Construction Insurance - Do I Need a Builder’s Risk Policy?
By Daniel Tharp
Our agency has seen an uptick in the number of washes that have a significant construction project under way. Whatever the reason may be, when building construction occurs as either ground-up new or renovation of an existing wash, most risk management professionals assume that the exposure requires a “builder’s risk” policy. Whether or not that assumption is correct depends on the details — the information necessary for the risk management professional to decide whether the construction exposure needs a builder’s risk insurance policy or another property policy that can or does provide same, similar, or better coverage than a builder’s risk insurance policy.
WHAT IS BUILDER’S RISK INSURANCE?
Builder’s risk insurance is a unique kind of property insurance. It’s a form of insurance that covers a building where the building or insured area is presently being constructed. Generally, however, most builder’s risk policies cover property losses due to fire, lightning, hail, explosions, hurricanes, theft, vandalism, and many other risks. Earthquake, flood, and wind in beach zones are usually excluded, but coverage extensions may be purchased for projects in locations that are vulnerable to these types of risks. Other standard exclusions include ordinary wear and tear, acts of terrorism and war, employee theft, rust and corrosion, mechanical breakdowns, and damage resulting from faulty design, planning, workmanship, and materials. It can cover just the structure, or also the materials on site waiting to be installed or transported to the job site and is an insurance that most owners will ask every contractor to carry.
Generally, a basic builder’s risk policy covers buildings and structures while they are under construction as well as materials, supplies, and equipment that are on site, in transit, and temporarily at other locations.
Coverage may also include or be extended to include the soft costs that arise when a covered loss causes a delay in a project’s completion. Lost sales or rental income, additional interest on loans, real estate taxes, and other expenses can quickly add up when construction is delayed. Builder’s risk protection can help minimize or eliminate the financial impact of these costs.
WHO NEEDS BUILDER’S RISK INSURANCE?
Any person or company with a financial interest in the construction project needs builder’s risk coverage. Stakeholders include the property owner as well as the general contractor (GC) and subcontractors (subs) who have an interest until the project is installed and they are paid. If the project is being financed, the lender may require coverage and will also be a named insured under the policy. Architects and engineers may also be named on the policy if they are not otherwise covered. The owner that builds for itself will have an insurable interest throughout the course of construction.
How can these three unrelated interests all have an insurable interest in the same building? The owner has a direct damage exposure during the time of construction equal to (1) its funds expended for any of its own labor and supplies and (2) for payments made to the GC and/or subs. In turn, the GC and subs have a direct damage exposure equal to their labor, supplies, and profit. The named insured in this example may be ACME Car Wash (ACME) as owner, ABC General Contractor as GC, and any subs hired by the owner or GC.
Used with permission from Blair Enterprises LLC
NEW CONSTRUCTION – BUILDER’S RISK POLICY
Let’s assume that ACME does not have any other buildings, so this is a “ground-up” new car wash construction. Thus they do not have an existing property insurance policy that may be considered for the new construction. What does ACME do? It has two options: (1) if not utilizing a GC, purchase a builder’s risk policy to cover the construction exposure; or (2) enter into a construction agreement with the GC and make the GC responsible for placement of the builder’s risk policy. The coverage terms, conditions, and policy limits should be the same whether coverage is obtained by the owner or the GC.
In either option 1 or option 2, the named insured will be the same: each party’s interest will need to be identified, such as ACME Car Wash (owner), ABC General Contractor (GC), and any subcontractor thereof. Does it matter which interest is the first named insured? It can, as the first named insured in the policy will receive notice of cancellation and/or nonrenewal, can make changes to the policy (increase or decrease coverage), can receive return premiums, and is solely responsible for any deductible. The first-named-insured issue should be reviewed carefully by both ACME and the GC to ensure that various notices and responsibilities rest with the proper named insured.
Used with permission from Blair Enterprises LLC
RENOVATION: OTHER COMMERCIAL PROPERTY INSURANCE
Let’s consider policy and coverage issues if ACME as owner decides to renovate and/or expand one of its existing buildings instead of constructing a new building. Will this form of construction require a builder’s risk policy? Probably not, as most property insurance policies readily cover this exposure without any sublimit or time limitation other than policy expiration. In addition, it would be difficult for one insurer to insure the owner’s building structure that is not undergoing renovation while another insurer is to solely cover the owner’s renovations.
Even though the existing property policy may provide coverage for the building renovation, consider exposure and coverage issues, such as the following: • An increase in the building value to reflect the “finished” value in order to alleviate possible coinsurance penalties. • Will the property insurer provide time element coverage (loss of income, loss of rents) as well as “soft costs” if requested? • Will the property insurer modify the “named insured” to include not only the owner but also the GC and subs, and restrict named-insured status to the GC and subs to only their interest in the newly constructed building?
WHAT TO CONSIDER WHEN PURCHASING COVERAGE
After reviewing your exposures, you have determined that it would be prudent to purchase a builder’s risk policy. Here are some guidelines to assist in the process: 1. Because every construction project has unique risks, it’s important to work closely with an agent or broker and insurer to design the coverage that provides the unique protection your project needs. Your agent can also help you select the appropriate amount of coverage and provide quotes from several insurers. 2. Know when coverage begins. Builder’s risk insurance generally takes effect as of the date that all contracts are signed, but policy provisions may restrict when coverage begins for your project. Make sure you understand specifically what triggers commencement of your coverage. 3. Know when coverage ends. Builder’s risk is temporary insurance. Your policy will state the conditions upon which coverage will cease. This can vary, but usually Know when coverage begins and when it ends. occurs when the policy expires or is cancelled, upon occupancy, or when the building is accepted by the other or put to its intended use. Coverage ends automatically, so it is advisable to make arrangements for permanent property insurance in advance of the expiration date.
4. Understand the extent of coverage for defective work problems. As a general rule, builders risk policies exclude the costs of repairing or correcting faulty work performed by subcontractors. However, policies with an ensuing loss provision may cover damage to other property that is caused by the faulty workmanship. Exclusionary provisions can vary widely, however; if your policy contains such a provision, make sure you understanding the extent of coverage. 5. Read your policy. Before signing your contract, carefully read through all policy provisions. Double-check all coverages, conditions for coverage, and exclusions. Make sure you understand what will and will not be insured should a loss occur.
Car washes are constructed new and are renovated to become modernized and more efficient. It is important, during the construction process, to consider the construction exposure from various interests, such as the owner, GC, and sub, to ensure that each has appropriate coverage for its exposures. Insurance policies have different means of covering the exposures, depending on insurable interest presented and the carrier’s underwriting ability. Existing policies may provide required coverage either within existing policy language or by adding a specific endorsement.
Specific policies may be required (i.e., builder’s risk policy or installation floater) to provide necessary coverage for the interests to be insured. It is key to understand the exposures, coverage treatment options, and the insurer’s underwriting posture before construction occurs.
Dan Tharp, CIC, RWCS, is property/casualty insurance licensed in all states (except Alaska and Hawaii) and is the vice president of sales for The Insurancenter and the director of the Car Wash Division. Dan has been assisting business owners protect their operations, customers, and employees for over 30 years. For questions regarding this article or any other insurance matter he can be reached at DTharp@theinsurancenter.com or by calling (800) 444-8675.