Water, Water...Everywhere

The National Weather Service described the amount of rain that fell in certain areas in Colorado as “biblical” with the recorded amounts occurring less than once every 1,000 years. There were widespread torrential rains of 4-6 inches in less than 12 hours in some areas, and in Boulder, Colo., typical annual rainfall totals of 20 inches were matched in just six days. The resulting floods in 17 counties caused the destruction of approximately 1,500 homes, with an additional 17,500 homes damaged and more than 10,000 people displaced from their residences. The economic damages are expected to exceed $2 billion dollars.

In addition to being an insurance defense attorney for the last 15 years, I also was a claims adjuster for a large national insurance company for seven years. In my more than two decades of handling and defending property claims in Colorado, I have never seen Colorado claims professionals being called upon to address flooding claims of this magnitude.

While it is generally understood that typical homeowners’ and commercial property insurance policies exclude coverage for flood perils, claims professionals adjusting claims in Colorado and elsewhere should be aware of its unique statutes, regulations, and case law to not only comply with governing law but also protect against the inevitable bad-faith traps. The recent wildfires and now the flooding disaster have inundated the state with potential troublemakers. As one Texas lawyer commented to me at a recent court hearing involving a first-party property claim, “Colorado is ripe for the picking.”

Legal Precedents

At the outset, claims adjusters need to remember that all-risk property policies are written to cover all physical damage to the insured structures unless specifically excluded, as noted in the ruling in Steamboat Dev. Corp. v. Bacjac Indus. Inc. (Colo. App. 1985). The insured must prove that a loss falls within the initial grant of coverage, as established in Colo. Intergovernmental Risk Sharing Agency v. Northfield Ins. Co., (Colo. App. 2008). Once it is established that coverage exists under the initial grant of coverage, the burden is on the insurer to prove coverage is removed by an exclusion, as shown in Leprino Foods Co. v. Factory Mut. Ins. Co., (10th Cir. 2006).

More than 20 years ago, the Colorado Supreme Court in Kane v. Royal Insurance Company of America (Colo. 1989) held that the word “flood” does not distinguish between overflows of man-made structures and overflows of natural waterways. An “inundation of water” resulting from a failed dam is still a flood. The insurance policy at issue excluded losses caused by flood, surface water, waves, overflow of streams, or other bodies of water.

The insureds suffered losses as a result of a dam failure, and the insurer denied coverage under the flood exclusion. In affirming that there was no coverage, the Colorado Supreme Court noted that the policy language excluded coverage “caused by, resulting from, contributed to, or aggravated by a flood,” regardless of the existence of any other contributing factor.

The court noted that the National Flood Insurance Program and the Federal Emergency Management Agency regulations define “flood” as including both naturally and artificially caused events, resulting from the inundation from rising waters or from the overflow of streams, rivers, or other bodies of water. One would think, therefore, that in Colorado, the application of the flood exclusion is straightforward and easy to apply.

However, just a year after the Kane decision, the Colorado Supreme Court issued an opinion in Heller v. Fire Insurance Exchange (Colo. 1990). In this case, water from spring runoffs of melted snow caused extensive damage to the Hellers’ home in Vail, Colo. The regular path of the water had been diverted onto the Hellers’ property by parallel trenches constructed behind their property by unknown persons. Prior to the construction of the trenches, the property had never been affected before by spring runoffs during their 10-year occupancy.

The Hellers’ policy excluded coverage for any loss resulting from water damage, which was defined as “flood, surface water, waves, tidal water, overflow of a body of water, or spray from any of these, whether driven by wind or not.” In affirming there was coverage for this loss, the Colorado Supreme Court did not analyze the term “flood” but instead focused on whether the runoff was surface water. The court held that the runoff lost its character as surface water when it was diverted by the trenches.

Almost 10 years after the Heller decision, the Colorado Court of Appeals held that damage to a building that was settling caused by a water-main break was not excluded by a flood exclusion due to the sudden, forceful release of water. In Novell v. Am. Guar. & Liab. Ins. Co. (Colo. App. 1999), cert. denied (2001), the court found the “settling” exclusion ambiguous where it only applied to losses “caused by or resulting from” settling, as it was unclear whether the efficient cause of settling could only be water from a naturally occurring condition or water from broken pipes.

Coverage Concerns

The moral of these cases is that every claim needs to be adjusted and considered based on the individual facts. It is not enough to simply say that all Colorado flood claims are not covered. Instead, claims adjusters need to consider what caused the damage to each policyholder’s property, as there may be some damage that is covered.

Did the water lose its character as surface water before damaging the insured’s property? Was there a sewer back up for which the insured purchased additional coverage? Did the roof leak from the heavy rains, causing interior damage? Furthermore, just as excluded surface water may become covered if it loses its character as surface water, a covered peril such as rain could lose its character and become an excluded loss. For example, in Haines v. United Sec. Ins. Co. (Colo. App. 1979), a sewer backup caused by heavy rain that discharged raw sewage into a homeowner’s basement was not covered based on a plumbing exclusion, even though the policy covered the weather-related damage.

In handling these Colorado claims, in addition to the Unfair Claims Practice Act found at C.R.S. § 10-3-1104, claims adjusters need to be aware of unique statutes, regulations, and bulletins applicable to first-party property claims.

C.R.S. §§ 10-3-1115 and 10-3-1116 govern the unreasonable denial or delay in paying benefits owed to a first-party claimant. The statutory remedies for the unreasonable delay or denial of payment are two times the covered benefit, attorney fees, and costs. Importantly, the Colorado Court of Appeals recently held in Kyle W. Larson Enters. Inc. v. Allstate Ins. Co. (Colo. App. 2012) that under C.R.S. § 10-3-1115, the term “first-party claimant” includes repair vendors—such as a roofing contractor—when they assert an entitlement to benefits owed on behalf of an insured under an insurance policy.

Colorado Division of Insurance Regulation 5-1-14 requires timely decisions and payment of benefits. Specifically, all insurers “shall make a decision on claims and/or pay benefits due under the policy within 60 days after receipt of a valid and complete claim unless there is a reasonable dispute between the parties and provided the insured has complied with the terms and conditions of the policy of insurance.” The regulation provides a list of what constitutes a valid and complete claim, such as all information and documents being received, conditions of the policy being met, coverage being established, and a lack of fraud indicators. The regulation also gives examples of what constitutes a reasonable dispute, such as conflicting information, negotiations or appraisals that are in process, litigation commencing on the claim, etc.

Colorado Division of Insurance Bulletin B.5.28 addresses the Equitable Payment of Claims Resulting from Natural Disasters. Following a natural disaster event, the division expects full transparency and disclosure regarding the extent of coverage available, including timely information before the coverage limits are reached; reasonable extensions of time to allow the policyholder to receive benefits of replacement cost coverage; and consideration of factors not included in estimating programs, such as the slope of land, building grade of the dwelling, and availability of labor and materials.

In conclusion, the legal environment in Colorado that governs the handling of first-party property claims resulting from natural disasters is unique and fraught with peril. As a former claims adjuster and experienced insurance defense attorney specializing in coverage and bad-faith litigation, I strongly recommend that adjusters get training on the governing Colorado law to not only properly service their policyholders during a very distressing period in their lives, but also to guard against the flood of statutory delay or denial claims that carry significant penalties.