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REGULATOR ATTEMPTS TO CURB POLLUTION EXCLUSION ABUSES

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BATON ROUGE, La.-A Louisiana regulatory advisory intended to stop liability insurers from invoking the absolute pollution exclusion when claims do not involve environmental damage also may help policyholders elsewhere obtain coverage for environmental cleanup costs, according to policyholder attorneys.

If courts and especially regulators in other states follow the lead of Louisiana Insurance Commissioner James H. Brown, many commercial general liability policyholders that face environmental cleanup liabilities may be able to recover their cleanup costs, the attorneys said.

The significance of Mr. Brown's advisory is that he took into account the exclusion's regulatory history, they said.

Even with the advisory, though, Louisiana policyholders still may face problems recovering cleanup costs from their insurers.

Indeed, Commissioner Brown's advisory letter is not intended to address the cleanup cost coverage issue, said C. Noel Wertz, a senior attorney at the department.

Although the letter does not state it does not apply to cleanup cost coverage, case law in the state generally precludes such coverage. Therefore, the department did not intend to mandate such coverage, she explained.

Instead, the intention of the advisory Mr. Brown issued last week is to "strongly" advise insurers to stop denying coverage for routine bodily injury and third-party property damage claims that only incidentally involve contaminants.

A perfect example of the kind of "absurd consequences" for policyholders that the department is attempting to prevent occurred in a recent Colorado case, Ms. Wertz said.

A Colorado appeals court agreed with insurers that the ammonia gas a printer allegedly emitted in an office building constitutes a pollutant under the absolute pollution exclusion. As a result, the court ruled, the third-party bodily injury loss the accident caused is not covered, even though the incident did not cause any environmental damage (BI, May 12).

Specifically, Mr. Brown's advisory letter discourages insurers from invoking the absolute pollution exclusion when:

A loss does not involve environmental damage.

A policyholder is not an "intentional active industrial polluter."

A loss results from a malfunctioning product that had been used properly.

A loss results from exposure to asbestos or lead.

The letter also encourages insurers to offer three new pollution exclusion endorsements to policyholders that pose little pollution risk.

The endorsements, which the New York-based Insurance Services Office Inc. introduced earlier this year, restore coverage for bodily injury and third-party property damage caused by pollutants regardless of whether the loss also involved environmental damage (BI, May 19). But, they do not provide cleanup cost coverage.

ISO drafted the endorsements at the Louisiana department's prompting.

Mr. Brown was unavailable for comment last week because of a death in his family.

But, Ms. Wertz warned insurers that they will find the advisory has "teeth" if they do not follow the department's suggestions. The Insurance Department may revoke its approval of the pollution exclusion for an offending insurer and seek fines for unfair claims-handling against the company, she said.

The department expects insurers to begin applying the four outlined claims-handling criteria to pending claims, Ms. Wertz said. She urged policyholders whose claims are not handled in accordance with the advisory to seek the department's help.

The advisory "has gone a good ways toward preventing the horror stories we've discussed at RIMS and among risk managers," said Denis Julien, a member of Mr. Brown's task force and the chairman of the environmental committee for the Risk & Insurance Management Society Inc.

Mr. Julien, director of insurance for PCS Nitrogen Inc. of Memphis, Tenn., called the advisory "very even-handed."

The American Insurance Assn. found some solace in the advisory, considering the department a few years ago toyed with revoking its approval of the absolute pollution exclusion altogether.

Regulators abandoned that idea because they feared it could dry up the CGL market for many policyholders and embroil the department in lengthy and expensive litigation with the insurance industry, Ms. Wertz explained.

Still, Mark Skinner, an assistant vp with the AIA and a member of Mr. Brown's 18-member task force on this issue, was troubled by the four criteria the department suggested insurers use when deciding whether to apply the exclusion. He said the task force, which also included policyholder and agent representatives, did not spend much time on that issue. The bulk of the group's work led to the new pollution exclusion endorsements, he said.

Insurer attorney Edward Zampino of Cozen & O'Connor P.C. in New York had similar mixed feelings about the advisory letter. "While it isn't a model of clarity, it pretty much reserves what the pollution exclusion was meant to do": bar coverage for all pollution cleanup costs.

