Scottsdale Indemnity Company, et al v. Village of Crestwood, et al

Filing

Filed opinion of the court by Judge Posner. AFFIRMED. Richard A. Posner, Circuit Judge; Diane P. Wood, Circuit Judge and David F. Hamilton, Circuit Judge. [6380809-3] [6380809] [11-2385, 11-2556, 11-2583]

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In the

United States Court of Appeals
For the Seventh Circuit
Nos. 11-2385, 11-2556, 11-2583
S COTTSDALE INDEMNITY C O . and
N ATIONAL C ASUALTY C O .,
Plaintiffs-Appellees,
v.

V ILLAGE OF C RESTWOOD, et al.,
Defendants-Appellants.
Appeals from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 09 C 4472—Virginia M. Kendall, Judge.

A RGUED JANUARY 13, 2012—D ECIDED M ARCH 12, 2012

Before P OSNER, W OOD , and H AMILTON, Circuit Judges.
P OSNER, Circuit Judge. This appeal in a diversity suit
governed by Illinois law requires us to interpret the
pollution exclusion from coverage found in most general
liability insurance policies. The most common policy is
the “commercial general liability policy” drafted by the
Insurance Services Office and purchased by businesses

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to insure against losses arising out of general business
operations. 9A Steven Plitt et al., Couch on Insurance § 129:1,
pp. 129-5 to 129-7 (3d ed. 2005). The policies at issue in
this case are “public entity general liability policies,”
which are issued to municipalities to cover analogous
risks and contain the same pollution exclusion as the
commercial general liability policy.
Two insurers sue for a declaration that they have
no duty either to defend a series of tort suits brought
against their insureds (the Village of Crestwood, Illinois,
and past and present Village officials) or to indemnify
the insureds should the plaintiffs in those suits prevail.
The district court, holding that the allegations in the
tort complaints triggered the pollution exclusion,
granted summary judgment for the insurers, precipitating these appeals, which are multiple because there
are a number of different declaratory-judgment suits.
Crestwood is a small Chicago suburb (population
11,000) that supplies its residents with water obtained from both Lake Michigan and wells that it owns,
and bills the residents for the water. According to the tort
complaints, in 1985 or 1986 Crestwood’s mayor and
other Village officials learned from state environmental
authorities that one of the wells was contaminated
by perc (P CE— perchloroethylene, also know n
as tetrachloroethylene). A solvent widely used in dry
cleaning, perc is a common contaminant of soil and
groundwater and is more difficult to clean up than oil
spills are; it is a carcinogen to boot. Agency for
Toxic Substances & Disease Registry, U.S. Department

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of Health & Human Services, “Toxicological Profile
for Tetrachloroethylene” 55-59 (Sept. 1997), www.
atsdr.cdc.gov/toxprofiles/tp.18.pdf (visited Jan. 31, 2012).
Perc used by a nearby dry-cleaning establishment had
leaked into the groundwater tapped by the well. Village
officials promised the state authorities that the well
would be used only in emergencies. But instead, for
reasons of economy, the well continued to be used as
a source of the daily Village water supply—without
disclosure to the Village’s residents. The well remained
in use until 2007, and not until 2009 was it sealed. Illinois
Department of Public Health, Division of Environmental Health, “Water Well Sealing Form,” www.
villageofcrestwood.com/documents/CRESTWOOD_-_
WATER_WELL_SEALING_FORM_04-22-2009_15-50-371.pdf (visited Jan. 31, 2012).
Hundreds of Crestwood residents, having learned of the
contamination of their water supply from a series of
articles in the Chicago Tribune, sued the Village and past
and present Village officials in an Illinois state court
seeking damages for injury to health. In a parallel suit
the State of Illinois seeks an injunction requiring the
Village to finance “a site inspection to determine the
nature and extent of contamination” and take “all necessary steps to remediate the contamination.” All these
suits are pending.
The defendants’ insurance policies (primary policies
issued by Scottsdale and excess policies issued by National) exclude from coverage “ ‘bodily injury,’ ‘property
damage,’ or ‘personal injury’ arising out of, or ‘wrongful

