Standards for Determination of Causation in Appraisal

Johnson provides a framework in which insurer and insured alike can structure and phase both appraisal and litigation to take advantage of the benefits of each in the context of a complex, multi-component claim. Such a framework may aid parties in achieving the efficiencies contemplated by the appraisal provisions of their contract when utilized in conjunction with agreement in advance on which issues to submit to appraisal. Careful thought by the parties about whether specific claim components should be submitted to appraisal will ensure that true coverage questions ' including questions of law that the court can, and must, decide ' are reserved for resolution through litigation. And, a recognition that some degree of “causation” analysis is a necessary element of virtually any appraisal will permit the parties to take advantage of the efficiencies offered by that alternative dispute resolution mechanism.

Catherine A. Mondell, a member of this newsletter's Board of Editors, is
a partner at Ropes & Gray LLP, in Boston, and has handled a wide range of complex insurance coverage disputes and other commercial litigation matters. Seth C. Harrington is a litigation associate at the firm, with experience in both insurance and other commercial litigation.

An appraisal provision is a common feature of first-party property insurance policies, designed principally to efficiently resolve disputes over the amount of loss or replacement cost for a covered claim. However, disputes over what constitutes an appropriate topic for appraisal can negate the efficiencies that might otherwise be gained.

Most jurisdictions have tried to settle the appropriate boundaries of appraisal by developing law to distinguish between issues of damages (or quantum), which are appropriate for appraisal, and issues of liability (or coverage), which are reserved for resolution by the courts. Disputes remain, however, with respect to certain issues that straddle the line between these two categories. Chief among these is the issue of causation.

Closer analysis of so-called “causation” questions suggests a path forward, which harmonizes competing strands of case law and allows appraisal to operate as the efficient mechanism it is intended to be.

Benefits of Appraisal

Generally, appraisal provisions reflect an agreement by the parties at the time of contracting that, in the event of a loss covered under the policy of insurance, either the insured or the insurer may invoke this alternative dispute resolution mechanism to address disputes regarding the quantum of loss.

Appraisal is particularly useful in the context of complex, multi-component claims. For example, a claim can involve a series of separate claims components (such as exterior, fixtures, grounds, business personal property, etc.), each of which may present distinct questions of measurement. Should disputes arise regarding multiple covered claim components, litigation is an option, but can be an unwieldy tool. The costs incurred to litigate the quantum of any given claim component may outweigh the amount contested. Moreover, when claim components turn on separate facts, there is no ready way to streamline the process for the litigants, the court, or jurors. Appraisal offers an alternative. A series of distinct factual issues can be resolved in an even-handed and efficient manner by individuals who are generally selected for their expertise in the particular field at issue (e.g., building construction).

Of course, the full potential benefits of appraisal are recognized only where each party willingly participates in the process. As recently noted by one federal district court, when disputes arise, litigation contesting the propriety of an appraisal can easily erode the savings in time and expense that would have been achieved otherwise. See Sunquest Props., Inc. v. Nationwide Prop. & Cas. Co., 2009 WL 2567222, *1 (S.D. Miss. Aug. 18, 2009). Such disputes arise most frequently when one of the parties believes that the appraisal is being inappropriately extended beyond its “sole purpose ' to determine the amount of damage,” 15 Couch on Insurance ' 210:42. The point of dispute often involves so-called issues of “causation,” which do not fit easily into the two categories many jurisdictions have developed: 1) appraisable issues of damages (or quantum); versus 2) non-appraisable issues of liability (or coverage).

'Causation' Analysis in Appraisals

The difficulty with classifying causation as appraisable or non-appraisable is one that can be readily illustrated. At a very basic level, causation is not fairly characterized as either a liability issue or a damages issue, but rather a link between the two. Often, causation and valuation are indistinguishable in that they involve isolating the amount of “loss” from amounts that are not part of the loss ' for example, damage caused by conditions that pre-date the loss. On the other hand, because policies insure against some causes of loss but exclude others, causation also plays a role is determining coverage or liability. It is for these reasons that issues of causation resist easy categorization in the damages-versus-liability dichotomy adopted by many jurisdictions.

