November 30, 2015 by Michael S. Teitelbaum, partner; and Yulia Pesin, associate, Hughes Amys LLP
The “absolute pollution exclusion” is a standard exclusion clause commonly found in Commercial General Liability (“CGL”) policies. It purports to preclude coverage for losses arising out of the discharge or escape of pollutants at or from an insured’s premises.
The term “pollutant” is commonly defined in CGL policies as including “any solid, liquid, gaseous or thermal irritant or contaminant, including smoke, vapour, soot, fumes, acids, alkalis, chemicals and waste. Waste includes materials to be recycled, reconditioned or reclaimed”.
Recently, the British Columbia Court of Appeal, in Precision Plating Ltd. v. Axa Pacific Insurance Co (BCCA 277, 2015), considered the leading case law on this provision, and appears to have broadened the approach to determining its application.
By way of background, in Zurich Insurance Co. v. 686234 Ontario Ltd, (O.J. No.4496, 2002) the Ontario Court of Appeal was the first Canadian court to formulate an approach to the interpretation of this pollution clause. In Zurich, the issue before the Court of Appeal was the scope of the absolute pollution exclusion.
Given the lack of Canadian jurisprudence at the time, the court undertook a comprehensive analysis of the history and purpose of the exclusion clause, including a review of relevant American case law and academic writing. In doing so, the court cited the view of American professor J.W. Stempel, who concluded that the pollution exclusion was meant to bar “coverage for classic environmental degradation pollution and not tort claims previously conceded to be within the scope of standard CGL coverage.”
The court also summarized two divergent lines of American jurisprudence on the interpretation of the absolute pollution exclusion. In the first, the American courts adopted what the Court of Appeal referred to as a “hyperliteral” interpretation of the wording of the exclusion. This approach often resulted in excluding claims arising from common hazards that were not normally viewed as pollution.
The second line of cases applied a contextual interpretation to the exclusion clause, taking into account the context of the insurance policy, the drafting history and the purpose of the exclusion, as well as the presence of any ambiguity in the wording of the clause.
The court in Zurich found the second line of American cases more persuasive and, accordingly, adopted what it referred to as a “connotative contextual construction” approach. In applying this approach, the court found that the pollution exclusion in Zurich’s policy was overtly broad as its literal dictionary interpretation would render carbon monoxide a “pollutant.”
The court therefore held that the exclusion clause was ambiguous and that the ambiguity was to be resolved in favour of the insured. Further, given the historical context of the exclusion, the court concluded that its purpose was to exclude “active industrial polluters of the natural environment” and not coverage for claims such as carbon monoxide emission from a faulty furnace of a residential landlord.
In the result, the court held that Zurich had both a duty to defend the claim and to indemnify the insured for any damages found against it.
In Precision, the British Columbia Court of Appeal appears to have further expanded the scope of the pollution exclusion clause. In the case, the insured was in the business of electroplating. It was sued by several tenants of the commercial strata building in which it was located for damages resulting from chemical solutions that seeped from the insured’s vats into the neighbouring businesses. The seepage of the chemical solutions was caused by a fire that broke out in the insured’s premises resulting in the activation of its sprinkler system which in turn caused its chemical vats to overflow. The insured held a CGL policy with Axa: however, Axa denied coverage based on the absolute pollution exclusion found in its policy.
The British Columbia Court of Appeal overturned the lower court decision and found that the pollution exclusion in Axa’s CGL policy excluded damages caused by the release of the insured’s toxic chemicals, which itself was partially caused by the fire. The court reaffirmed the connotative contextual interpretative approach espoused in Zurich. However, it qualified the application of this approach by stating that it was necessary only when the literal dictionary interpretation of the exclusion clause would fail to result in a commercially sensible interpretation of the policy. Specifically, the court took the following approach:
“A strict and literal interpretation of the CGL Policy would exclude coverage for liability arising out of a release of the chemicals stored by Precision. I understand Zurich… to suggest that a contextual examination of the policy is appropriate where a literal interpretation may lead to a result that is inconsistent with the insured’s reasonable expectations or is inconsistent with the main purpose of the insurance coverage.”
The court found that the trial judge erred in his analysis by framing the issue “as a question of causation of the damages, rather than causation of the liability.” Specifically, the Court explained that the CGL policy, read with the exclusion, afforded coverage for the insured’s source of liability as alleged in the pleadings and not for the potential damages of the plaintiff.
The distinction between the cause of the damage versus the source of the liability was also emphasized in Zurich, where the court held that “it is necessary to understand that the exclusion focuses on the act of pollution, rather than the resulting personal injury or property damage.”
In Zurich, for instance, the source of the insured’s liability was the faulty maintenance of its furnace, which is not an act of pollution. The cause of the damages alleged by the plaintiffs, however, was the escape of carbon monoxide, which under a literal dictionary interpretation of the absolute pollution exclusion clause could be classified as pollution.
In contrast, in Precision, both the source of the insured’s liability and the cause of the damage to the plaintiffs was the escape of toxic chemicals from the insured’s property, which according to the court, clearly fell within the common sense meaning of the pollution exclusion.
With respect to the absolute pollution exclusion, several general principles can be derived from the case law. The courts’ paramount concern appears to be to ensure that the application of the exclusion clause leads to commercially reasonable results. Where a reasonable application of the exclusion cannot be achieved, the courts favour a contextual, or in the words of the Zurich decision, a “connotative contextual construction” approach. Thus, the exclusion’s wording and its historical objective are relevant to the coverage analysis. However, it appears that the ultimate outcome will turn on the nature of the business that causes the pollution exposure.
In Zurich, despite the fact that the language of the pollution exclusion supported a broad application of the clause, the court declined a “hyperliteral” interpretation of the exclusion. Instead, it introduced a connotative contextual approach and appeared to limit the scope of the exclusion to “active industrial polluters.”
In Precision, the British Columbia Court of Appeal continued to espouse the connotative contextual construction approach. However, the court highlighted the importance of framing the analysis in terms of the source of the insured’s liability rather than the cause of the plaintiff’s damage. In doing so, it held that a literal interpretation of the exclusion clause can be applied in instances where it would lead to a commercially sensible interpretation of the policy.
Arguably, the British Columbia Court of Appeal has simply added another layer to the analysis by saying that a literal approach can be taken in the appropriate case but, if not, the contextual approach should be used. More importantly, in both cases, the courts emphasized that the application of the absolute pollution exclusion is strongly dependent on the actual business activities of the insured. Given this most recent development, we await with interest how the absolute pollution exclusion will be applied in future cases.
Michael S. Teitelbaum is a partner with Hughes Amys LLP. Yulia Pesin is an associate with Hughes Amys LLP. Hughes Amys is a member firm of The ARC Group of Canada, a network of independent law firms across Canada.