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act(s)’ which result in the actual, alleged or threatened
discharge, dispersal, seepage, migration, release or
escape of ‘pollutants’ at any time,” and also exclude from
coverage expenses arising from orders for “cleaning
up . . . or in any way responding to, or assessing the
effects of pollutants.” “Pollutants” are defined as “any
solid, liquid, gaseous or thermal irritant or contaminant,
including smoke, vapor, soot, fumes, acids, alkalis, chemicals and waste.” There are slight differences in the
wording of the various policies but they are immaterial
and we ignore them.
There is no doubt that perc is a “contaminant” within
the meaning of the policies; and the tort plaintiffs are
complaining about its “dispersal” by the Village from
the contaminated well to their homes via the system of
water mains that connects the well to the homes. The
problem with stopping there and affirming the district
court in one sentence is that a literal reading of the pollution exclusion would exclude coverage for acts remote
from the ordinary understanding of pollution harms and
unrelated to the concerns that gave rise to the exclusion.
See Pipefitters Welfare Educational Fund v. Westchester Fire
Ins. Co., 976 F.2d 1037, 1043-44 (7th Cir. 1992) (Illinois
law); Bernhardt v. Hartford Fire Ins. Co., 648 A.2d 1047,
1052 (Md. App. 1994); cf. Porterfield v. Audubon Indemnity
Co., 856 So. 2d 789, 800-01 (Ala. 2002).
Suppose a tanker truck filled with perc crashes into
a bridge abutment, spilling its liquid cargo, and another
vehicle skids on the wet surface of the highway into
the abutment, injuring the driver. Perc is both a contami-

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nant and a cause of the bodily injuries in this example.
But it would be absurd to argue—and the insurers do not
argue—that a claim arising from such an accident would
be within the pollution exclusion, since in no reasonable sense of the word “pollution” was the driver a
victim of pollution. Our Pipefitters opinion, citing cases
that hold the exclusion inapplicable to “injuries arising
from an individual’s ingestion of malathion during a
municipal pesticide-spraying operation,” “paint damage
to vehicles which occurred during the spraypainting
of a bridge,” an “apartment-dweller’s ingestion of
lead paint,” and a “release of asbestos particles during
installation, handling and removal of insulation,”
noted that all these cases “involve injuries resulting
from everyday activities gone slightly, but not surprisingly, awry. There is nothing that unusual about
paint peeling off of a wall, asbestos particles escaping
during the installation or removal of insulation, or
paint drifting off the mark during a spraypainting job. A
reasonable policyholder, these courts apparently believed, would not characterize such routine incidents
as pollution.” 976 F.2d at 1043-44.
Generalizing, the Supreme Court of Illinois has interpreted the pollution exclusion to be limited to harms
arising from “traditional environmental pollution.”
American States Ins. Co. v. Koloms, 687 N.E.2d 72, 82 (Ill.
1997), involved a furnace that leaked carbon monoxide,
injuring several workers in the building that contained
the furnace. As in the cases discussed in Pipefitters, there
was no environmental damage and the court held the
pollution exclusion inapplicable.

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A more perspicuous formula than “traditional environmental pollution” would be “pollution harms as
ordinarily understood.” That formula would also
exclude the case of the leaking furnace; for think of what
a misuse of language it would be to say that the
workers had been injured by pollution. If one commits
suicide by breathing in exhaust fumes, is that death by
pollution?
We can make further progress by thinking about
reasons for exclusions from insurance coverage. The
reasons do not include fear by insurance executives of
losses by insureds. The business of insurance is covering
losses. The more policies written, the better from the
insurance company’s standpoint—but this is provided
the company can estimate within a reasonable range
the size of the losses that it is likely to be required to
reimburse the policyholders for. Otherwise it can’t set
premiums that will be high enough to compensate
it for the risk of having to reimburse the losses it’s insuring, without being so high that no one will buy its
polices.
Insurance companies use statistical methodologies
(actuarial science) to calculate “expected losses”—the
sum of the insured losses, if they occur, discounted (multiplied) by the probability of loss. The higher that probability or the greater the loss if it occurs, the steeper
the insurance premium must be in order to be compensatory. Insurers do not write policies when they can’t calculate expected losses, since without such a calculation
the determination of how high a premium to charge