He was "disturbed," though, that Mr. Brown seemed to rely on policyholders' version of the exclusion's regulatory history and a 1994 Louisiana Supreme Court ruling that since has been vacated.

Like the ISO pollution exclusion endorsements, Mr. Brown's advisory letter stems from a stunning policyholder victory in the state's Supreme Court in 1994. The court ruled that the absolute pollution exclusion does not bar coverage for non-environmental claims (BI, June 12, 1994).

It also found that insurers that breached their fiduciary duty to policyholders when the insurers added the absolute pollution exclusion to CGL policies could not enforce the exclusion against third-party environmental claims. Insurers breached that duty if they did not cut premiums to reflect the reduction of pollution coverage and did not inform policyholders that some of the coverage the exclusion barred was available through endorsements.

But, the insurer in the case then raised questions over whether the Insurance Department had approved the use of a pollution exclusion endorsement at issue in the case by the time the policy was written. The court vacated its decision and remanded the case. The litigating parties now are trying to settle.

However, the ruling still is precedent in Louisiana because the case has not been depublished, Ms. Wertz and other attorneys explained.

Louisiana regulators stepped into the scene when the insurer raised the exclusion endorsement issue. The department determined it would not have approved the endorsement if it had known insurers would use it to deny coverage of non-environmental losses, Ms. Wertz has said.

The department, though, has "never taken the position that the industry has an exposure for cleanup costs," Ms. Wertz said.

She explained that unlike courts in many other states, Louisiana courts have determined that government-ordered cleanups are not covered damages under the CGL.

The Louisiana Supreme Court has somewhat clouded that issue, though, with the fiduciary duty portion of its 1994 ruling, Ms. Wertz said.

Regardless, the advisory "still will have wide-ranging ramifications for insurers," predicted policyholder attorney John A. MacDonald, another member of Mr. Brown's task force.

Since the exclusion was drafted in the mid-1980s, ISO has maintained that the exclusion does not bar coverage of liabilities resulting from malfunctioning products, completed operations and certain off-premises discharges.

During the regulatory approval process, insurer officials concurred, said Mr. MacDonald, a partner with Anderson Kill & Olick P.C. in New York.

At that time, insurers also promised they would not invoke the absolute pollution exclusion to bar coverage for routine bodily injury or third-party property losses that only incidentally involved contaminants, he said.

While the exclusion's language seemed to bar such coverage, insurers assured regulators that the exclusion was overdrafted only to protect themselves from the kind of judicial misinterpretations that befell their earlier sudden and accidental pollution exclusion, he said.

However, insurers routinely have denied pollution losses resulting from all of those events, costing policyholders billions of dollars in coverage, policyholder attorneys said.

Because of that, "the industry is lacking credibility with regulators," said policyholder attorney William Greaney, a partner with Covington & Burling in Washington. Mr. Brown's advisory letter "is a result of that," he said.

"It is hoped that the National Assn. of Insurance Commissioners and the insurance commissioners of other states will soon follow (Mr. Brown's) lead and take affirmative action to protect both policyholders and the integrity of their own regulatory activities," Mr. MacDonald said.

He expects that policyholders will press regulators to take that action.

The advisory letter also may help policyholder attorneys persuade courts to examine the regulatory history of the pollution exclusion rather than rely solely on the policy language, Mr. Greaney said.

When the New Jersey Supreme Court did that in a case involving the sudden and accidental pollution exclusion, it agreed with insurers' interpretation of the policy language but ultimately accepted policyholders' interpretation. The court sided with policyholders because it found that during regulatory approval hearings on the exclusion, insurers had misled regulators about the exclusion's meaning (BI, July 26, 1993).

At least one regulator, though, will not follow Mr. Brown's lead. Michigan Insurance Commissioner D. Joseph Olson said he has no authority to interpret insurance contract language. Courts have to resolve disputes over policy language interpretations, he said.

Mr. Olson also said he does not see much merit in examining the regulatory history of policy language.

Regulators who find contract language troublesome but approve it anyway because they rely on the claims-handling promises made by an organization like ISO or even insurer representatives are "naive," he said.