by Steven D. Davis
March 26, 2012

The Foundation of a Contractor’s Construction Insurance Program

Editor’s Note: Click here to read Steven Davis’ articles in this insurance series that covers every type of insurance coverage a contractor needs. 

Builder’s risk insurance is one of the most important types of coverage a contractor should have. It insures property damage losses during construction and can protect the construction general liability coverage, since this is often insured with larger retentions or deductibles. Contractors often overlook builder’s risk insurance, but if this coverage has not been properly arranged, problems can occur.

Contract Documents

The construction contract between the owner and general contractor typically stipulates various insurance requirements, including liability, workers’ compensation, professional liability and builder’s risk insurance. Standard agreements, such as AIA Contract Documents or ConsensusDOCS, have acceptable language for builder’s risk, but contractors should be leery of vague manuscript contracts.  

To properly arrange builder’s risk insurance, contractors should carefully review construction contracts, and examine the property insurance requirements, which will specify who will be responsible for obtaining the coverage, who will be covered under the policy, limits or values, the scope of coverage and the policy period. Additional requirements, such as who will be responsible for deductibles under certain circumstances and waivers of subrogation, should be addressed in the construction contract. 

A Unique Risk

Projects under construction involve unique risks typically not considered by the forms, underwriting, and rating methods used to insure permanent buildings and/or their contents.  Many parties may own the covered property for a project under construction. 

This could result in unprotected materials because property for the project may be located at the jobsite, at an off-site storage location or in transit to the job or other locations. And in some cases, material fabrication might be performed at a staging location separate from the project site. Structures under construction are also much more susceptible to damage from hurricanes, windstorms, floods, etc. Construction project values will increase throughout the policy period until the project has been completed. 

These factors impact the exposure to losses and require a specialized knowledge from an insurance professional who has a construction perspective of underwriting, coverage ratings, claim adjustments and related services, such as engineering.

A standard builder’s risk policy does not exist. In many states, insurers do not have to file their builder’s risk forms or rates for regulatory approval, which means insurance companies can write the coverage as broadly as they choose. 

Builder’s risk policies specifically cover property loss exposures associated with construction projects. The policy provisions, definitions, insuring agreements and exclusions will vary, sometimes widely, among insurance companies. For this reason, contractors must pay close attention to the proposals and the final policy issued. 

The Installation Floater

An installation floater is a builder’s risk insurance policy that covers a specific type of property during installation. Most insurers use the same form to provide both builder’s risk and installation floater coverage to contractors.

The subcontractor installing highly valued equipment or materials not covered under the builder’s risk policy (such as roofs, HVAC and electrical) usually purchases an installation floater.  Individual installation floaters will not be necessary if you have an “all risk” builder’s risk policy covering all project contractors as “insureds.”

Responsible Parties

Builder’s risk insurance typically provides coverage under one policy for all parties who have an insurable interest in the project, including the project owner, general contractor and subcontractors. 

Many project owners prefer to purchase the builder’s risk policy to ensure the coverage has been arranged properly to protect their interests. For that reason, most standard construction contracts give the project owner the responsibility of obtaining the project’s builder’s risk coverage. If the owner chooses not to do this, the general contractor can purchase the coverage and transfer the cost to the owner. 

However, if the project owner does not have an ongoing construction program and is purchasing a one-off policy for a single project, it could be beneficial for the general contractor to provide the builder’s risk insurance. Because general contractors bear most of the risks associated with construction projects, they should be the ones most concerned with the quality of the builder’s risk insurance. 

Their regular involvement in the builder’s risk market allows them to build relationships that may give them access to more favorable terms and rates than what project owners can obtain.

If the owner or general contractor accepts responsibility for purchasing coverage, any contractor involved in the project should have access to the coverage information, including limits and deductibles and how those apply if a loss occurs. Subcontractors must obtain copies of policies and ask their insurance professionals to review them.

Coverage Specifications

Consider the following factors when  purchasing or evaluating the builder’s risk insurance procured by another party:

1. The policy should be an all-risk policy, subject to policy exclusions. 

2. Policy definitions are more important than many realize. For instance, debris removal is often limited to the “insured property.” 

3. Waivers of subrogation can be serious if they have not been reviewed with all exposures in mind. 

4. Delay in start-up, time element or expediting coverage should be carefully reviewed.

5. Cold and hot testing of processes should be considered, given the type of work involved. 

6. Transit and off-site coverage limits should be examined.

7. As the property market becomes more restrictive, deductibles in catastrophe-prone areas will be important. Do not accept deductible responsibility without knowing the risk posed. 

8. Typically, policies exclude faulty workmanship and materials, design errors, etc., but will provide coverage for property damage that results from these issues. For instance, if a weld on a steel beam fails due to poor workmanship and causes a collapse of a second-story concrete garage, then the exclusion’s exception would provide coverage for the resulting damage but will exclude the faulty beam. 

9. Soft costs, such as loan fees, legal costs, taxes, permits, interest, architectural fees, engineering costs, etc., can be significant on any given loss, and the definition can vary widely. Be sure the definition fits the exposure.

The global reinsurance market has a significant impact on U. S. property rates, including builder’s risk. For example, the first half of 2011 was the highest loss year on record globally, due to floods, tornadoes, earthquakes and tsunami. “Insured” losses will exceed $55 billion, more than double that of 2010 and over four times the 10-year average. 

While insurers have the capital to pay these claims, they will be looking for rate increases during 2012 and 2013. We may also see significant coverage restrictions resulting from global reinsurance treaty renewals. Meet with your insurance broker early, and develop a strategy to manage the potential outcomes.