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would be arbitrary. So for example they will not insure
property against fire for more than the property is
worth—overinsurance would induce property owners
to be less careful about preventing fires, and how much
less careful they would be and how that would affect
fire losses would be very difficult to predict.
The effect of insurance on an insured’s behavior and
hence on the risk is called “moral hazard.” A related
problem, also illustrated by fire insurance, goes by the
name of “adverse selection.” (“Adverse self-selection”
would be clearer.) Overinsurance would attract people
who valued their property at less than its insured value,
and the addition of such people to the insurance pool
would increase the probability of losses and so drive up
premiums. Legitimate insurance purchasers would respond to the increased premiums by shifting their
business to companies that refused to overinsure, and this
would raise the probability of losses to the (shrunken)
insurance pool of the first company and drive its
premiums even higher. It would be a death spiral. The
fear of such spirals explains the exclusion of pre-existing
medical conditions from health insurance policies,
the requirement in the federal health-reform law that in
exchange for the elimination of that exclusion everyone
be required to have health insurance, and laws requiring
all motorists to have liability insurance as otherwise
premiums would be driven to high levels by the
most careless drivers, causing the safer ones to drop
insurance, although that is not the only reason for
such laws.

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Insurers of pollution liability would encounter difficulty
in estimating the expected loss from pollution and calculating the premium accordingly. Environmental damage is often very difficult to detect until it has become
extensive, let alone to predict, or estimate its likely
extent, in advance; and the financial consequences can
be horrific but again are unpredictable. Most of those
consequences are felt at the clean-up stage, and the
insureds in this case would like us to confine the pollution exclusion to those costs, noting (as remarked in the
Koloms opinion, 687 N.E.2d at 81) that the creation of
expansive clean-up liability under federal law triggered
the modern compendious pollution exclusion at issue
in this case.
The exclusion was first introduced into general commercial liability policies in 1970. But it was the passage in
1980 of CERCLA (Comprehensive Environmental Response, Compensation, and Liability Act, 42 U.S.C. §§ 9601
et seq.), the federal toxic-waste statute, and the threat and
later the reality of government-ordered cleanup costs
imposed by CERCLA, that prompted the industry to
adopt the current, broader exclusion. MacKinnon v. Truck
Ins. Exchange, 73 P.3d 1205, 1210-11 (Cal. 2003); Kent Farms,
Inc. v. Zurich Ins. Co., 998 P.2d 292, 295 (Wash. 2000);
Doerr v. Mobil Oil Corp., 774 So.2d 119, 126 (La. 2000).
When CERCLA was first enacted, insurers couldn’t
calculate the costs it would impose on insureds, and
while they could have dealt with this uncertainty by
amending their liability policies to authorize retroactive calculation of premiums for pollution insurance, cf.

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Employers Ins. of Wausau v. Titan Int’l, Inc., 400 F.3d 486,
487-88 (7th Cir. 2005), instead they limited their risk by
excluding coverage of pollution harms in the broadest
possible terms. To make assurance doubly sure they
added an exclusion for clean-up costs that was separate
from the exclusion for bodily-injury costs. The insurers in
this case invoke both exclusions because one of the plaintiffs in the suits against the insureds, the Illinois EPA, is
seeking an injunction that would command the Village
to take “all necessary steps to remediate the contamination,” and those steps would impose clean-up costs on
the Village.
Because as the opinion in Koloms notes the “predominate motivation” for excluding pollution coverage was
“avoidance of the enormous expense . . . of environmental
litigation,” 687 N.E.2d at 81 (emphasis in original), which
is a broader class of litigation than just CERCLA actions,
the pollution exclusion cannot be limited to clean-up
costs. Whittier Properties, Inc. v. Alaska National Ins. Co., 185
P.3d 84, 94 (Alaska 2008); Quadrant Corp. v. American
States Ins. Co., 110 P.3d 733, 741 (Wash. 2005); cf. Jeffrey W.
Stempel, “Reason and Pollution: Correctly Construing
the ‘Absolute’ Exclusion in Context and in Accord with
Its Purpose and Party Expectations,” 34 Tort & Ins. L.J. 1, 5
(1998). And it is not. For remember that the policies at
issue in this case contain separate exclusions for bodilyinjury costs and clean-up costs.
The main reason for the broad pollution exclusion is the
adverse-selection problem of which we gave examples
earlier. It is true that there is adverse selection only

