Can Restaurant Owners State a Claim Against Insurance Companies for Income Lost Due to COVID-19 Shutdown Orders?

As of now, "no," but that could soon change.

Since the thick of the COVID-19 pandemic, many businesses that took an economic hit due to the shelter-in-place orders have sued their insurance providers for denying coverage of their claims. While most of the lawsuits were initially filed in state court due to the nature of the dispute (breach of contract, violation of the Texas Insurance Code, etc.), more often than not, the cases were removed to federal court. Thus, federal courts have increasingly been asked to decide if economic losses resulting from government shutdown orders issued due to COVID-19 should be covered under commercial insurance policies. With little to no guidance from Texas law on this issue, federal courts have relied on their own precedent (specifically, the requirement that there be tangible destruction to covered property for there to be "physical loss of or damage to property"), and have dismissed nearly all of these lawsuits.

Several Plaintiffs have appealed their cases to the Fifth Circuit Court of Appeals, arguing that under a proper application of Texas' rules of contract construction, the term "physical loss and damage" includes situations where policyholders are limited from using much or all of their physical space, even without physical damage or structural alterations. The Fifth Circuit is currently weighing whether to reinstate multiple COIVD-19 insurance coverage lawsuits, two of which are Texas restaurant insurance coverage cases— Terry Black's Barbecue, LLC v. State Auto. Mut. Ins. Co., 514 F. Supp. 3d 896 (W.D. Tex. 2021) and Aggie Investments, L.L.C. v. Cont'l Cas. Co., 4:21-CV-0013, 2021 WL 1550479 (E.D. Tex. 2021). The Fifth Circuit has also been asked to certify questions to the Texas Supreme Court—chiefly, whether "direct physical loss of or damage to property" includes material deprivation of property or structural alterations only. ¹

The Terry case is the first COVID-19 coverage case to reach the Fifth Circuit; thus, the issue is a matter of first impression. If the Fifth Circuit revives the coverage claims, policyholders may be able to state a claim against insurance companies who deny coverage for their business interruption losses arising from COVID-19 government closure orders. If the denial is affirmed, COVID-19 and related civil authority orders will not qualify as a physical loss of or damage to property under property insurance policies.

For context, the Terry plaintiffs, the owners, and operators of two restaurants sued their insurance provider and broker for breach of contract, breach of duty of good faith and fair dealing, and violations of the Texas Insurance Code, as well as negligence arising from their losses due to COVID-19 government closure orders and the provider's denial of their insurance coverage claims. The policy at issue had multiple provisions under which the plaintiffs sought coverage—(1) Loss of Business Income, which guaranteed coverage for loss of business income during necessary suspensions of their operations caused by "direct physical loss or damage to the business or property"; and (2) Restaurant Extension Endorsement, which provided coverage for business interruption losses from the suspension of operations "due to the order of a civil authority" resulting from the actual or alleged exposure of the described premises to a contagious or infectious disease.

Plaintiffs argued that coverage was triggered under both of these provisions because state and local governments issued orders limiting gatherings and restricting operations of non-essential businesses, which, in turn, caused them to curtail and suspend their usual and customary business operations, resulting in business interruption and a loss of business income. The district court disagreed, and, relying on Fifth Circuit precedent (and other circuit court opinions), held that the term "physical loss of or damage to property" requires some showing of demonstrable, physical alteration of the property, and that pure economic damage is not enough. The district court further held that the extension endorsement did not apply because (1) the plaintiffs' businesses were never suspended; they continued to offer take-out services and, subsequently, limited capacity dine-in services; and (2) plaintiffs did not allege that the virus that causes COVID-19 was ever present at either of their restaurants.

Similarly, in Aggie, a tea-shop operator sued its insurance provider for breach of contract and declaratory judgment after the provider denied its coverage claim due to economic losses the operator sustained after shelter-in-place orders were issued. It too had policy provisions that covered business income loss due to necessary suspensions of their operations caused by "direct physical loss or damage to the business or property" and necessary suspensions due to civil authority orders. But, unlike the Terry plaintiffs, the operator in Aggie could not utilize its facility at all, for a period of time, and was forced to suspend its business operations. Still, that wasn't enough. Like the Terry court, the Aggie court dismissed the suit, finding that neither clause was triggered because the term "direct physical loss of or damage to property" requires physical harm to the property.

Historically, the Fifth Circuit has required structural harm for a claim to be covered under the "physical loss and damage clause;" hence why the federal judges dismissed the original lawsuits. But, the owners and their supporters argue that interpretation is incorrect where, as in both cases, the term "loss" is not defined, and its ordinary meaning is different from "damage." Stated differently, "loss" and "damage" have separate meanings, and "loss" includes cognizable physical loss even if the property is not physically damaged. The plaintiffs urge the Fifth Circuit to expand the meaning of "physical loss and damage" to include property rendered non-functional for its intended purpose due to governmental-imposed closures and/or restrictions. Whether the Court will uphold the lower courts' dismissals is unknown. Oral arguments were held on November 1, 2021, and a decision should soon follow. Whatever the rulings (whether affirming or reversing the denial), they will likely affect not only the restaurant industry, but also other industries with similar pending claims. There are currently several other COVID-19 insurance coverage lawsuits on appeal. See, e.g., Berkseth-Rojas v. Aspen Am. Ins. Co., 513 F. Supp. 3d 724 (N.D. Tex. 2021) (dental practice); Coleman E. Adler & Sons, LLC v. Axis Surplus Ins. Co., CV 21-648, 2021 WL 2710469, at *1 (E.D. La. July 1, 2021) (chain of jewelry stores); Q Clothier New Orleans LLC v. Twin City Fire Ins. Co., CV 20-1470, 2021 WL 1600247 (E.D. La. Apr. 23, 2021) (men's clothing store); Lafayette Bone & Joint Clinic, Inc. v. Transp. Ins. Co., 6:21-CV-00317, 2021 WL 1740466, at *1 (W.D. La. May 3, 2021) (medical and surgical clinic).

¹ Other requested certified questions, include:

1. Business Income Coverage. Whether “direct physical loss of or damage to property” requires permanent or tangible alteration to the insured’s property?
2. Virus Exclusion. Whether the virus exclusion bars coverage when the insured’s losses were caused by or resulting from government orders, and not any virus.
3. Restaurant Extension Endorsement. Whether “the actual or alleged exposure” of the insured’s property to a contagious or infectious disease requires the “presence” of COVID-19 on the property?
4. Brief of Appellant. Terry Black's Barbecue, LLC v. State Auto. Mut. Ins. Co, Court of Appeals Docket #: 21-50078, at 54-55.