Most people know that when a building or structure has been built, the owner purchases property insurance (e.g. homeowner’s insurance or commercial property insurance) to protect his or her investment against a number of possible risks. But what about the builder’s risks that can threaten a project while it is under construction? Whether it’s a home renovation or a new factory being built, any project can be damaged or destroyed by countless perils such as vandalism or windstorms.
If a project is damaged and does not have the proper insurance coverage:
(1) the owner and/or contractors involved could lose a significant amount of money, and
(2) the project might never be completed.
Fortunately, Builder’s Risk insurance is available to provide financial protection for construction or renovation projects to make sure they reach final completion successfully, safely, and profitably.
Who Needs Builder’s Risk Insurance?
Any individual or company with a financial interest in a construction project will want the project to be covered by a Builder’s Risk policy (sometimes called “Course of Construction” insurance). If a project is being financed by a bank or other lender, Builder’s Risk insurance will usually be a prerequisite for the financing. Builder’s Risk insurance policies are often purchased by property owners, real estate developers, and general contractors. Although it’s called Builder’s Risk insurance, the builder (i.e. the contractor or general contractor) isn’t the only party that can be negatively impacted when risks become realities.
The construction contract between the owner and the general contractor normally contains language dictating which party is responsible for purchasing Builder’s Risk insurance. Although both owners and contractors want the project to be covered by insurance, as contract negotiations normally go, each party may want the other party to purchase the policy. Regardless of who actually pays for the Builder’s Risk policy, the construction contract normally specifies that all interested parties must be named as insured under the policy. Thus, the named insureds on a policy might include the owner/developer, mortgagee or lenders, the general contractor, and sub-contractors.
When a project is new construction, the general contractor will often purchase the Builder’s Risk policy because it will likely have complete control of the project property during construction. In the case of renovations, the owner of the existing building or structure usually purchases the Builder’s Risk policy assuming the contractor is only working on a portion of the total property during the project. It is important for property owners to talk with an insurance professional to understand how a Builder’s Risk policy will interplay with any existing homeowner’s or commercial property policies.
For related information regarding homeowner’s insurance you might want to read this story.
What Causes of Loss or Perils Does Builder’s Risk Insurance Cover?
Builder’s Risk policies are commonly written to cover damage resulting from fire, theft, lightning, hail, vehicle crashes (into covered property), and vandalism. The protection provided by insurance companies is often categorized as either an all-risk policy or a specified perils policy.
Specified perils policies will protect against one or more particular risks that can cause a loss during the project. The specified perils might include earthquakes, hail, windstorms, theft, vandalism, and landslides among others.
For instance, if a project is in a region that is exposed to a high risk of windstorm damage, the contractor might choose to purchase a policy that only covers losses that directly result from windstorms. These specified perils policies can be relatively inexpensive because the insurance company has a narrowly defined exposure to risk. However, unlike in the above example, many people who buy a specified perils policy will choose specify more than one peril for broader coverage.
This type of policy does not protect against anything other than the specified perils. So if a fire breaks out during construction and causes damage to a project, the insurance company won’t have pay anything to fix the damage unless fire was one of the specified perils.
In contrast, all-risk policies cover a much broader range of perils than specified perils policies. As the name suggests, these policies are written to generally cover all potential risks of direct physical loss to a project except for losses due to excluded perils. If the project is impacted by some type of physical of damage, the onus is on the insurer to prove that the cause of damage falls within one of the excluded perils, otherwise the loss is presumably covered by the policy. Given the broad range of risk covered by an all-risk policy, it should come as no surprise that this type of policy is more expensive than most specified perils policies. The rest of this article will mostly refer to all-risk policies unless otherwise noted.
The Importance of Project Security
Most Builder’s Risk policies will pay for losses resulting from vandalism or the theft of covered property (though not theft by employees of the insured). However, these policies generally have some kind of condition that requires the contractor or owner to provide a reasonable level of security to prevent or deter theft and vandalism. If a pallet of copper wire is left at the job site overnight, with nothing to prevent someone from driving up and stealing it, the insurer almost certainly won’t cover the theft of the pipes.