Cases in many jurisdictions adopt a purportedly bright-line rule that appraisal can never consider causation. However, such a rule produces an absurd result when appraisers assessing damages are prohibited from deducting, at minimum, damages attributed to pre-existing conditions or other causes that pre-date the loss in question. More importantly, such a rule effectively negates the practical advantages of appraisal in claims that involve both covered and excluded (or at least potentially excluded) causes of loss ' the very type of multi-component claims where appraisal is most needed.

However, a broad prohibition does not present the only workable solution to determining whether causation may play a role in the appraisers' assessments. Disputes over the applicability of appraisal can be avoided, and the desired efficiencies still achieved, by distinguishing between types of causation disputes and agreeing in advance what specific claim components are to be submitted to appraisal. On the one hand, a causation determination may be a clear coverage dispute ' e.g., where the insurer has denied the claim component in its entirety based on the conclusion that the cause of loss falls within an exclusion or other limitation in the policy. On the other hand, a causation determination may be a necessary component of damage allocation ' e.g., where the parties have agreed that damage to a particular claim component is caused (at least in part) by a covered cause of loss, and the appraisers are called upon to quantify the alleged damage that was caused by the covered cause of loss. In this second scenario, identifying the amount associated with the insured cause of loss versus other factors would not impermissibly exceed the appropriate scope of appraisal, particularly where the parties have agreed not only to the appraisal mechanism generally, but also to appraisal of the particular claim component in question. Questions of liability, i.e., whether each of the different causes of loss are covered (and if so, which deductible and limit is to be applied), are reserved for the courts.

Carefully assessing questions of “causation” in this way, and carefully considering which specific claim components should be submitted to appraisal with this distinction in mind, should avoid certain of the thorny questions that have been raised by courts examining these issues.

Early Framework: Munn

Nearly 50 years ago, in one of the earliest opinions to consider the scope of appraisal and the issue of causation, the Mississippi Supreme Court held that causation determinations necessarily implicated questions of coverage, and therefore an appraisal of the “amount of loss” could not permissibly consider the cause of the loss. Munn v. Nat'l Fire Ins. Co. of Hartford , 115 So.2d 54 (Miss. 1959). In Munn, the insured property (which included a residence, barn, and chicken coops) had been damaged during a storm. The insurer did not contest coverage, and the parties invoked the appraisal process to resolve disputes over the amount of loss. Under the policy's appraisal provision (which provided that “[a]ppraisers shall then appraise the loss, stating separately actual cash value and loss to each item”), the appraisers and the umpire fixed amounts for the three structures, but refused to appraise damage to the residence's walls, on the basis that such damage had not been caused by the storm. Id. at 55-56. The insured filed suit, and the chancery court held that it was bound by the appraisal panel's determination that the walls had not been damaged by the storm. On appeal, the Mississippi Supreme Court, noting that appraisers “have no power to arbitrate disputes between the property owner and the insurance company other than to value the property damage,” held that the appraisal award was not binding because the appraisers had determined the cause of the damage to the walls, which exceeded the permitted scope of appraisal. Id. at 56-57. The court reasoned that the causation decision “involved the fundamental question of liability” because a determination whether or not the walls were damaged by the storm decided whether or not the insurer was liable. Id. at 57.

In dissent, two judges highlighted a tension between the language of the policy (which required that the appraisers determine the “actual cash value and loss”) and the majority's holding. Id. at 58. The dissent reasoned that, because “[t]he phrase 'actual cash value' means the value of the property immediately before the windstorm,” the appraisers must determine the condition of the property immediately before the loss: “Manifestly, it would be impossible for appraisers to determine the actual cash value of a property before the storm without considering and determining the age, condition, and deterioration in the structure itself, including the walls. The end result of the majority opinion is to conclude that, in appraising the value of the property before the storm, the appraisers cannot consider the condition of the walls. Yet this function is necessary to determine the 'before' value, and that is a condition precedent to ascertaining the loss.” Id. Therefore, the dissent concluded, the appraisers did not decide an issue of liability in assessing whether damage was caused by the storm, but rather “decided that the leaning walls existed before the windstorm. So naturally they did not award to the insured any loss for them.” Id. at 60.

