Builder’s Risk Insurance – What’s the Big Deal?

We have a lot of conversations with general contractors (GCs) and owners about builder’s risk coverage. Often the belief is that builder’s risk insurance is all the same; it doesn’t matter who places, and the lowest cost is always the best option. So, what’s the big deal?

The builder’s risk coverage included is a critical part of any construction project, small, medium, or large. Builder’s risk is first party, no need to prove who’s at fault, coverage for all project participants to cover physical losses to the project during construction until final completion. Fire, water damage, windstorm, someone driving a piece of machinery into the structure, and other property damage is covered under a builder’s risk policy. I emphasized the word all above because a well-designed builder’s risk policy should protect everyone who has a financial interest in the project. That means the Owner, General Contractor, and all Subcontractors. All these parties a have financial risk in the project.

Still, what’s the big deal? Builder’s Risk policies are typically bought by the Owner or the GC. The big deal is that often these two are not aligned with the concept that the builder’s risk is for everyone’s best interest or benefit.

Owner Purchased or Owner Provided Builder’s Risk

The Owner may have a large property insurance program that provides coverage for “in the course of construction.” This is often a nice perk for the Owner as the coverage is already included in the premium costs and they don’t have to do anything. The problem is this coverage limits are often only to the benefit of the named insured, the Owner, and no coverage is granted to the GC or Subcontractors. The GC and the Subcontractors are not able to make a claim against the policy as they have no rights under the policy. If a claim is made and coverage applies, the property owner insured can seek subrogation from the “at fault” party as they are not an insured party under the policy; this can be negated via contract obligations, but it is far simpler to have a policy that specifically includes all parties.

Coverage under these policies can be very limited compared to a well-designed builder’s risk policy. Is coverage provided for testing, faulty work, construction delay costs, pollution, mold, offsite materials, construction materials in transit, construction site work, and labor costs? These policies can also have exceedingly high deductibles, far greater than what a contractor may be willing to risk. If all the parties aren’t careful, who pays the large deductible can cause serious problems.

Contractor Purchased Builder’s Risk

Contractor-purchased builder’s risk coverage tends to be broader in terms of who is an insured and coverage items noted above because most are placed with dedicated builder’s risk underwriters who use policy forms designed specifically for the risk of a building project. But there are concerns here too. Contractors tend to purchase coverage for their exposure to the project, which includes that of the owner but not fully.

Soft Costs are policy covers that deal with exposures when a project is delayed due to a covered loss. Most dedicated builder’s risk policies include some soft costs, but is it enough to adequately protect the exposure? How will contingency fees, architect/engineering fees, taxes, and construction business insurance premiums be covered? The owner is exposed to potentially incredibly significant economic loss if a loss delays the project. Likely there is a loan in place to finance the project, the loan has a term, and when the project runs over schedule, the finance costs can be significant. What is the lost revenue incurred by the owner if the project is delayed: rent, production, contractual obligations, etc.? Soft Cost coverage can be a highly effective way to reduce the financial hardship of a project delay. If the owner isn’t engaged with, or participating in, the conversation with the contractor placed builder’s risk policy, they are at risk of having a very significant loss that is uninsured.

Solution

Make sure your project is appropriately insured by having a dialog about builder’s risk coverage during the contract phase of the project. Who will be placing coverage and what coverage needs to be in place to protect all parties? Many standard contracts state the owner will provide coverage. If that is the case, make sure everyone is on the same page with respect to who is covered and for what risks. Who is responsible for the deductible and how large of a deductible can be retained by all parties? If the GC is to place coverage, make sure the soft costs are discussed and appropriate to cover the owner’s risk of a delay. Cost is most certainly an important consideration when placing a builder’s risk policy, but it should also be weighed against the protection it offers to all parties. A well-designed and procured builder’s risk policy is cost-effective, coverage appropriate and protects all project participants.