Fire On the Mountain: Insurance Coverage Disputes Arising Under California Property Policies


By: Richard E. Wirick
No issue in insurance coverage could be more topical than fire losses. The Napa and Sonoma County fires, as well as lesser wildfire losses in the Anaheim area, may well give rise to more coverage disputes than we have seen since the Oakland Hills (Tunnel) fires of the nineties. This is notwithstanding the extensive statutory changes to such coverages, and the attempts to define troublesome terms and concepts such as actual cash value, fair market value, and total replacement costs in the legislature’s changes to the Insurance Code in 2005. In addition to its treatment of first party valuation issues under loss settlement provisions (the most litigated of all fire coverage issues), this series of blogs will also discuss non-valuation-based controversies, such as loss-of-use and business interruption provisions. Additionally, an upcoming blog will discuss third party coverage issues, as well as straight liability issues, that arise, principally from attempts to sue municipalities and other public entities for fire endangerment.
The overwhelming majority of coverage issues litigated in commercial and homeowners fire losses concern valuation of the replaced (or partly replaced) property. The valuation methods are contained in the “Loss Settlement Provisions” of any policy, and break down into “actual cash value” and “replacement cost value.”
*Method One: Actual Cash Valuation (ACV)
Under an open policy (one whose limits are not set in advance), the ACV of a structure that is totally destroyed by fire is its fair market value when the loss commenced. Ins. Code 2052(b)(1). “Fair market value” is the price “a willing buyer would pay a willing seller, and factors such as age, condition, fitness for buyer’s particular purpose, etc. If the structure is only partially destroyed, the ACV formula is the amount it would cost to repair, rebuild or replace the thing lost or injured, less a fair and reasonable deduction for physical depreciation. Ins. Code 2051(b)(2). Given the above depreciation schedule controversies and ensuing litigation, the legislature enacted a new version of Ins. Code 2051(b) requiring the insurer to itemize depreciation only with respect to property normally subject to repair during its useful life, and must be attributable to the age and condition of the property. Ins. Code 2051(b)(2) (2005 version).
*Method Two: “Replacement Cost” Valuation: Alternatively, property insurance policies can be deemed to provide a “replacement cost” valuation basis for insured properties destroyed by fire. (Replacement Cost Coverage or RCC). FIE v. Superior Court (Altman), (2004)116 Cal. App. 4th 446.
RCC was devised to compensate the insured for the differential/shortfall resulting from reconstructing a dwelling under a policy that pays only for ACV, since with RCC depreciation cannot be considered. Altman, supra, illustrated this as follows: “For example, if an insured wanted to replace a damaged roof, the insurer would be liable for the cost of the entire new roof, even if the damaged roof had been ten years old.” Id. at 116 Cal. App. 4th at 464.
The Three RCC Coverages & Tests: Just when you thought these analyses were about to conclude, there are three sub-valuations or standards to be utilized with RCC. The three main forms of RCC are replacement cost, extended replacement cost, and guaranteed replacement cost, all defined by statute. “Replacement Cost Coverage” provides for the cost to repair, rebuild or replace the damaged dwelling up to the policy limit. “Extended Replacement Cost Coverage” indemnifies up to a specified percentage (e.g. 10%) or specific dollar amount above the policy limit. Ins. Code 10102. See also Everett v. State Farm Gen. Ins. Co. (2008) 162 Cal. App. 649, 653. (this case defines “extended replacement cost coverage”); Minich v. Allstate (2011) 193 Cal App. 4th 477, 489-490 [150% of policy limit].“Guaranteed Replacement Cost” Coverage entails the full cost to repair, rebuild or replace the damaged dwelling, without regard to the policy limit. See Ins. Code 10102(e) (f)
Every policy containing fire property loss protection in California must specifically state whether the insured has purchased “replacement cost”, “extended replacement cost” or, alternatively, “guaranteed replacement cost coverage.”
*‘Value Protection’ Clauses [Guaranteed Replacement Cost Plus]: A valuable form of protection, and one salient to the wild swings in California property values and thus the most litigated, is a Value Protection Clause. Such provisions protect increased property values and also enable the insurer to increase premiums accordingly. They explicitly permit yearly premium adjustments to reflect increased costs of construction. This was the subject of the Altman case supra. Such a clause is usually an endorsement that supercedes any code upgrade or replacement cost coverage exclusions. Altman, 116 Cal. App. 4th at 469. Similar protection can be afforded by “inflation coverage provisions.” The particular mechanism for same is an “Inflation Coverage Index” that is in the declarations and increases the policy limits.
Mandatory Statutory Appraisal: Breach of contract, declaratory relief, and bad faith are all available judicial causes of action for an aggrieved insured. However, if the only issue is valuation under loss settlement provisions, and the policy contains an appraisal provision, statutory appraisal under Ins. Code 2071—a sort of ‘arbitration lite’—is the parties’ only form of dispute resolution. Indeed, an appraisal provision in a policy constitutes “an agreement for contractual arbitration.” Code of Civ. Procedure 1280 (a) [defining arbitration agreement to include “agreements providing for valuations, appraisals and similar proceedings”]. See Doan v. State Farm Ins. (2011), 195 Cal. App. 4th 1082, 1092.  Again, however, mandatory statutory appraisal regulations “explicitly document that the Section 2071 appraisal procedure does not limit recourse to other remedies.” Doan, 195 Cal. App. 4th at 1096 and Kirkwood v. Calif. State Auto Ass’n, Inter-Ins. Bureau, (2011) 193 Cal. App. 4th 49, 53-54.
If you have any questions or would like more information, please contact Richard E. Wirick at [email protected].