The definition of “reasonable security” usually depends on the location and type of project. As logic would have it, a project with expensive materials located in an area with a high rates of theft and vandalism will require more prudent security measures. Depending on the project, reasonable security might involve keeping materials in locked containers, storing expensive items off-site, or putting fences up around the construction site and locking it up at night.
What Perils Are Not Covered?
Most Builder’s Risk policies do not cover losses due to earthquakes, floods, acts of war, theft by employees, government intervention, equipment breakdowns, or intentional acts of the insured. However, special riders, extensions, or different policies are available to cover some perils that would otherwise be excluded, such as earthquakes (popular in parts of California) or flood insurance (popular in areas close to bodies of water).
Builder’s Risk policies do not include liability insurance. This means if someone is injured or killed in some sort of accident related to the project or on the project site, Builder’s Risk insurance will not provide help (e.g. legal defense fees or settlement costs) for the liable contractor or owner.
Liability might not be explicitly listed as an excluded peril, but it is important to know that liability coverage generally falls outside the scope of Builder’s Risk insurance. Other types of insurance policies, such as Workers’ Compensation Insurance and General Liability Insurance, must be purchased to cover the various liability risks that are an inevitable part of most construction and renovation projects.
As mentioned above, many Builder’s Risk policies won’t cover any losses that result from intentional acts of the insured. Covered causes of loss are sometimes described as “fortuitous events,” which essentially means events that are beyond the control of the insured parties. The intentional acts exclusion goes along with the common sense understanding that people buy insurance to protect themselves from risks that they not able to control.
With the concept of fortuitous events in mind, it is easy to see why any insurance company would not cover a loss due to intentional acts of the insured because these losses are not accidental. If an owner or contractor intentionally does something damaging to their project, the insurance company will not have to pay anything because of this exclusion.
Faulty Or Defective Workmanship Or Materials
It is important to note that most policies also do not cover damage resulting from faulty or defective workmanship or materials. Basically, this exclusion is saying that the insurance company expects the owner and contractors to do a good job planning and executing the construction or renovation project. The insurer won’t help fix the negative consequences of the insured’s poor project planning or execution.
Picture a scenario where a support beam breaks in half during a new construction project and causes ten thousand of dollars of damage and a week of delay. Under the faulty or defective design or workmanship exclusion, the Builder’s Risk policy would not cover the resulting losses if, for instance, it turns out that the beam broke because: the beam specified in the plans did not have a strength rating strong enough to support the highest anticipated loads, or if the contractor installed the beam incorrectly.
From an insurer’s perspective, these risks basically amount to poor planning and execution on the part of the owners and/or contractors, not the type of fortuitous events that insurance normally covers. This major exclusion is often the subject of litigation between insurer and insured, so it is crucial to get the opinion of an insurance expert before purchasing a policy to make sure this exclusion is written clearly and fairly.
When Does Builder’s Risk Coverage Apply?
Builder’s Risk policies are temporary in nature. In some Builder’s Risk policies, the period of coverage has a specified start date but the end date is determined based on the occurrence of an event such as the owner’s acceptance of the building or the date the building is occupied.
It is also common for the period of coverage to be written simply as three months, six months, or one year. If a project has not been completed by the end of the period of coverage, the insured parties can normally pay to extend the policy for the additional months needed to complete the project.
What Property Is Covered By Builder’s Risk Insurance?
Not all Builder’s Risk policies cover the same types of property. The property that needs to be (or should be) covered with Builder’s Risk insurance will depend on the type of construction project and the level of protection that the owner or builder is willing to purchase.
As described in an article from Adjusting Today, some broadly written Builder’s Risk policies state that “coverage applies to property of every kind and description intended to become a permanent part of the construction, installation or erection of the project.” Of course, other policies are written more narrowly to apply only to certain property that the builder or owner is particularly concerned about protecting. As with other types of insurance, the more narrow the coverage, the lower the policy price. When selecting a policy, it is important to make sure there are no unwanted gaps in coverage based on the wording in the policy.
