Spring, 2001
CLAIMS LAW UPDATE
DIMINISHED VALUE – IS IT COVERED?
(ref: Law of
Automobile Insurance: First Party Coverage, Paras. 1.04 and 4.01,
Law of Automobile Insurance: Business Auto Coverage, Paras. 4.01 and 4.03)
Diminished value, often referred to as DV, is by no means a new area of concern for auto insurers. For decades claims have been made, by both policy holders and third party claimants, to recover the diminished value of an automobile after it is damaged, but not totaled, in a covered occurrence. Recently, DV claims have become more prevalent as a result of consumer concern over the use, quality and safety of aftermarket and used parts in the repair of vehicle damage. This article will focus on the availability of first party coverage for DV claims.
WHAT IS DIMINISHED VALUE?
Diminished value is the loss in value of an automobile, or any property for that matter, after it is damaged. If an auto has a value of $4,000 before it is damaged and has a value of $1,500 after it is damaged, but before it is repaired, it has sustained a diminution in value of $2,500. With respect to first party coverage a claim for diminution of value is based on the auto’s diminished value after it has been repaired. This loss in value represents a loss to the insured which is a result of the physical damage to the vehicle. There are three forms of diminished value: inherent or perceived diminished value, repair related diminished value, and claims or insurance related diminished value.
Inherent or perceived diminished value results from the consumer’s perception that a damaged and repaired vehicle is not as valuable as a vehicle of the same year, make and model which was never damaged. This form of diminished value exists regardless of the quality of the repair work. The loss of value results from the perception that the vehicle will never regain its pre-loss value, even after proper repair. Consider that you are in the market to buy a recent model used car. You find two identical cars in the Sunday paper. Upon examining both cars you determine that they appear to be in similar shape, with no obvious defects. Being a cautious consumer, you ask both vehicle owners if their car has ever been in a collision. The first owner states “no” and the second owner states “yes”. On further inquiry you learn that the second vehicle sustained $3,000 in damage in a rear-end collision. Would you honestly offer to purchase this vehicle for the same amount of money as you would offer on the first? Most people would not and, thus, this represents a genuine loss to the vehicle owner. This is a form of damage for which a tortfeasor is legally liable and, as such, is covered under an auto policy’s liability coverage. It has also been claimed as damage under first party coverage.
Repair related diminished value results from improper or faulty repairs on the part of the repair facility. For example, the paint on the body panels is not a good match or inferior parts are used in the repair of the vehicle. Closely related to repair related diminished value is claim or insurance related diminished value. This form of diminished value results from the insurer disallowing certain repairs, disallowing the use of certain repair procedures, requiring the use of aftermarket, non-original equipment manufacturer parts (non-OEM), or requiring the use of used parts.
Aftermarket parts are not always of the same quality, strength or even made to the same specs as original equipment manufacturer (OEM) parts. Used or salvage parts may have existing damage which needs to be repaired before the part can be used on the insured vehicle and thus are not of like kind and quality as the part to be replaced on the covered auto. Used or salvage parts may not be OEM parts. Also, used parts may not have the same structural integrity, as a result of stress from a collision (which is often what resulted in their availability in the first place), as the part to be replaced. The insured may pick up the covered auto at the body shop only to find that the body panels are misaligned. If this is the result of the shop’s faulty workmanship the insured has sustained repair related diminished value. If the misalignment is the result of the use of non-OEM parts, as called for by the insurer in approving the repairs, the insured’s diminished value is claim or insurance related. As to the former, the shop can be held accountable for any damage the insured suffers. As to the latter, the insured will look to the insurer to do one or both of two things: pay for the proper re-repair of the vehicle and/or pay the resulting diminution in value.
BUT IS IT COVERED?
Now that we have addressed what diminished value is, let’s consider the question of whether it is covered. In short, the answer depends upon the jurisdiction. While some courts have characterized holdings that there is first party coverage for DV as the majority rule and cited decisions going back to the early 1920’s, many recent decisions have called the division among the courts a split of authority.
The analysis of coverage under first party property insurance is different than the analysis under liability coverage. Under liability coverage the insurer agrees to defend and indemnify the insured for liability resulting from a covered occurrence. The claimant must then prove the insured’s liability and the damages caused. What is or is not covered under first party coverages depends solely on the language of the policy and its interpretation by the courts.That a tortfeasor may be responsible for the damage and can be held liable for the payment of this type of damage does not affect what will be paid under first party coverage.
Courts have focused on two areas of the Personal Auto Policy (PAP), and similar provisions in the Business Auto Policy, in analyzing whether DV is covered. The first is the insuring agreement for Part D-Coverage for Damage to Your Auto. It promises to pay for “direct and accidental loss.” Regardless of their ultimate decision on whether DV is covered, many courts (and even some insurers) agree that the definition of “loss” can at least arguably include DV. The other policy language at issue is the Limit of Liability section which says in part:
In Carlton v. Trinity Universal Insurance Co., 32 SW3d 454 (2000) the Court of Appeals of Texas (14th District) observed that: “Trinity does not dispute that diminution in value is a ‘direct and accidental loss’ under the coverage agreement; rather, Trinity insists that its liability for the loss is expressly limited by contract to the amount necessary to ‘repair or replace the property with other of like kind and quality.’ Thus the issue is not whether the insurance agreement is broad enough to cover the loss, but whether the limit of liability is broad enough to cap Trinity’s obligation to pay it.”
