May a subcontractor default insurer recover sums paid to its policyholder when an arbitration panel finds that the policyholder is partially responsible for the costs to cure the default? In Lecesse Const. Serv., LLC v. Hudson Excess Ins. Co., 85 NY Misc. 1271(Supreme Court of New York, 2025), a New York  trial court held that the insurer had a right to recover over $5 million from the named insured/policyholder.

In Lecesse, Lecesse was the construction manager and general contractor for construction of a retirement community in Florida. Lecesse entered into a Master Subcontract Agreement with National Lumber Company and then issued a work order to National for about $2,800,000 to supply materials and labor for wood framing, wood trusses and sheathing for certain buildings included in the project. Lecesse terminated National’s work order after National failed to correct defective work and caused repeated and unremediated delays and expenses. About 12% of National’s work remained incomplete at the time of default. Lecesse subsequently retained US Framing to complete National’s work, paying US Framing about $7,1000,000.

Lecesse was a named insured on a subcontractor default insurance (SDI) policy underwritten by Hudson Excess Insurance Company. Prior to terminating National, Lecesse submitted a notice of claim to the SDI insurer. Lecesse then sent 12 proofs of loss to the SDI insurer in the cumulative amount of $8,078,929 million. The SDI insurer paid the full amount of the proofs.

The SDI insurance policy required Lecesse to cooperate in investigating and filing any claims against National. After an arbitration was initiated against National, Lecesse and the SDI insurer entered into a joint prosecution agreement to pursue claims against National. A three member arbitration panel issued a final award, awarding National to pay Lecesse $2,502,785.

The panel rejected Lecesse’s claim for recovery of the full amount the SDI insurer had already paid, $8,078,929. That panel found that Lecesse failed to mitigate its own damages, allowing National to perform substandard work for months and seeking  recovery of money paid to National that Lecesse should not have allowed to be performed in the first place.

The Panel also held that Lecesse failed to provide evidence substantiating areas where US Framing provided labor and services related to National’s deficient and incomplete work. Instead, the panel found that all items were charged against National regardless of whether they were for completing the original scope of work, making changes to the original design, repairing defective work performed by National, repairing defective work performed by other subcontractors, acceleration of the schedule, delays in the completion schedule or, “any other details”. The panel made particular mention that the damages Lecesse sought were 18 times the contract balance owed to National to complete the remaining 12% of the work.

After the award was entered, Lecesse submitted three additional proofs of loss to the SDI insurer, which the SDI insurer denied. Lecesse subsequently filed suit against the SDI insurer seeking payment on the last three proof of claim. The SDI insurer filed a counter-claim seeing recovery of the overpayment to Lecesse of $5,576,144. Each party filed competing motions for summary judgment. The trial court granted in part the SDI insurer’s  motion, allowing it to recover $5,576,144 from Lecesse.

In reaching its conclusion, the court looked at several provisions in the SDI policy, including the definition of covered Loss and the SDI insurer’s right of recovery against the named insured. The definition of Loss in the policy provided as follows.

Loss means Direct Costs and Indirect Costs paid by the Insured to the extent caused by a Default of Performance by a Subcontractor/Supplier under the terms of a Covered Subcontract or Purchase Order Agreement less (i) the unpaid Balance of the Subcontract or Purchase Order Agreement Price, and (ii) any other amounts retained or recovered by the Insured with respect to the Covered Subcontract or Purchase Order Agreement of the defaulted Subcontractor/Supplier.

The right of recovery clause stated as follows.

The Insured must immediately return any payments made by the Company upon a determination by a court, arbitrator, or other legally binding determination that the Loss does not arise out of Default of Performance.

In determining that the SDI insurer was entitled to recover $5,576,144 from Lecesse, the court noted that the term, “to the extent caused by a default” included in the definition of Loss, meant that costs Lecesse incurred, but were not caused by the default of National, were not covered Losses. Based on the language included and in places excluded from others in the SDI insurance policy, the court treated the arbitration panel’s award as the final determination of allocation of responsibility for the costs. As noted earlier, the panel found that Lecesse failed to mitigate its damages and did not establish the necessary causal link between all the damages sought and the National’s default. Looking to the language of the insurance policy, the court also held that the right to recovery clause required Lecesse to return any payments to the SDI insurer that the arbitration panel found were not established to have been caused by National’s default.

The court also rejected Lecesse’s argument that the SDI insurer was required to pay the last three proofs of loss, pursue a subrogation claim against National, and then initiate a separate arbitration against Lecesse to determine the extent of the loss from default of performance. Instead, the court held that the arbitration panel’s findings in the recovery action against National were binding on whether and how much the SDI insurer could recover from Lecesse.

The Lecesse decision highlights the perils of the policyholder or SDI insurer pursuing recovery from the defaulted subcontractor when the SDI insurer has paid some or all of the cost to cure the default. It also underscores the need for policyholders on SDI insurance policies to familiarize themselves the terms and conditions of the policy carefully, and the dangers of trying to work with subcontractors too long before defaulting them. Finally, it reinforces the need for policyholders to document early and throughout the default and completion process the reasonableness, necessity and cause of costs incurred of the completion/curing subcontractor. Layered onto the scheduling and cost demands of the project as a whole, these additional burdens can be substantial.

The attorneys in our Austin and Dallas office are available to answer any questions you may have. Please contact us at info@gstexlaw.com.

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