therefore, read the apportionment-of-loss clause out of the 2009 Policy. As a result, Quaker Hills was entitled to the full amount of loss coverage stated in the 2009 Policy, i.e. $14,388,000. In reaching this conclusion, the district court specifically rejected Pacific’s attempts to analogize the apportionment-of-loss clause to a co-insurance provision. In doing so, the district court reasoned that co-insurance clauses are only viable in New York where the insured suffered a partial, rather than a total, loss.
With respect to Quaker Hills’ claim for replacement costs the district court concluded that the bank’s commencement of the foreclosure constituted a “recall” of the mortgage within the meaning of the 2009 Policy, which, under the limitations stated in the “Extended Replacement Cost” provision, relieved Pacific of the obligation to pay such costs.
Thereafter, both parties appealed. On appeal, the Second Circuit affirmed the district’s court denial of Quaker Hill’s claim for replacement costs substantially for the reasons stated in the district court’s decision. With respect to the district court’s conclusion that the apportionment-of-loss clause was unenforceable, the Second Circuit agreed that the New York Standard Fire Insurance Policy establishes the minimum level of coverage permissible for an insurance company to issue. However, noting the absence of controlling authority on either the interpretation of apportionment-of-loss clauses and/or the applicability of co-insurance provisions in the context of a total loss, the Second Circuit certified the following questions to the New York Court of Appeals:
(1) In an insurance policy that provides a stated dollar amount of loss coverage in the event of a fire, does a policy clause that, in exchange for a reduction in the premium charged, limits the insurer’s liability to a percentage of any loss violate New York Insurance Law?
(a) If such a clause violates New York Insurance Law, is the clause void, or is it voidable or subject to principles of waiver or estoppel?
(2) If such a clause is in general permissible under New York Insurance Law, is it enforceable where there has been a total loss of the subject property?
(3) If such a clause is in general permissible under New York Insurance Law, is there a limit on the percentage of liability that can be apportioned to the insured?