Insurer That Pays a Subguard Claim Does not Defraud the Subcontractor

To Prove Fraud Proximate Cause is Required
Post 5060

In US Framing International LLC v. Continental Building Company; Rick Adante; Todd Alexander; Brent Baker; Chris Italiano; Gregory Ray; Paul Soha, No. 23-6001, United States Court of Appeals, Sixth Circuit (April 7, 2025) resolved an insurance claim resulting from a claim of breach of contract by a subcontractor.

BACKGROUND

Continental Building Co., a general contractor, entered into a subcontract with U.S. Framing International for framing services on two student-housing projects. After a disagreement arose between the parties, U.S. Framing left the project, and Continental filed an insurance claim on the premise that U.S. Framing had breached the subcontract.

U.S. Framing then sued Continental and several of its officers, alleging that Continental had committed insurance fraud under Tennessee law. The district court granted Continental's motion to dismiss because U.S. Framing failed to plead any injury directly caused by Continental's allegedly fraudulent insurance claim.

Continental contracted with U.S. Framing for framing work on two student-housing projects-one in Knoxville, Tennessee, the other in Ann Arbor, Michigan. U.S. Framing began work on the projects in 2017. Things didn't go well. U.S. Framing and Continental soon began fighting about delays on the Knoxville project; each party blamed the other. In December 2017, the parties amended the subcontract. They agreed to "wipe the slate clean" by abandoning all delay-related claims against one another. That didn't quite solve things. The next month, the parties agreed that U.S. Framing would leave the Knoxville project. The parties executed another "change order," which provided that "[US Framing] will leave the job, and [Continental] will make no more payments, and these actions will suffice to complete the contract between the two parties with no recourse by either party".

In February 2018 Continental informed U.S. Framing that it was terminating the subcontract because of U.S. Framing's "failure to commence and satisfactorily continue correction of its previously noticed Subcontract defaults". Continental also stopped paying U.S. Framing on the Ann Arbor project.

SUBGUARD  INSURANCE

Subguard Insurance or Subcontractor default insurance (SDI) is a risk mitigation tool for general contractors to control subcontractor default risk. It protects GCs and upstream parties from subcontractors who default on contracts because they are unable to finish their work, are no longer in business, or perform work so poorly that it must be redone.

Several weeks after conclusion of the contract, Continental told its subguard insurer, Steadfast Insurance Co., that U.S. Framing had defaulted on the Knoxville subcontract  Continental submitted a claim under its policy for around $2.8 million, which it later amended to allege over $6 million in damages. Steadfast paid Continental more than $3.1 million on the claim.

LEGAL PROCEEDINGS

The dispute between U.S. Framing and Continental gave rise to several lawsuits. U.S. Framing first sued Continental in Michigan state court in 2018, seeking the remainder that Continental allegedly owed on the Ann Arbor subcontract. Eventually, the parties agreed to arbitrate claims relating to both the Ann Arbor and Knoxville projects. In May 2024, the arbitrator made a final determination, awarding U.S. Framing more than $2.9 million. Second, in 2021, U.S. Framing sued Continental in Tennessee state court, seeking a declaratory judgment that U.S. Framing did not default on the Knoxville subcontract, that Continental's losses did not arise out of any alleged default by U.S. Framing, and that Continental made material misstatements and omissions in submitting its subguard claim to Steadfast. After Continental removed the case to federal court, the district court dismissed the case, concluding that U.S. Framing's claim was time-barred.

U.S. Framing sued Continental and six of its executives under a Tennessee statute banning fraudulent or unlawful insurance acts. U.S. Framing alleged that Continental and its executives committed insurance fraud by making misrepresentations and omissions in submitting the subguard claim. The district court granted defendants' motion to dismiss.

COURT'S DECISION

On the merits, the court found that U.S. Framing did not plausibly allege that it suffered economic damages directly resulting from Continental's alleged insurance fraud. The court also concluded that U.S. Framing cannot recover attorney's fees or related legal expenses, nor can it recover the statutory penalty. The court affirmed the district court's decision.

INSURANCE FRAUD

In 2001, the Tennessee legislature passed an Act prohibiting insurance fraud. Two sections of the Act set forth criminal and civil insurance-fraud violations, respectively. Another section provides that "any person injured in the person's business or property by reason of a violation" may sue to "recover for the injury" from the fraudster.

The court concluded that because the funds' injuries were "purely contingent on harm to third parties," they were too remote and indirect "as a matter of law" to come within the doctrine of proximate cause.

U.S. Framing's claims, therefore, failed. Even if U.S. Framing is correct that, in the insurance-fraud context, "direct" means "proximate," Tennessee law governing fraud claims holds that contingent injuries, like the one U.S. Framing alleges here, are too remote to satisfy proximate cause.

ZALMA OPINION

Accusing an insurer of fraud because it paid a claim under a Subguard Insurance or Subcontractor default insurance (SDI) policy requires a finding of proximate cause by the insurer designed to harm the plaintiff. Lack of such evidence defeated the claim. It is difficult, if not impossible, to prove an insurer acted fraudulently by paying a claim its policy required.

(c) 2025 Barry Zalma & ClaimSchool, Inc.

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