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where the adverse factor, such as a pre-existing medical
condition or the very low value placed by a property
owner on his property, is invisible to the insurer, who
therefore can’t adjust the insurance premium to the greater
risk of loss from insuring those people—can’t in other
words separate its high-risk customers from its low-risk
ones and charge different premiums to the different
groups. But invisibility is a problem with pollution insurance too, as this case illustrates dramatically: deliberate
concealment by the insureds of the pollution is alleged. If
insurers can’t determine how likely a would-be buyer of
insurance is to pollute, coverage would force enterprises
that have a slight risk of liability for causing pollution
damage to subsidize the premiums of high-risk potential
polluters.
Insurers could have excluded coverage just for
knowing or deliberate polluting, which would have
done the trick in this case but would not be a complete
solution to the adverse-selection problem. A shopper for
pollution insurance who knows that he has a high risk
of accidentally polluting and being sued for it would, if
able to buy the insurance at the normal premium, contribute to the premium spiral that we‘ve described. Forcing
him to self-identify as a potential polluter by buying
a pollution-coverage rider to his general liability policy
(as otherwise he will fall within the pollution exclusion) separates high- and low-risk polluters.
The concerns that animate the pollution exclusion
were absent from the cases we discussed earlier, which
were typical tort cases in the sense of involving a sud-

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den occurrence the risks of which are well known and
that injures one or a few persons. That the occurrence
happens to be precipitated by a contaminant is incidental;
its presence makes the risk or amount of loss no more
uncertain than if, in our hypothetical case, the tanker
truck had spilled milk rather than perc. Koloms along
with many other cases makes clear that the type of
injury illustrated by that case and the cases cited in the
Pipefitters opinion fall outside the pollution exclusion.
See, e.g., American States Ins. Co. v. Koloms, supra, 687
N.E.2d at 77-79; Pipefitters Welfare Educational Fund v.
Westchester Fire Ins. Co., supra, 976 F.2d at 1043; Clendenin
Brothers, Inc. v. United States Fire Ins. Co., 889 A.2d 387,
396 (Md. 2006); Doerr v. Mobil Oil Corp., supra, 774 So. 2d
at 124-25; Western Alliance Ins. Co. v. Gill, 686 N.E.2d 997,
999-1000 (Mass. 1997); Westchester Fire Ins. Co. v. City
of Pittsburg, 768 F. Supp. 1463, 1470-71 (D. Kan. 1991);
Atlantic Mutual Ins. Co. v. McFadden, No. 90-5487
(Mass. Super. May 28, 1991), affirmed, 595 N.E.2d 762
(Mass. 1992); Cole v. Celotex Corp., No. 87-6170 (La. Dist.
Ct. Feb. 15, 1990), affirmed, 599 So. 2d 1058 (La. 1992); A-1
Sandblasting & Steamcleaning Co. v. Baiden, 632 P.2d 1377,
1379-80 (Ore. App. 1981), affirmed, 643 P.2d 1260 (Ore.
1982); contra, Nautilus Ins. Co. v. Country Oaks Apartments
Ltd., 566 F.3d 452, 455-56 (5th Cir. 2009) (Texas law); Peace
ex rel. Lerner v. Northwestern National Ins. Co., 596 N.W.2d
429, 438-40 (Wis. 1999).
The defendants point out that they didn’t originate
the contamination. That is irrelevant. Housing Authority
Risk Retention Group, Inc. v. Chicago Housing Authority, 378

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F.3d 596, 604-06 (7th Cir. 2004) (Illinois law); Kim v. State
Farm Fire & Casualty Co., 728 N.E.2d 530, 535-36 (Ill. App.
2000); Town of Harrison v. National Union Fire Ins. Co.,
675 N.E.2d 829, 832 (N.Y. 1996); but cf. Doerr v. Mobil Oil
Corp., supra, 774 So. 2d at 135-36 and nn. 17-18. The exclusion is of liability for harms resulting from the “dispersal,” “migration,” or “release” of contaminants, not
their creation or just their first distribution. Initially the
contamination by perc was confined to the groundwater
drawn by the well. But by distributing the water to the
residents of Crestwood the Village caused the perc to
migrate throughout the Village and inflict (or so it
is alleged) widespread personal injuries, along with
contamination of soil or structures that is likely to be
costly to eliminate. The insureds might as well be
arguing that because the Village has never manufactured perc it is responsible for none of the harms that
dispersing perc might cause. That would be like a murderer arguing that his victim was killed not by him but
by his gun.
The Village “caused” the contamination of its water
supply (it could have sealed the well a quarter of a
century ago, when it discovered the well was contaminated) in a perfectly good sense of the word, though
as in Nature Conservancy v. Wilder Corp., 656 F.3d 646
(7th Cir. 2011) (see also Wilder Corp. v. Thompson Drainage
& Levee District, 658 F.3d 802, 804 (7th Cir. 2011)), the
defendants did not introduce the contaminant into the
soil or groundwater. The contamination had an infinity
of authors, not only the Village and its officials but also

