Second Circuit Holds No Coverage for COVID-19 Business Interruption Losses

The Second Circuit has now joined the Fifth, Sixth, Seventh, Eighth, Ninth, Tenth, and Eleventh Circuits in holding that no insurance coverage exists for business interruption losses caused by the Covid-19 pandemic and the associated government orders. In 10012 Holdings Inc. v. Sentinel Insurance Co. Ltd., No. 21-80-cv, Slip. Op. (2d Cir. Dec. 27, 2021), the insured fine arts gallery and dealership in New York City sought coverage under three provisions of its insurance policy for losses and extra expenses incurred when it suspended its operations in accordance with government restrictions on non-essential businesses during the Covid-19 pandemic. When the insurer denied coverage, the insured filed suit asserting claims for breach of contract and declaratory judgment. The United States District Court for the Southern District of New York dismissed the claims with prejudice, and the insured appealed to the United States Court of Appeals for the Second Circuit.

On appeal, the insured argued that it was entitled to coverage under the Business Income and Extra Expense provisions of its policy because the policy’s use of the term “direct physical loss,” which appeared in both provisions and which the policy did not define, included circumstances where the insured was merely deprived of access to its business property. However, the court observed that all New York courts applying New York law have soundly rejected the argument that business closures due to New York State Executive Orders constitute physical loss or damage to property. The court, therefore, held that, under New York law, the terms “direct physical loss” and “physical damage” in the Business Income and Extra Expense provisions do not extend to mere loss of use of a premises, where there has been no physical damage to such premises; those terms instead require actual physical loss of or damage to the insured’s property. Because the insured alleged only that it lost access to its property as a result of Covid-19 and the governmental shutdown orders, and not that it suspended operations because of physical damage to its property, the court held that the insured could not recover under either the Business Income or Extra Expense provisions.

The court similarly held that the insured was not entitled to coverage under the policy’s Civil Authority provision. First, the court observed that this provision required a “Covered Cause of Loss,” which was contingent on showing that the civil authority orders resulted from a risk of direct physical loss to property in the vicinity of the gallery. The executive orders at issue, in contrast, were the result of the Covid-19 pandemic and the harm it posed to human beings, not the risk of physical damage to property. The court asserted that shuttering a gallery because of possible human infection does not qualify as a “risk of direct physical loss.” Second, even assuming that Covid-19 itself posed a “risk of direct physical loss,” coverage under the Civil Authority provision required that the executive orders prohibiting access to the insured’s premises were prompted by risk of harm to neighboring premises. However, the insured’s complaint did not plausibly allege that the potential presence of Covid-19 in neighboring properties directly resulted in the closure of the insured’s property; rather, it alleged that the closure was the direct result of the risk of Covid-19 at the insured’s property. The court therefore concluded that the insured also could not recover under the policy’s Civil Authority provision.

With 10012 Holdings, the Second Circuit has now joined seven other federal appellate courts in holding that business losses resulting from Covid-19 and related shutdown orders do not constitute direct physical loss or damage to property, and, thus, do not trigger coverage under commercial property policies.    

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About The Property Insurance Law Observer
For more than four decades, Cozen O’Connor has represented all types of property insurers in jurisdictions throughout the United States, and it is dedicated to keeping its clients abreast of developments that impact the insurance industry. The Property Insurance Law Observer will survey court decisions, enacted or proposed legislation, and regulatory activities from all 50 states. We will also include commentary on current issues and developing trends of interest to first-party insurers.
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