The Economic Loss Doctrine (“ELD”) prohibits a party from recovering in tort for economic loss. The purpose of the ELD is to provide a clear distinction between the law of contracts and the law of torts; the law of contracts secures parties expectations while the law of torts is governed by the duty owed to the injured party. Over time, courts have struggled to create a balance between the two areas of law. While recent developments have abrogated the ELD in certain circumstances and jurisdictions, the ELD remains alive and well.
The ELD does not operate to prohibit recovery in tort when the failure of an item causes personal injury or damage to “other property.” i.e
., damage to property other than the item itself. The general rule in most jurisdictions for defining “other property” is what has become known as the integrated systems approach. Under the integrated systems approach, damage to an integrated system by a defective system component is not considered damage to “other property,” therefore allowing for application of the ELD. Fine distinctions can eviscerate the “other property” standard, however, which causes significant disagreement in jurisdictions applying the integrated systems approach. For example, almost every product or fixture contains smaller parts. Courts have struggled to define what is or is not part of an integrated system.
Conversely, under the “bargained for” approach, tort recovery is barred when a defective product causes the type of damage one would reasonably expect as a direct consequence of the failure of the defective product. Here, the “other property” exception is narrowed and the courts are more likely to apply the ELD. The Michigan Supreme Court explained in Neibarger v. Universal Cooperatives, Inc.
, 486 N.W.2d 612, 620 (Mich. 1992):
The proper approach requires consideration of the underlying policies of tort and contract law as well as the nature of the damages. The essence of a warranty action under the UCC is that the product was not of the quality expected by the buyer or promised by the seller. The standard of quality must be defined by the purpose of the product, the uses for which it was intended, and the agreement of the parties. In many cases, failure of the product to perform as expected will necessarily cause damage to other property; such damage is often not beyond the contemplation of the parties to the agreement. Damage to property, where it is the result of a commercial transaction otherwise within the ambit of the UCC, should not preclude application of the economic loss doctrine where such property damage necessarily results from the delivery of a product of poor quality.
Application of this “bargained for” approach is the modern trend. Under this approach, if it was within the contemplation of the parties that, for example, a defective pipe would cause an explosion within a power plant and the plaintiff “should have internalized some of the cost” as part of the risk of doing business, the ELD applies and the “other property” exception is rejected. Detroit Edison Co. v. NABCO, Inc.
, 35 F.3d 236, 242 (6th Cir. 1994). If it is foreseeable that failure of a structural beam will cause damage to other property, the ELD applies. Dakota Gasification Co. v. Pascoe Bldg. Syst.
, 91 F. 3d 1094, 1099 (8th Cir. 1996).
These different approaches can of course lead to different results. It is therefore important to understand how your respective jurisdiction defines “other property” to determine if the ELD will apply.