The Appeals Court has expanded coverage for some commercial insureds by overruling a Superior Court decision denying an insured an additional $308,394 that it sought from its insurer, Farm Family Casualty Insurance Company (“Farm Family”), for loss of business income following a fire. When Verrill Farms sued Farm Family, the Superior Court ruled in favor of Farm Family’s interpretation of a policy exclusion that stated, “We will only pay for ordinary payroll expenses for 60 days following the date of direct physical loss or damage.”
On appeal, the Appeals Court reversed the Superior Court and ruled that, because of a contradiction in the policy, loss of business income, in some cases, had to be calculated by including the expense of ordinary payroll in the calculation of net profit or loss beyond the 60 day limit specified in the policy.
Verrill Farm’s business and business owner’s policy with Farm Family
Since 1922, Verrill Farm has operated a family farm consisting of some 200 acres in Concord and Sudbury. In the 1990’s, the business shifted from dairy farming to primarily operating a very successful farm stand in Concord.
In 2008, the farm stand carried insurance with Farm Family Casualty Insurance Company (“Farm Family”) under that company’s “Businessowners Advantage Insurance Policy” (“policy”). Verrill Farms’ policy from Farm Family provided, beside liability and property coverage, extra expense coverage to allow Verrill Farms to resume operations as quickly as possible after a loss and business income coverage to cover any loss of income suffered for a maximum of twelve months when operations were resumed at a temporary location.
The business income coverage provided:
We will only pay for loss of Business Income that you sustain during the ‘period of restoration’ and that occurs within 12 consecutive months after the date of direct physical loss or damage. We will only pay for ordinary payroll expenses for 60 days following the date of direct physical loss or damage
Under the policy, “Ordinary payroll expenses” included: (a) Payroll; (b) Employee benefits, if directly related to Payroll; (c) FICA payments you pay; (d) Union dues you pay; and (e) Workers’ compensation premiums” for all of Verrill Farms employees except: “(a) Officers; (b) Executives; (c) Department Managers; (d) Employees under contract; and (e) [Scheduled Job (i) Job Classifications; or (ii) Employees.”
The policy defined “Business income” as meaning:
(i) Net Income (Net Profit or Loss before income taxes) that would have been earned or incurred if no physical loss or damage had occurred…and
(ii) Continuing normal operating expenses incurred, including payroll.
A 2008 total fire loss of Verrill Farms’ farm stand and the business income claim
On September 20, 2008, a faulty ventilation fan caused a fire that completely destroyed the Verrill Farms’ farm stand property. As a result, Verrill Farms had a complete shutdown. Through a community effort, however, they were able to start operations out of a loaned trailer within 2 business days of the fire.
Verrill Farms had purchased an ordinary payroll limited coverage endorsement that provided additional indemnity for the cost of ordinary payroll employees, not to exceed sixty days, if it had been unable to resume operations immediately and therefore unable to generate revenue to cover the cost of these employees.
However, because Verrill Farms’ business operations resumed almost immediately, Verrill Farms continued to pay the salaries of all ordinary payroll employees from revenues generated by the resumption of operations. As a result, Verrill Farms made no claim for direct payment pursuant to the limited ordinary payroll endorsement.
But even though Verrill Farms never made a claim for a direct payment of the cost of its ordinary payroll employee, Verrill Farms did include the cost of ordinary payroll employees in its lost business income claim of $626,219. Farm Family refused to pay the loss amount that included Verrill Farms’ ordinary payroll costs. However, Farm Farm did pay $317,825 based on its interpretation of the policy.
The $308,394 discrepancy between the parties resulted entirely from the parties’ dispute over whether the cost of ordinary payroll could be included in the calculation of net profit or loss to determine business income under the circumstances where Verrill Farms had immediately resumed operations at temporary locations during the policy’s restoration period.
Superior Court decision for Farm Family reversed by Appeals Court
When the parties could not resolve their differing interpretations of the policy, Verrill Farms filed for a declaratory judgment in the Superior Court. In the Superior Court, Farm Family argued that it did not have to include Verrill Farms cost for its ordinary payroll expense during the period of restoration once the sixty-day limit contained in the policy expired. The Superior Court agreed with Farm Family’s position that it did not have to pay the cost of ordinary payroll beyond the sixty-day limit and granted summary judgment in Farm Family’s favor.
Verrill Farms appealed to the Appeals Court.
The Appeals Court stated that Farm Family’s argument would have been correct if Verrill Farms had been unable to resume operations during the period of restoration. The Appeals Court found, however, that the policy had two seemingly contradictory provisions that did not provide a methodology to calculate loss of business income where Verrill Farms was able to resume operations at an alternate location.
First, the Appeals Court found that in defining business income as net profit or loss and “continuing normal operating expenses incurred, including payroll” the policy presumed that there had been no resumption of business operations. Ordinary payroll expenses are not included in this calculation because they have presumably been paid separately for a period not to exceed sixty days and, since the business has not resumed operations, the ordinary payroll employees have been laid off.
Second, at the same time, the policy required Verrill Farms to resume operations as soon as possible, at the same or alternate location. Compliance with this requirement required Verrill Farms to incur the actual expense for ordinary payroll employees because these employees were necessary to continue operations once Verrill Farms had resumed operations.
The Appeals Court went on to state that by refusing to include the cost of ordinary payroll as a deduction from gross revenue in the calculation of net profit or loss Farm Family was artificially inflating Verrill Farms’ net revenue for the year after the fire. This artificial increase to net revenue therefore incorrectly decreased Verrill Farms’ actual loss of business income.
As a final result, the Appeals Court stated: “The only rational reading of the policy…is that it requires the loss of business income to be determined by the difference between the amount of net profit or loss earned during the partial resumption of operations and the amount of net profit or loss that Verrill Farms would have earned had no fire occurred.”
The Verrill Farms decision states the law in Massachusetts based on Supreme Judicial Court denying Farm Family further appellate review
The reversal of the Superior Court decision did not sit well with Farm Family. Fourteen days after the appeals court published his decision reversing the Superior Court, Farm Family filed a petition for rehearing with the Appeals Court. While that petition for rehearing was pending, Farm Family also filed a request for the Supreme Judicial Court to review the Appeals Court decision.
On November 26, 2014, the Appeals Court entered an order stating, “The petition for rehearing having been considered, it is ordered that the petition be, and the same hereby is, denied.” On December 17, 2014, the Supreme Judicial Court denied Farm Family’s application for further appellate review without comment.
As a result, the law in Massachusetts applicable to calculating loss of business income for insurance purposes, where an insured continues operations at another location, does not exclude ordinary income.
While the Verrill Farms decision relates to a set of facts and coverages that will not apply to many business loss claims, for the few insureds that have a similar loss, the decision can materially enhance an insured’s recovery under their policy. An agency may wish to consider to consequences of the decision.
1. If any insureds have had business income loss claims within the last couple of years, the agency may wish to call this decision to their insureds attention. If in insured’s claim involved a factual situation and a loss calculation similar to that involved in the Verrill Farm decision, the insured could possibly reopen the matter with the insurance carrier involved.
2. In marketing loss of business income and extra expense coverage, and agent call to an insured’s attention that the Verrill Farms decision makes the potential recovery for loss of business income substantially higher in Massachusetts if the insured is able to continue operation at a new location after a loss.
A copy of the decision can be accessed by clicking on this link: Verrill Farms, LLC v. Farm Family Cas. Ins. Co.