Impaired Property under CGL Form

Q

Our insured is a distributor of starch products to the food products industry. For several years, the insured has been selling a special type of starch to the manufacturer of pie fillings. The starch is mixed with the filling to firm the product and the pie filling is then sold to the public. Recently, our insured's client notified the insured that some of the pie fillings were being returned because of poor consistency and the returned items were unusable.

After some testing, it was found that our insured's starch had a low viscosity level, which in turn did not thicken the client's pie filling and, therefore, made the final product unusable. A claim was made against the insured for damage to the client's product and for the expenses the client had to pay to replace the unusable pie fillings. The insurer has denied coverage based on the impaired property exclusion on the commercial general liability (CGL) form; we do not agree. May we have your opinion on this?

Iowa Subscriber

A

Some insurers use the impaired property exclusion based on the wording of the exclusion only; that is, they apply the exclusion when some property cannot be used because of a defect in the insured's work or product, while at the same time ignoring the definition of “impaired property.” The definition has to be met before the impaired property exclusion can be applied.

The CGL form defines “impaired property” as follows: tangible property, other than the named insured's product or work, that cannot be used or is less useful because it incorporates the named insured's product or work that is known or thought to be defective, deficient, inadequate or dangerous … if such property can be restored to use by the repair, replacement, adjustment or removal of the named insured's product or work …. The key points here are that not only must the insured's product make a claimant's property useless or less useful because that property incorporates the insured's product, but also that the property can be restored to use by the repair or removal of the insured's product. Both parts of the definition have to be present; if the property has been damaged to the extent that not only is it unusable but also it cannot be restored to use, the impaired property definition is not met and the exclusion does not apply.

In this case, you indicated that the injured party could not restore the pie fillings to use by replacing or removing the insured's product; therefore, the insurer cannot use the impaired property exclusion to deny coverage for the insured.

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