What about property that is temporarily used during construction but that will not become a permanent part of the final building or structure? Some policies will cover this non-permanent property while others will not. On it’s website, The Hartford claims to have one of the broadest Builder’s Risk policies including coverage for “temporary structures, cribbing, falsework, fencing, scaffolding, construction signs, even trees, shrubs, sod and plants.” As discussed in more detail below, many insurers can provide similar coverage but do so by offering optional policy extensions not included by default.
Renovations and new construction projects involve different types of property. The typical renovation project will have some physical connection to existing structures or building components that are intended to be kept intact as a part of the final project. A good Builder’s Risk policy for renovations will provide protection for damage done to existing building components as well as the new modifications or construction work.
Suppose a developer is gutting and renovating an old building and wants to keep the original facade to maintain a certain aesthetic or to meet historic preservation requirements. Even though the renovation is not supposed to include any work on the facade, the Builder’s Risk policy can be written to protect the facade and pay for repairs in case it is somehow damaged in the course of the renovation project.
Before purchasing Builder’s Risk insurance, owners and contractors should consult with an insurance professional to make sure they choose a policy that covers all the crucial and expensive property that will be involved in their project.
What Coverage Extensions Are Available?
Owners and contractors frequently purchase Builder’s Risk policies with specific coverage extensions. These extensions go above and beyond the default level of protection to cover property and risks that otherwise would not be covered. It is important to note that many extensions have their own sub-limits that reduce the insurer’s additional liability to a predetermined percentage or dollar amount.
One popular extension covers property in transit. Normal Builder’s Risk policies only cover property beginning at the point in time when it has been unloaded at the project site. With a property in transit extension, owners and contractors can add protection for important materials and supplies during the period between shipment and unloading at the site.
For many projects, it makes sense to buy an extension for scaffolding, construction forms and temporary structures, assuming the Builder’s Risk policy doesn’t already include this coverage. These items are often out in the open and particularly exposed to the natural elements as well as theft and vandalism. Depending on the wording of the extension, the covered temporary items may also include subcontractor’s materials and equipment.
When a project is damaged in a major way (e.g. a windstorm knocking down a partially completed building), there is often a lot of debris that needs to be removed before the project work can continue. With a debris removal extension, the insurer will cover these costs. However, this extension usually only applies if the debris resulted from a loss that is covered by the Builder’s Risk policy. For instance, if the project is reduced to rubble by an earthquake, but earthquakes are not a covered peril, then the debris removal extension most likely will not apply.
An increasing number of owners and contractors are choosing to purchase a soft costs extension. As defined in a case study by Adjusting Today:
“’Soft Costs’ are essentially extra expenses incurred as a result of a delay caused by a covered loss. Some of the more common soft costs are interest charges on project financing, realty taxes or other assessments, workers overtime, advertising and promotion, costs associated with lease renegotiations and accounting, legal, architectural, or engineering fees.”
The longer a project is delayed by a covered loss, the higher soft costs such as workers’ overtime and interest on construction loans will mount up. Time is money, but a soft costs extension can help mitigate or even eliminate the financial impact of covered construction delays. Because of the growing demand for soft costs coverage, many Builder’s Risk insurers now include this coverage as a standard part of policies instead of treating it as an extension.
Construction and renovation projects usually involve large amounts of money from an owner as well as coordinated technical and physical work by contractors. Everyone involved should be focused on completing the project safely, on time, and on budget. Unfortunately, not every project goes smoothly. The unavoidable reality is that there are countless perils that can threaten a project with damage, delays, and increased costs.
Given the inherent risks and complexities of construction and renovation, it is extremely important to have the protection of a well-matched Builder’s Risk coverage. A local insurance professional can determine the appropriate Builder’s Risk policy for each unique project, so owners and contractors can be confident that every project will be a success.
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