April 30, 2009 (InsuranceJournal) -- A federal court ruled that an insurer has a duty to defend and indemnify a flooring company which installed carpets and tiles in a Massachusetts office that were so fume-ridden, they made the building unusable.

In a closely watched legal decision which overturned a lower court's ruling, the First Circuit Court of Appeals found that the CGL policy issued by Essex Insurance Corp. to BloomSouth Flooring Corp. provides coverage for property damage even when that damage is intangible - in this case, a pervasive odor.

The case centered on a construction project nine years ago at the headquarters of Boston Financial Data Services (BFDS). BloomSouth was a subcontractor on the project; it in turn hired two separate subcontractors to supply and then install carpeting in BFDS' building.

Shortly after the work was completed, however, employees began complaining their offices smelled like a "locker room." Some complained of health problems from the fumes -- a problem sometimes referred to as "Sick Building Syndrome."

BloomSouth's subcontractor tore up and re-carpeted the floor, but the smell persisted and worsened. To fix the problem, BFDS eventually paid $1.4 million to hire new contractors to repair the problem, and then sued BloomSouth. Lawyers for BFDS argued that the defective carpeting made the space unusable and required BFDS pay to repair the carpet, ventilation and other pieces of the building to remedy the problem.

BloomSouth sought coverage under its CGL policy. Essex, citing the lack of physical damage as well as other policy exclusions such as business risk, declined to pay. The U.S. District Court in Boston upheld Essex's denial of coverage.

The First Circuit disagreed, and found the nature of the damage rendered the office unusable and that business risk exclusions written into the policy did not apply to the situation.

The case, some legal scholars say, could have future implications for building defect claims in the Bay State.