The majority and dissenting opinions in Munn thus demonstrate the conflicting viewpoints on whether to permit consideration of causation during appraisal.

Majority Rule: Bright-Line

In many jurisdictions, courts have followed the reasoning of the majority opinion in Munn and have held that appraisal does not include determinations of the cause of a loss, but have not grappled with the concern raised by the Munn dissent.

Most recently, the Alabama Supreme Court in Rogers v. State Farm Fire & Cas. Co. , 984 So.2d 382 (Ala. 2007), followed the Munn majority. The insured had claimed the policy limit on the basis that its property was a total loss as a result of a tornado, but the insurer had disputed coverage for a portion of the damage it alleged occurred as a result of earth settlement. The appraisal panel evidently agreed with the insurer, awarding less than the full policy limit. Noting that “an appraiser's duty is limited to determining the 'amount of loss' ' the monetary value of the property damage ' and that appraisers are not vested with the authority to decide questions of coverage and liability,” the Rogers court held that, because the parties had disputed the cause of damage to a portion of the property, the appraisal panel could not properly decide whether or not the property was a total loss. Id. at 392. However, as in Munn, the dissent argued that “determination [of the amount of loss], of necessity, involved the question of the applicability of an exclusion for loss caused by preexisting conditions,” and that therefore the appraisal clause properly applied to the parties' dispute. Id. at 393.

Minority Rule: More Nuance

Certain jurisdictions, taking a more nuanced approach, have permitted appraisal to proceed (or upheld appraisal awards) despite one side's insistence that the dispute involved questions of “causation.”

For example, in CIGNA Insurance Co. v. Didimoi Property Holdings , N.V. , 110 F.Supp.2d 259 (D. Del. 2000), the district court held that appraisers could consider causation in assessing the extent of fire damage and the cost to repair or replace the property to its pre-fire condition, as distinguished from damage from asbestos distributed by firefighting water or mold and mildew growth resulting from a failure to properly remove wet materials after the fire. Reviewing the case law from other jurisdictions, the CIGNA court “conclude[d] that in the insurance context, an appraiser's assessment of the 'amount of loss' necessarily includes a determination of the cause of the loss, as well as the amount it would cost to repair that which was lost.” Id. at 264. The CIGNA court reasoned that determinations as to the fact of damage, such as “whether a particular item was damaged as a result of fire or firefighting efforts, [are] appropriately reserved for the appraisal process,” while the effect of such determinations, such as “whether damage is excluded for reasons beyond fire damage, are legal questions for the Court.” Id. at 268.

Harmonizing Analysis: Johnson

Until recently, Texas courts had developed two lines of case law that mirrored the majority and minority rules described above. The Texas Supreme Court, in State Farm Lloyds v. Johnson , 290 S.W.3d 886 (Tex. 2009) (“ Johnson “), harmonized these two approaches in a detailed opinion that serves as a guideline for determining whether a particular “causation” dispute falls within the scope of an appraisal provision.

In Wells v. American States Preferred Insurance Co. , 919 S.W.2d 679 (Tex. App.-Dallas 1996), the insureds' home had sustained damage from foundation movement, and an inspection of the property revealed a plumbing system leak as a potential (and covered) cause of loss. The insurer denied the claim (on the basis that the leak was not the cause of the loss), and invoked the appraisal process to resolve the dispute. The panel had fixed the amount of damage to the insured property to be $22,875 by unanimous decision, but the insurer's appraiser and umpire had returned an award for $0 for loss caused by plumbing leak. Id. at 682. The appellate court held that the appraisers had exceeded their authority, because the appraisal panel had been empowered only to determine the “amount of the loss,” which did not include a determination of the cause of loss. Id. at 685. Opinions from other Texas courts and the Fifth Circuit followed Wells. See Salinas v. State Farm Lloyds , 267 F. App'x 381, 385-386 (5th Cir. 2008); Germania Farm Mutual Ins. Ass'n v. Williams, 2002 WL 32341841, *3-*4 (Tex.App.-Eastland May 23, 2002).

