Court Ruling Clarifies
Economic Loss Rule
Arizona's economic loss
rule, which historically has offered protection to companies and individuals
accused of negligence or other torts, has been eroded by the recent
Valley Forge
decision
In Arizona, the “economic
loss rule” prevents a party to a contract from recovering economic damages for a
wrongful act (or “tort”) committed by the other party, unless the act results in
physical harm, either in the form of personal injury or damage to property that
was not central to the contract. Under the rule, the party that suffers monetary
harm can still take legal action, but his remedies are limited by the contract
(or “contract damages”).
Historically, the rule
has offered protection to companies and individuals accused of negligence or
other torts. That protection was eroded, however, by the Arizona Court of
Appeals in its March 2009 ruling in
Valley Forge Insurance Company v. Sam’s Plumbing, LLC.
Background. A
shopping center tenant contracted with a plumbing company, Sam’s Plumbing, to
perform gas line work in the tenant’s rented space. The work done by Sam’s
Plumbing caused an explosion that damaged not only the gas line but other
portions of the shopping center as well.
The shopping center was
insured by Valley Forge Insurance Company, which paid $1.1 million to the
shopping center’s owner to compensate him for the damage. Valley Forge then
filed a negligence lawsuit against Sam’s Plumbing to recover its $1.1 million.
Sam’s Plumbing asked the
trial court to dismiss Valley Forge’s suit, arguing that, since the shopping
center’s owner was not injured and his other personal property was not damaged,
the economic loss rule barred Valley Forge’s negligence claim. The judge agreed,
finding that the damage to the building itself was not “qualifying property
damage for the purpose of bringing a negligence claim.” He dismissed the suit,
and Valley Forge appealed.
Appeal. At the
Arizona Court of Appeals, Valley Forge argued that the economic loss rule did
not apply to its claim because the damage caused by Sam’s Plumbing’s negligence
was not limited only to the piping system (the subject of the contract between
the tenant and Sam’s Plumbing) or even to the tenant’s space, but also caused
more than a million dollars in damage to the shopping center. The Court of
Appeals agreed with Valley Forge, and the case was sent back to Superior Court
for trial.
In ruling for Valley
Forge, the Court of Appeals cited three factors that the Arizona Supreme Court
has instructed Arizona courts to consider in determining whether tort or
contract law should apply to a particular claim:
-
the nature of the
defect causing loss (i.e., whether the primary issue is quality or safety);
-
how the loss occurred
(e.g., whether from a slow deterioration or a sudden accident or calamity);
and
-
the type of loss for
which the plaintiff seeks redress.
On the third point, the
Court noted that if “damage occurs suddenly and accidentally, and the defect
poses an unreasonable risk of danger … the claim will sound in tort.”
The Court’s opinion went
on to state that Sam’s Plumbing’s “deficient work on the gas pipes did not
simply fall below the quality standards specified in the tenant’s contract [but
it] presented an extreme risk of danger to everyone and everything around the
piping. And the explosion was the very type of ‘sudden calamity or …
extraordinary event’ that is the hallmark of tort liability.”
Consequence for
Contractors. The Court of Appeals’ ruling in Valley Forge should, at
the very least, reaffirm to contractors the importance of performing work at a
high standard of quality. While we doubt that the protections afforded by the
economic loss rule have ever caused a contractor to take liberties in the area
of workmanship, the extent of the rule’s protection is unpredictable.
Further, a negligence
claim like the one recognized in Valley Forge is not subject to Arizona’s
statute
of repose (A.R.S. § 12-552). The statute of repose applies only to claims
“based in contract,” including breach of a contractor’s implied warranty of good
workmanship. The statute prevents an owner from suing the developer or
contractor for construction defects more than eight years after substantial
completion. If the owner discovers the defect during the eighth year, he has one
more year after discovery to file suit. Any claim for a hidden defect that is
not discovered during the eight-year period is extinguished.
However, the statute of
repose does not bar tort claims. As a result of Valley Forge,
construction defect lawsuits allegedly based in tort may undermine the statute’s
protection.
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