Tuesday, December 24th, 2013

By Christopher Reain and Maria Abdoullaeva

A common clause in construction and commercial contracts is the covenant to insure. These clauses oblige one party to obtain insurance on all or part of the subject matter of a contract. In cases of conflict, they can be used to deflect claims for losses from other contracting parties and to obtain the financial and legal benefits of the insurance that was to be obtained, whether or not a policy was issued. In this sense, a covenant to insure can be used by a contracting party as both a shield and a sword.

Commercial leases generally require each tenant to carry its own property insurance covering damage to the leased premises, liability insurance, and business interruption insurance. The landlord usually agrees to provide property insurance over the entire building.

On construction projects, it is common to have several contractors and sub-contractors working on the same job site, often at the same time. Covenants to insure give the owner of the project an assurance that the work will be completed (and repaired if necessary) even in the event of a loss on the job site, and avoid litigation and resulting delays. In the construction context, the covenant to insure provides a measure of certainty to the owner that the job will be completed on schedule.

The courts have generally held that the covenantor or party providing the covenant to insure – usually a tenant or a contractor – is barred from pursuing a claim against the covenantee – usually a landlord or an owner. Essentially, a covenant to secure insurance operates as a voluntary assumption of the risk of loss or damage caused by the perils to be insured against. The principle has been confirmed in both the commercial leasing and construction contexts by the Court of Appeal in Madison Developments Ltd v Plan Electric Co, [1997] OJ NO 4249 (CA) and in Active Fire Protection 2000 Ltd v BWK Construction Co, [2005] OJ No 2892 (CA).

The issue in all cases involving a covenant to insure is the intention of the parties – evidenced by the terms of the contract – as to who is to bear the risk of the loss. In some cases, despite covenanting to insure the defendant, the action of the covenantor or its insured has been allowed to proceed. These cases typically involve contracts where, despite the covenant to insure, the express language of the contract preserves the cause of action against the defendant. For an example, see Sable Offshore Energy v Ameron International Corp, 2008 NSSC 250.

Covenants to insure can also be used to obtain recovery and the benefits of insurance from the covenantor. The underlying theory is the same – the covenantor assumed the risk of the loss and is therefore liable to the covenantee for any damages to the covenantee arising out of such loss.

If a covenantor takes out insurance as obliged (usually in the joint names of the contracting parties), then the covenantee is able to obtain the benefits of that insurance.

If, however, the insurance is not taken out as agreed, the covenantee is not able to recover directly against the covenantor’s insurer, as there is no privity of contract between the covenantee and the insurer. In such circumstances, the covenantee has a remedy directly against the covenantor in breach of contract for any losses it suffered as a result of the absence of the insurance it bargained for. For an example, see Papapetrou v 1054422 Ontario Limited, 2012 ONCA 506.

For more information on this topic, or others relating to insurance and coverage disputes, please contact Christopher Reain at creain@mrltlaw.com.

This blog entry has been placed on our website to inform readers in a general way of the authors’ view of the law at the time of its presentation. It is not intended as legal advice and no reliance may be placed on its contents. Some principles of law or procedure may have changed and may no longer be applicable since its publication. The authors and Monaghan Reain Lui Taylor LLP disclaim any liability arising from reliance on any part of this blog entry.

Category: Update.