However, Wells was distinguished by the Texas appellate court in Lundstrom v. United Services Automobile Association-CIC , 192 S.W.3d 78, 89 (Tex. App.-Houston 2006), an opinion that upheld an appraisal award that allocated between different categories of damage. After the insureds had reported leaks and water intrusion into their home, the insurer had conceded coverage for the “initial wetting,” but denied coverage as to other damage, and an appraisal panel was convened to appraise the covered loss. Id. at 87. The appellate court noted that the consideration of damages for the “initial wetting” as opposed to ongoing leaking or mold (for which coverage was disputed) was not an impermissible consideration of coverage issues. Id. at 88-89. Because Wells only stands for “the narrower proposition that appraisers exceed their authority when they engage in making the legal determination of what is or is not a covered loss based on their determination of what caused the loss or a portion of it,” the Lundstrom court reasoned, the insurer was free to invoke appraisal as to the limited category of damage from “initial wetting,” where coverage was not disputed. Id. at 89.

The Wells and Lundstrom opinions presented a possible conflict in authority under Texas law. In Johnson, the Texas Supreme Court tackled the issue and included an expansive discussion on the appropriate limits for consideration of causation. In Johnson, the insured's home had been damaged during a hail storm and the insurer's adjuster had concluded, after an inspection, that the hail had only damaged the ridgeline, which minimal damage totaled less than the policy's deductible. The insured disagreed, and hired a contractor who concluded that the entire roof required replacement. The insured requested appraisal under the policy, but the insurer refused to participate on the grounds that the dispute involved considerations of coverage outside the permitted scope (i.e., whether claimed damage had been caused by hail, a covered peril, or another, unidentified ' and presumably excluded ' cause).

At the outset, the Texas Supreme Court concluded that consideration of causation by appraisers would not be per se impermissible, because “[c]ausation relates to both liability and damages because it is the connection between them.” 290 S.W.3d at 891-92. The Texas Supreme Court noted that “appraisers must always consider causation, at least as an initial matter. An appraisal is for damages caused by a specific occurrence, not every repair a home might need” and that “[a]ny appraisal necessarily includes some causation element, because setting the 'amount of loss' requires appraisers to decide between damages for which coverage is claimed from damages caused by everything else.” Id. at 893. In assessing whether an appraisal's consideration of causation impermissibly involves questions of coverage, the Texas Supreme Court provided the following guidance: “when different causes are alleged for a single injury to property, causation is a liability question for the courts” but that “when different types of damage occur to different items of property, appraisers may have to decide the damage caused by each before the courts can decide liability.” Id. at 892. In addition, the Texas Supreme Court stated that the appraisers may consider the cause of the loss “when the causation question involves separating loss due to a covered event from a property's pre-existing condition.” Id.

Johnson provides a framework in which insurer and insured alike can structure and phase both appraisal and litigation to take advantage of the benefits of each in the context of a complex, multi-component claim. Such a framework may aid parties in achieving the efficiencies contemplated by the appraisal provisions of their contract when utilized in conjunction with agreement in advance on which issues to submit to appraisal. Careful thought by the parties about whether specific claim components should be submitted to appraisal will ensure that true coverage questions ' including questions of law that the court can, and must, decide ' are reserved for resolution through litigation. And, a recognition that some degree of “causation” analysis is a necessary element of virtually any appraisal will permit the parties to take advantage of the efficiencies offered by that alternative dispute resolution mechanism.

Catherine A. Mondell, a member of this newsletter's Board of Editors, is
a partner at Ropes & Gray LLP, in Boston, and has handled a wide range of complex insurance coverage disputes and other commercial litigation matters. Seth C. Harrington is a litigation associate at the firm, with experience in both insurance and other commercial litigation.