Smoke damage from the Los Angeles wildfires will increase uncertainty about the size of insured losses and may spark coverage questions for some policyholders.
Many commercial property insurance policies cover smoke as a cause of loss, but attorneys say businesses disrupted by the fires should review their policies and possible exclusions.
A recent federal court ruling in California confirmed that wildfire smoke is covered under an insurance policy. However, coverage questions may still arise, particularly for excess and surplus lines policies, experts say.
Business interruption insurance typically requires physical damage to trigger coverage, and smoke damage could be a contentious issue, said Ryan Lapine, Los Angeles-based partner at Venables LLP.
During the COVID-19 pandemic, insurers argued that a virus and a government shutdown order weren’t enough to trigger business interruption coverage, he said. With the exception of the North Carolina Supreme Court, “all courts, to my knowledge, have walked in lockstep with that analysis,” Mr. Lapine said.
“I would argue that smoke damage is physical damage. … It just raises the issue of whether or not the smoke is sufficient under the standards that have been argued for several years now to trigger coverage,” he said.
Many businesses that escaped direct fire damage will suffer significant business interruption losses due to smoke, access restrictions and power outages, said Marshall Gilinsky, a shareholder in Anderson Kill P.C.’s Boston office.
Policies typically require direct physical loss or damage as a coverage trigger, but “there’s a long line of cases that hold that things that physically affect your ability to use the property, like smoke, constitute direct physical loss or damage,” he said.
In Bottega LLC v. National Surety Corp., a federal case decided Jan. 10, the owner of a restaurant and a cafe sought coverage for income losses stemming from the North Bay wildfires in 2017, which prompted a state of emergency and road closures. While the fires did not reach the policyholder’s businesses, “they were inundated with smoke, soot, ash and char,” according to the decision.
In its ruling, the U.S. District Court, Northern District of California, held that wildfire smoke triggers coverage, citing precedent that contamination “that seriously impairs or destroys its function may qualify as direct physical loss.”
Insurers have historically recognized that smoke causes direct physical loss or damage in commercial property and homeowners policies, said Matthew O’Hanlon, Los Angeles-based partner at Barnes & Thornburg LLP.
In California, the test for direct physical loss or damage, which is the trigger for commercial property policies, is “physical alteration,” he said.
Some surfaces affected by smoke can be cleaned or remediated, but others can’t be remedied, and things must be discarded and replaced, Mr. O’Hanlon said.
“I suspect, based on past practice in connection with fire insurance claims in California, that insurers will recognize that smoke, in and of itself, even without disruption or other kind of more visible damage to a structure, constitutes direct physical loss or damage sufficient to trigger coverage,” he said.
Smoke damage is generally covered under commercial property policies, because it’s connected to fire damage and considered a standard peril, said Paul Glover, San Francisco-based vice president, real estate, at Woodruff Sawyer & Co. But the damage must be sudden and accidental, not due to agricultural or industrial operations.
It’s a different situation for the nonadmitted market, where policies are bespoke, and wordings can vary, Mr. Glover said.
“One key issue is going to be the distinction between physical damage and cosmetic damage,” he said. Another issue is wildfire exclusions, he said.
“We’ve seen the presence of wildfire exclusions pop up on some E&S property policies,” he said.
Smoke damage is a “key uncertainty” in estimating insured losses from the Los Angeles fires, said Tom Larsen, Oakland, California-based senior director of insurance solutions at CoreLogic Inc., during a Jan. 16 webinar.
“Fires have always created smoke, but we as a society are more sensitive to smoke now, and this is more of an urban fire. We haven’t seen a really large, extensive urban fire here when the smoke perimeter was large, much larger than the fire perimeter,” Mr. Larsen said.
Smoke damage mitigation can be costly, but terms and conditions are unclear, he said.
CoreLogic pegged the likely insured losses from the Eaton and Pacific Palisades wildfires at between $35 billion and $45 billion, including damage related to fire, smoke, demand surge, debris removal, other cleanup and additional living expenses.
Strong Santa Ana winds affecting Los Angeles County prompted public health officials last week to warn that dust and ash from the still-burning PacificPalisades and Eaton wildfires could affect air quality in the region.
