Recently, a Federal District Court in Dallas undertook a close examination of what really happens to a claim for property damage when the policyholders sell their home, holding the insured may sell the property during claim handling without losing its right to assert a claim, but must still prove it incurred a direct financial loss considering the sale.  In Johnson v. Safeco Ins. Co. of Indiana, 3:15-CV-1939-B, 2017 WL 879211 (N.D. Tex. Mar. 6, 2017), the Johnsons experienced water damage to their home when a washer overflowed.  They considered repairing the damage and making improvements to the home, but decided to sell the home instead.  They sold the home to a developer and never disclosed the water damage to the buyer.  Three days before the closing, they made a claim with Safeco for the water damage.  They continued to occupy the home for several months after closing, but eventually vacated it and the developer demolished it.  During Safeco's handling of the claim, the Johnsons did not disclose the home had been sold and actively concealed the fact from the Safeco adjusters.

Safeco initially paid the Johnsons for the minor repairs they had completed.  The Johnsons were dissatisfied with the payment and invoked appraisal but, before the appraisal was complete, Safeco learned of the sale and cancelled the appraisal.  The Johnsons sued Safeco alleging their claim had been grossly underpaid.  Safeco moved for summary judgment on all claims, contending: (a) the Johnsons had no insurable interest in the home due to the sale and (b) the Johnsons had suffered no pecuniary loss due to the sale.

The court quickly concluded the policy terms and basic Texas insurance law only require the policyholder to have an insurable interest at the time the policy was issued and such an interest continued to exist at the time of the loss.  A later sale of the property will not change that interest.  The court stated: “Plaintiffs undisputedly owned the house when the Policy was issued and when the washing machine overflowed and caused damage. Plaintiffs have therefore met their burden of proving an insurable interest – apparent foot dragging in filing their claim with Safeco does not change that.”

The stickier question was whether the Johnsons had suffered any pecuniary loss after selling the home with no apparent diminution in value.  The positions of the parties were starkly stated: the Johnsons contended the correct measure of loss was the cost of repair and they were entitled to the actual cash value of the repair costs at the time of the loss regardless of whether any repairs were ever made. Safeco, in contrast, contended the insureds’ recovery was limited under both Texas law and the policy terms to the direct financial loss they incurred and they had incurred none due to the sale.

The court agreed with the Johnsons that a policyholder is not required to make repairs in order to recover actual cash value benefits.  Under Texas law, the insured has the option of collecting the money and retaining the property in its damaged state.  But the court also agreed with Safeco that basic principles of Texas insurance law limit a policyholder's recovery to the amount of the actual loss, and that there is no pecuniary loss when the loss has been made good by a related transaction.  Thus, the court concluded the policy's loss settlement provision is not a “blanket entitlement to recovery absent repair,” but rather is limited to the direct financial loss suffered by the policyholder.

This legal conclusion created a rather thorny fact issue which prevented Safeco from winning summary judgment.  The court concluded the parties must dig into the sale of the home and determine whether the Johnsons actually suffered a direct financial loss, examining the totality of the transaction.  This included the need to determine answers to questions such as whether the property sold for less than fair market value, the effect of the Johnsons' rent-free occupancy of the home for the several months between sale and demolition, whether the buyer knew of the water damage and whether it impacted its offer, and several other similar issues.  Although the court did not state it explicitly, proving a direct financial loss would appear to be the policyholders' burden under Texas law.

Editor’s Note: Although this ruling appears on the surface to be a loss for the carrier in this case, in some respects it is a win for the insurance industry as a whole, because it makes clear that a policyholder cannot sell the property (particularly at a profit) during claim handling and expect the court to disregard that fact.  It also implies that the sale of the property is a material fact, and thus active concealment of it may fall within the scope of the policy's fraud and concealment clause. Thus, it is in a policyholder's best interest to promptly and fully disclose a sale or contemplated sale and allow the insurer ample opportunity to inspect the property and complete its investigation before surrendering possession of the property.

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