Managing the Gap in Builder’s Risk Insurance

Commercial property insurance covers various kinds of property, including buildings, structures, contents, land, and even personal items such as jewelry. The type of coverage varies based on the property and the costs to rebuild. However, it doesn't protect against risks related to projects under construction, which need the specialized protection of a Builder's Risk Policy.

Source: | Published on August 19, 2022

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Property damage on a construction site poses a considerable threat to project and building owners, developers, contractors, and subcontractors alike. Damage caused by events such as fire, explosion, theft, vandalism, or adverse weather may result in high, unforeseen costs, slowing the project's progress or derailing it entirely in the worst cases.

What Builder's Risk Insurance Covers.

Builder's risk insurance is practically self-explanatory. It is a type of property insurance that covers building projects, including buildings, structures, and related under-construction assets. Builder's Risk programs also cover homeowner remodeling projects not covered by a homeowners insurance policy.

Builder's Risk is also known as course of construction (COC) insurance because it ends when the project finishes. However, most insurance policies have provisions with limitations for extending the expiration date if construction completion overruns occur.

Specifically, project owners, general contractors, subcontractors, architects, and lenders are prime prospects for Builder's Risk insurance. Candidates are usually professional commercial and residential building contractors and people or entities who have a stake in completing the construction project with their involvement or homeowners with remodeling projects with coverage needs that don't fall under their homeowner's insurance policy.

Builder's Risk Insurance Is Unique Coverage.

Builder's Risk is an extraordinary form of insurance because of its extensive coverage capabilities for builders, owners, contractors, and subcontractors. In addition, it can insure both a standalone construction project and a portfolio of projects. In addition, it protects everything that goes into building a site before or after its installation, including changes made during the construction phase.

The main parts of a typical builder's risk policy are:

  • Property damage.
  • Delay in completion.
  • Delay in start-up.

Property damage includes all physical loss or damage to the insured property. Delay in completion means the insured cannot use the property until it is completed. Delay in start-up means that the insured cannot operate the property until it is ready.

A Cluster of Disasters.

The curse of living in interesting times is a poor euphemism to describe the concurrence of severe problems affecting our lives as global and US citizens and business owners attempting to conduct business as generally as possible. The mega factors of Covid-19, cataclysmic climate and weather conditions, and the war in Ukraine all help drive out-of-control spiraling costs and make managing a construction business difficult before adding challenging insurance availability and affordability woes.

As contractors and developers continue to be affected by the arduous task of finding qualified workers, they face increasing burdens from inflationary pressures that also impact their ability to retain employees. Overall, against these extreme conditions, contractors face skyrocketing insurance premiums while struggling to extend their Builder's Risk coverage for their projects which too often are delayed far past expectations and contract extension limitations.

Underwriters find the construction industry hard to predict in normal conditions because it has many variables and moving parts. For example, they know the economy, weather, labor shortages, and other factors can affect a project's performance. Since the onset of Covid-19, basic construction material costs have soared. Furthermore, predicting the availability of a workforce needed to complete projects on time has become nearly impossible.

Carriers Are Pulling Back, Pausing, and Leaving the Market.

The convergence of the grim conditions that cause supply chain delays and labor shortages has led to policyholders needing an extension of their Builder's Risk or course of construction coverages. Unfortunately, regarding project overruns, many carriers are either not willing or are not able to extend their policies.

A typical nightmare is a developer who bought a policy last year and now faces massive delays, cost overruns, and the triple whammy of finding the cost of jobsite materials exorbitantly expensive and in short supply along with similar labor scarcities. At the same time, their carrier is unwilling to extend policies beyond hard cut-offs. Meanwhile, premiums for new, renewal, and extensions for Builder's Risk insurance are quickly and dramatically rising when available. Additionally, the number of companies that can and do write long-tail insurance is in decline, and those that continue to write Builder's Risk policies require high premiums.

Reinsurance Problems Become Builder's Risk Insurance Problems.

Current market conditions are not just due to insurers taking an aggressive stance on rates and extensions because it's likely that those carriers ready to service the market and extend coverage are facing difficulties in arranging adequate reinsurance to cover themselves. Moreover, the trend is ongoing since insurers offering Builder's Risk coverages were dealing with reinsurance challenges even before the marketplace was hit with supply chain and labor shortages brought on by the pandemic.

