WA Supreme Court: Absolute Pollution Exclusion Does Not Bar Coverage If Efficient Proximate Cause Is Negligence

Insurer Found to Have Breached Duty to Defend in Bad Faith.

The Washington Supreme Court, applying Washington law, held that an absolute pollution exclusion does not bar liability coverage where a covered loss, such as negligence, is the efficient cause of a loss.  The court applied Washington’s “efficient proximate cause” rule, which provides that coverage exists if a covered risk sets in motion a chain of events leading to an injury, even if an excluded risk is the cause-in-fact of the loss.

The facts of the underlying claim are as follows:  Zhaoyun Xia purchased a new home constructed by Issaquah Highlands 48 LLC (“Issaquah Highlands”). Soon after moving into the home she became ill. It was discovered that an exhaust vent attached to the hot water heater in the home had not been installed correctly and was discharging carbon monoxide directly into the home.  Xia notified Issaquah Highlands of her injuries.  Issaquah Highlands carried a policy of commercial general liability insurance through ProBuilders Specialty Insurance Company RRG (“ProBuilders”).  ProBuilders sent Xia a denial of the claim based on the absolute pollution exclusion and townhouse exclusion in its policy.  Xia sued Issaquah Highlands.  The parties reached a settlement agreement for stipulated damages of $2 million.  In exchange for a covenant not to execute or enforce the judgment, Issaquah Highlands assigned to Xia all first-party rights, privileges, claims, and causes of action against ProBuilders.  Xia then filed suit against ProBuilders seeking a declaratory judgment with regard to coverage alleging breach of contract, bad faith, and other statutory violations.   The parties brought cross motions for summary judgment. The trial court entered summary judgment in favor of ProBuilders and dismissed Xia’s claims finding that the townhouse exclusion applied.  Division One of the Court of Appeals reversed in part, finding that although the townhouse exclusion did not apply, the pollution exclusion did and, therefore, ProBuilders did not breach its duty to defend.  Xia appealed.

The Washington Supreme Court characterized the issue before the court as “does an insurer breach its duty of good faith by refusing to defend its insured when an alleged prior act of negligence may be the efficient proximate cause of a loss.”  The court first analyzed the application of absolute pollution exclusions under Washington law: “Ultimately, what matters most is whether the occurrence triggering coverage originates from a pollutant acting as a pollutant.”  According to the majority opinion, under Washington law, if the occurrence originates from a pollutant acting as a pollutant, then barring any ambiguities in the policy language, courts apply the plain language of the pollution exclusion to determine whether the exclusion applies to the facts at hand, and ultimately determines whether the excluded occurrence is the efficient proximate cause of the claimed loss.  The efficient proximate cause rule provides coverage “where a covered peril sets in motion a causal chain, the last link of which is an uncovered peril.”  The efficient proximate cause rule applies only “when two or more perils combine in sequence to cause a loss and a covered peril is the predominate or efficient cause of the loss.”

The court applied the efficient proximate cause rule to the case at hand and found that while ProBuilders correctly identified the existence of an excluded polluting occurrence under its policy, it failed to recognize that a covered occurrence, the negligent installation, was the efficient proximate cause of the claimed loss.  The Washington Supreme Court held that coverage for the loss existed under the policy and ProBuilder’s refusal to defend its insured was in bad faith.  Xia v. ProBuilders Specialty Insurance Company RRG, No. 92436-8 (WA Apr. 27, 2017).