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Insurance - Property

Contracts - Interpretation - Insurance

Carter v. Intact Insurance Company (Ont CA, 2016)

In this case the Court of Appeal sets out an enlightening overview of the nature of property insurance, in particular the distinction between 'actual cash value' versus 'replacement' cost indemnification:
(c) Actual cash value, replacement cost and moral hazard

[19] The following summary is taken from the decision of the British Columbia Court of Appeal in Brkich & Brkich Enterprises Ltd. v. American Home Assurance Co. (1995), 1995 CanLII 1809 (BC CA), 8 B.C.L.R. (3d) 1, aff’d 1997 CanLII 339 (SCC), [1997] 1 S.C.R. 1149, the decision of Stinson J. in Willoughby v. Pilot Insurance Company, 2014 ONSC 95 (CanLII), 118 O.R. (3d) 604, and three secondary sources cited by the appellants: Leo John Jordan, "What Price Rebuilding? A Look at Replacement Cost Policies" (1990) 19 Brief 17; Jerome Trupin & Arthur L. Flitner, Commercial Property Insurance and Risk Management, 5th Ed (Pennsylvania: American Institute for the Chartered Property Casualty Underwriters, 1998); and Johnny Parker, "Replacement Cost Coverage: A Legal Primer" (1999) 34 Wake Forest L. Rev. 295.

[20] The insurance industry has marketed two types of protection for residential and commercial properties: actual cash value coverage and replacement cost coverage. Under actual cash value coverage, property is insured to the extent of its actual cash value. This coverage recognizes that the insurer is entitled to deduct reasonable depreciation from the value of the loss. Under replacement cost coverage, the insured is entitled to the full cost of repair or replacement without any deduction for depreciation.

[21] A main objective of property insurance is indemnity, and a policy providing for actual cash value coverage is a pure indemnity contract. Actual cash value recovery puts insureds in the position they were in before the loss. Since most property depreciates over time, actual cash value is equivalent to replacement cost less depreciation. So actual cash value recovery prevents insureds from profiting or benefiting from their loss.

[22] But actual cash value recovery poses a problem for insureds who want to build a similar structure to replace the insured property that was damaged or destroyed. Because of depreciation, these insureds will incur a cash shortfall, which they may not be able to afford, and which will thus prevent them from reconstructing their damaged structure.

[23] Replacement cost insurance solves this problem. It goes beyond the notion of indemnity. It recognizes that depreciation, or the deterioration of a property over time, is an insurable risk. Replacement cost insurance, in effect, insures depreciation: the difference between replacement cost and actual cash value. So, under replacement cost insurance, if insureds do indeed repair or replace their damaged property, they are entitled to recover from their insurer the full cost of the repairs or the replacement. They can replace “old” with “new”. In that sense, even though replacement cost insurance makes insureds better off and violates the indemnity principle, it is justifiable, because without it, many property owners would be unable to cover the shortfall caused by the depreciation of their damaged or destroyed property.

[24] But, allowing insureds to replace old with new raises a concern for the insurance industry. The concern is moral hazard: the possibility that insureds will intentionally destroy their property in order to profit from their insurance; or the possibility that insureds will be careless about preventing insured losses because they will be better off financially after a loss.

[25] To put a brake on moral hazard, insurers will typically only offer replacement cost coverage if insureds actually repair or replace their damaged or destroyed property. If they do not, they will receive only the actual cash value of their insured property. Insurers also limit replacement cost coverage to an amount defined in the insurance policy. These two conditions – insistence on actual repair or replacement and limiting replacement cost to a defined amount – are found in the appellants’ policy with Intact.
Additionally, the court also sets out basic principles of interpreting insurance contracts:
[27] The guiding principles for interpreting insurance policies are well established, and were concisely summarized by Rothstein J. in Progressive Homes Ltd. v. Lombard General Insurance Co. of Canada, 2010 SCC 33 (CanLII), [2010] 2 S.C.R. 245, at paras. 21-24.

[28] An insurance policy is a contract, and the primary goal of contract interpretation is to give effect to the intention of the parties. If the policy provision in question is unambiguous, the court gives effect to the parties’ intention by giving effect to the provision’s plain and ordinary meaning. In doing so, and as interpretive aids, the court should take into account the provisions of the policy as a whole, the surrounding circumstances and the “commercial atmosphere” in which the insurance policy was contracted for, and the general purpose of insurance: see Consolidated Bathurst Export Ltd. v. Mutual Boiler & Machinery Insurance Co., 1979 CanLII 10 (SCC), [1980] 1 S.C.R. 888, at para. 26.

[29] If the provision is ambiguous – that is, it is reasonably capable of more than one meaning – then the court applies the following rules: it should prefer an interpretation that is consistent with the reasonable expectations of the parties, as long as that interpretation can be supported by the text of the policy; it should avoid an interpretation that would give rise to an unrealistic result or that would not have been contemplated by the parties at the time the policy was contracted for; and it should strive for an interpretation that is consistent with similar provisions in other insurance policies.

[30] If the rules for resolving ambiguity are inadequate, then the court should interpret the provision contra proferentem, “against the offeror” – that is against the party who drafted the policy, the insurer. In applying the rule of contra proferentem, courts should construe coverage provisions broadly and exclusion provisions narrowly.

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