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the inventor of perc, the founder of Crestwood, and
maybe Jean Baptiste Point du Sable, who built a farm at
the mouth of the Chicago River in the 1780s and is
thought to be the first permanent non-native settler of
the Chicago area. None of the other authors could
be thought to have caused the contamination and
resulting injury in a sense of “cause” that is relevant to
legal liability.
The pollution exclusion would mean little if the
insured were required to have been the original author
of the pollution in order to be within the exclusion. Suppose leaks in the Village’s water mains caused by
negligent maintenance had allowed the perc from the
dry cleaner’s establishment to contaminate soil throughout the Village, causing property values to plunge and
necessitating heavy clean-up expenses. So long as the
Village had notice (actual or constructive) of the groundwater contamination at its well, it would be liable in
tort for having caused the pollution. Restatement (Second)
of Torts §§ 165, 822(b) (1979); In re Resource Technology
Corp., 662 F.3d 472, 475 (7th Cir. 2011); Redevelopment
Agency of City of Stockton v. BNSF Ry., 643 F.3d 668, 675-76
(9th Cir. 2011). The pollution exclusion would be largely
nugatory if held inapplicable to such a case, and how
is this case different?
Groundwater contamination, with resulting contamination of drinking water, is extremely common and a
fertile source of environmental litigation. See, e.g., Arrow
Gear Co. v. Downers Grove Sanitary District, 629 F.3d 633,
635 (7th Cir. 2010); Chico Service Station, Inc. v. Sol Puerto

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Rico Ltd., 633 F.3d 20, 23 (1st Cir. 2011); United States
v. Aerojet General Corp., 606 F.3d 1142, 1146 (9th Cir.
2010); U.S. Bank National Ass’n v. EPA, 563 F.3d 199, 20304 (6th Cir. 2009); Smith v. Carbide & Chemicals Corp., 507
F.3d 372, 375-76 (6th Cir. 2007); Olin Corp. v. Certain
Underwriters at Lloyd’s London, 468 F.3d 120, 123-24 (2d
Cir. 2006). But the Village and the other defendants in
this case argue that when an insured’s “core business
activity” consists of the manufacture or distribution of
the contaminated product, the pollution exclusion does
not apply, as otherwise the liability insurance policy
would not protect the insured against foreseeable risks
run by such a supplier. West American Ins. Co. v. Tufco
Flooring East, Inc., 409 S.E.2d 692, 697-98 (N.C. App. 1991).
This amounts to saying that there would be no adverseselection problem because the risk of pollution liability
would be obvious to the insurer, allowing the separation of
high-risk and low-risk insureds that we noted earlier. But
it would not be obvious, and the separation would not be
feasible, just because the insured was known to sell a
product (or use a production process) that could be
contaminated and thus spread contamination; the risk
would vary across producers. We're not surprised that the
only pertinent Illinois case rejects the “core business
activity” exception. Kim v. State Farm Fire & Casualty Co.,
supra, 728 N.E.2d at 535.
The insureds argue finally that this is not a pollution
case at all, because the amount of perc in the Village’s
water supply was below the maximum level permitted
by environmental regulations. But either the perc caused
injuries, maybe because the relevant regulations are

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too lax, or it did not and the tort suits will fail. All that
counts is that the suits are premised on a claim that
the perc caused injuries for which the plaintiffs are
seeking damages, and that claim triggers the pollution
exclusion. Although an insurer’s duty to defend his
insured depends on what the complaint alleges rather
than on the facts that emerge over the course of the litigation and that might or might not give rise to a duty
to indemnify, Pekin Ins. Co. v. Wilson, 930 N.E.2d 1011,
1016-17 (Ill. 2010); American States Ins. Co. v. Koloms, supra,
687 N.E.2d at 75; National Casualty Co. v. McFatridge, 604
F.3d 335, 338 (7th Cir. 2010) (Illinois law), it is doubtful
that the plaintiffs could have drafted complaints that
did not reveal that this was a pollution case. Would an
Illinois court accept as adequately stating a claim the
bare assertion that the Village of Crestwood and its
officials had by means unspecified caused cancer and
other illnesses in hundreds of Crestwood’s residents?
The insurers conceded at oral argument that the duty
to defend would be activated if so enigmatic a complaint
were allowed. The complaints actually filed, however,
describe in copious detail the conduct giving rise
to the tort suits, and in doing so inadvertently but unmistakably acknowledge the applicability of the pollution
exclusion.
A FFIRMED.

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