The plethora of issues builders face cause their projects to run past the usual 12-, 18-, and 24-month contract periods, which are the time frames underwriters most often use to rate policies—and some carriers also include "fudge-factor" provisions for small overruns. And, of course, insureds buy coverage with a defined timeframe for completion. However, such problems are exacerbated by strenuous market conditions that cause builders to miss their deadlines only to find enormous difficulty obtaining additional project extensions.

The market is not set up to simultaneously handle a volume of project overruns. Insureds and their clients, agents, brokers, carriers, and reinsurers all feel the effects of the overruns and the underlying conditions causing them. Underwriters see such trends as problems that can cascade into catastrophes, thus suppressing their appetite for new business, which is a significant concern for the Builder's Risk insurance marketplace.

All parties must do their best to keep their underwriter's warranted wariness in check by demonstrating they are seriously staying on top of safety protocols and managing their business as usual as possible.

Dealing with the Gap in Builder's Risk Policies.

There are two main types of Builder's Risk insurance:

  • Course of Completion (COC).
  • Project Cost Insurance (PCI).

Both protect against losses due to delay and cost overruns. Each type of coverage has limitations. For example, PCI does not protect against changes in the scope of work or design. In addition, PCI does not apply if the insured cannot meet its financial obligations under the contract.

While COC provides coverage for any insured loss during construction, it does not cover losses incurred after the project's completion. This provision means that if a project overruns, the insurer would only be responsible for the portion of the overrun before the project completion. Thus, the insurer would not be liable if the project substantially overruns after completion.

The Construction Industry Problems Getting Extended Builder's Risk Coverage.

Unfortunately, many builders do not know whether they need Extended Builder's Risk insurance coverage until they near project completion. However, because they need to cap costs, builders usually avoid such coverage until they recognize they need protection from potential delays and cost overruns.

Sadly, many contractors cannot obtain extended builder's risk coverage because of the high premium costs associated with such policies. Most insurers charge premiums based upon the value of the property under construction. To determine a property's value, the building inspector needs to inspect the property. An inspection can take from three days up to six months, depending on the project's scope. Because the contractor cannot begin work on the project, they often cannot afford to wait until the building inspector determines the property's value.

A common problem happens when a contractor does not have the funds to pay for the building inspector. Without the ability to hire someone to perform the inspections, the contractor would have to spend his own money to complete the necessary inspections. In such cases, they need to borrow or sell assets to cover inspection costs, further draining their profits.

How the Construction Industry Is Dealing with the Gap in Builder's Risk Insurance.

There are several ways that the construction industry has dealt with the gap in Builder's Risk coverage.

Purchase an extension for an existing policy, most often using a rider. A standard extension rider allows the policyholder to add additional years of coverage. Unfortunately, most carriers will not allow more than five years of insurance coverage, forcing insureds to search for longer policy extensions from a company willing to write the business.

Purchasing a separate policy from a different carrier is an option. While it sounds like a good idea, it is a problem because companies are reluctant to insure job sites without a history and relationship with the owner. Often, contractors must post a security bond for the performance of the contract; surety companies typically only post performance bonds with proof of liability insurance requirements.

Self-insurance is a viable option conditionally. Self-insurance occurs when the insured takes responsibility for all losses up to a certain dollar amount; deductibles are a form of self-insurance. The problem with self-insured projects is they can be risky because the self-insurance portion is uninsured, and if the insured fails to pay their share of the claims, the insurer can sue them for breach of contract.

Finally, some companies choose to go without Builder's Risk insurance with the hope and belief their risks are minimal and so low they don't need to worry about catastrophic claims. But, of course, going naked without insurance is a dicey gamble since no one knows what the future holds.

Builder's Risk Insurance Programs

The comprehensive scope of coverages available for the myriad of construction industry building options available through Builder's Risk Insurance programs is highly complex. When you seek to write such coverages, you need a team of skilled and experienced insurance professionals from specialized brokers and program administrators to guide your success. That's why we developed the Program Business Marketplace Directory—to make it easy for agents to connect with carriers, MGAs, wholesalers, and program administrators.

A quick keyword search of the Program Business Market Directory returns a result for Victor Insurance Managers Inc. It offers a national program with state-of-the-art builder's risk solutions that features competitive rates, favorable limits, and vital coverages not usually included in a standard form. Policies can be written in the name of the builder or owner.