Carlton had authorized Trinity to repair his car after it was recovered following a theft. There was physical damage to the vehicle and the thieves put 3,500 miles on it. Carlton “had no complaint with the extent, nature, or quality of the repairs Trinity made.” He did contend, though, despite the fact that there was no deficiency in the repairs, that the value of his vehicle was diminished. Carlton argued that an appraisal set the amount of the diminished value at no less than $449.90, and that when he traded the vehicle in the same day it was returned to him, he received $2,000 less than the Blue Book value. His claim for the “inherent diminished value” of his vehicle was rejected by the insurer.
The court recognized that while “repair or replace” is not defined in the policy, Texas courts have long held that in an auto policy these words mean: “the restoration of the automobile to substantially the same condition in which it was immediately prior” to the loss. Further, the vehicle “would not be [considered to have been] restored to the same condition if the repairs left the market value of the automobile substantially less than the value immediately” before the loss. Carlton asked the court to interpret the language broadly to “encompass any change in the value of the vehicle before and after the loss.” The court did not agree. It held that the policy language was clear, and made no provision for payment of DV where the property was repaired or replaced with like kind and quality. Accordingly, “any reduction in market value of the vehicle due to factors that are not subject to repair or replacement cannot be deemed a component part of the cost of repair or replacement.”
The court distinguished other cases where DV was awarded by pointing out that those awards often came in cases where the damages giving rise to the claim could be repaired, and the repairs were presumably not made or were not made adequately. In this case: “Carlton seeks to recover for a diminution in the value of his automobile resulting from damages that, in common understanding and parlance, are not subject to ‘repair’ (e.g., the additional mileage and the marketplace perception that a fully repaired vehicle is inferior to its never-damaged counterpart), but which nonetheless may adversely impact the vehicle’s market value.” In resolving the issue, the court pointed out that it was not deciding what it would take to make the insured whole or what would be the fair measure of recovery, as would be the case in a tort action. Rather, the rights and obligations were determined by the contract.
On the other hand, in Cazabat v. Metropolitan P & C Insurance Co., 2000 WL 1910089 (2000), a Rhode Island Superior court ruled that a summary judgment to dismiss a DV claim was inappropriate because the repair or replace language was, in its opinion, ambiguous. In Cazabat, two separate cases were considered with facts identical to Carlton, except for the extra miles put on during the theft. In both cases, the claimants agreed that the repairs had been “done to the best of human ability.” The court cited the division of opinion among other states as a factor in determining ambiguity. While the fact that states differ in interpreting a policy provision does not automatically make the provision ambiguous, the general consensus is that it is a factor which courts can use in making that determination. The different policy interpretation rules become important in resolving this dispute. Some states read a policy in favor of the insured without requiring that the policy be ambiguous. Others will give a policy its plain meaning and will not read it in favor of the insured unless it is ambiguous.
Among the states listed by courts as favoring first party coverage for DV are: Arkansas, Georgia, Kansas, Mississippi, Missouri, New York, North Carolina, Oregon, South Carolina, South Dakota, and Tennessee. Those cited by courts as denying first party coverage for DV include: Alabama, Arizona, California, Florida, Illinois, Kentucky, Massachusetts, Pennsylvania, South Dakota, and Virginia. Some states, such as Delaware and Texas would appear on both lists. In some states this is because there is an internal division of opinion which has yet to be decided by higher courts. In Delaware, one distinction appears to have been factual. In Delledonne v. State Farm Mutual Insurance Co., 621 A2d 350 (1992) the Superior Court of Delaware held that DV for a flood damaged car was covered. In O’Brien v. Progressive, 2000 WL 33113833 (2000), though, the Superior Court held that DV was not covered for a collision loss. The court said: “the Court sees a meaningful distinction between automobiles with ‘status as flood-damaged vehicles’ and cars that have been repaired after collisions.” Many of the recent decisions on this issue are not supreme court decisions, so it is important to follow this issue in your jurisdication.
A decision rendered specifically on the issue of use of non-OEM parts was made by an Illinois Circuit Court in Avery v. State Farm Mutual Insurance Co., 1999 WL 1022134 (1999). This was a class action based on the Illinois Consumer Protection Act alleging, among other counts, fraud, deception, and breach of contract. The court held that State Farm did breach its contract of insurance in using non-OEM parts because they were not of the “same kind and quality” and did not restore the vehicles to their pre-loss condition as required by the contract. It is important to keep in mind that, as with the decisions discussed above, jurisdictional variations and specific facts must always be considered. This decision held that the non-OEM parts at issue were not of the same kind and quality, which is not to say that all non-OEM parts are similarly deficient.
INDUSTRY RESPONSE
Insurer response to diminished value claims has been varied across the country. Some insurers are trying to avoid the potential for such claims by authorizing repair with OEM parts. Some insurers will authorize the use of OEM parts where the insured or the body shop are insistent, or where the vehicle at issue is a late model car. Still others will not authorize the use of OEM parts until repair is attempted with non-OEM parts and the repair is not satisfactory. Certainly the latter approach is hardly in keeping with the original cost saving intent for using non-OEM parts. In fact, this is somewhat like playing Russian Roulette. If the insured feels the car looks alright with non-OEM parts the insurer has saved some money. If not, the insurer pays twice for the same repair. It is also unlikely that the latter approach would be viewed kindly by an insured whose vehicle is in the repair shop longer than necessary, solely as a result of the insurer’s attempt to save money. Consider also that even if the repair with non-OEM parts looks alright, there is still a greater likelihood of a claim for diminished value than if OEM parts were used.
Some insurers have acknowledged that diminished value exists while others firmly argue that a vehicle can be returned to its pre-loss value through proper repair. Of those insurers which recognize diminished value, whether a claim for diminished value under first party coverage will be honored depends on the state of the law in the applicable jurisdiction, the policy language and the insured’s proof of diminished value.
In some instances state insurance departments have addressed the insured’s right to recover diminished value under first party coverage. For example, the Texas Department of Insurance issued a bulletin on April 6, 2000 stating that an insured may not recover diminished value “when an automobile is completely repaired to its pre-damage condition.” The department further noted that the language of the Texas auto policy does not require payment of, or even refer to, diminished value. Note that the standard ISO PAP is not approved for use in Texas, although the relevant policy language is substantially the same. In Texas, coverage for diminution in value is not precluded where the repair was completed improperly or where the vehicle does not function as it did before the loss. The intent is to avoid coverage for mere “perceived” loss, while retaining coverage for actual loss in appearance or function even where repair attempts appear to have been “proper.” The bulletin also provides that there is liability coverage for diminished value, and that it is possible for an insured to recover diminished value under uninsured/under- insured motorist coverage, which is a form of first party coverage under which the insured is entitled to recover damage for which the uninsured/underinsured tortfeasor is liable. While the Carlton court did not consider the bulletin for procedural reasons, its ruling is in accord with the intent of the bulletin.
ISO has also taken action in response to diminished value claims. In November of 1999 ISO filed an endorsement to the PAP which addresses coverage for diminished value claims under the policy’s first party property damage coverage. The endorsement, PP 13 01 12 99, Coverage for Damage to Your Auto Exclusion, adds a new definition as well as an exclusion to the PAP.
The ISO endorsement defines diminution in value as “the actual or perceived loss in market or resale value which results from a direct and accidental loss” and is intended to limit coverage to actual physical damage to the covered auto. The endorsement then continues: “We will not pay for loss to ‘your covered auto’ or any ‘non-owned auto’ due to ‘diminution in value’.” On the basis of this policy language, the first party insurer has no obligation to its insured for the payment of damages based on a reduction in value sustained as a result of a covered loss, be it a collision or other than collision loss. Essentially this language reinforces the policy’s intent to apply only to direct and accidental damage, with diminution of value being considered an indirect loss by the drafters of the policy language and the insurance industry.
Approximately thirty-five states have granted approval for the use of this exclusion. However, even though approved for use, the new policy language will not necessarily mean the end to first party diminished value claims. It is up to the insurer to adopt the new endorsement for use in its policies and the endorsement’s language will be subject to judicial interpretation. The existence of the endorsement may also be argued as evidence, or an admission by the insurance industry, that the unendorsed PAP is intended to cover diminished value claims.
CONCLUSION
As noted earlier, diminished value is currently an increased issue of concern for insurers as a result of consumer awareness. As consumers have become more educated about the existence of diminished value, and have questioned whether the insurer is handling first party property damage claims fairly and in keeping with the insuring agreement, many insureds have taken legal action against their insurers. In several cases the insurers have been accused of fraud, as a result of the use of non-OEM parts in the repair of insureds’ vehicles and attendant safety concerns. Several class action lawsuits are currently pending against insurers around the country, seeking damages under a variety of legal theories, including fraud, breach of contract, and bad faith. Currently, none of these cases has reached the appellate level so their full impact on the insurance industry is yet to be seen. However, policyholders have prevailed in the lower courts, such as the judgment in excess of 450 million dollars in Avery.
Where non-OEM parts are not at issue, first party coverage for DV under policies without the new ISO endorsement will depend on the jurisdiction’s policy interpretation rules, the specific type of DV being sought (were the repairs deficient or the best that could be done?), and whether the courts consider DV for the best repairs humanly possible to be a covered element of damage. Another factor may be the argument that the new endorsement is an admission by the industry that DV is arguably within the scope of coverage for unendorsed policies.
With changes in policy language will come additional court cases, challenging the validity of the new and untested language. Even if it is found that the change to the policy eliminates coverage for this aspect of first party claims, claims under unendorsed policies will continue to present a policy interpretation issue. Of course, diminished value will continue to be an area of exposure for insurers in third party property damage claims, and will still present the insurance professional with the challenge of determining the correct dollar amount for alleged diminished value.
FOR FURTHER INFORMATION OR COMMENTS:
mail to:
aei@aeiclaimslaw.com