Given the present economic environment and the perilous state of the construction insurance market, why should insurance professionals engage third party inspection companies to assist their writing of construction business?
The obvious answer is to diminish the risk of potential construction defect claims, but the answer is more complex than that. Third party inspection is a general term used by insurance professionals to describe a multitude of services and service providers who in one way or another provide risk mitigation services. These services vary from quality control, site safety inspections, wrap administration and insurance compliance, engineering services, and legal review just to name a few. Many insurance carriers utilize these services during the underwriting process, vertical construction, and project close out to assist their monitoring and reporting of exposure to litigation and to help assist loss control on written construction business ranging from single family housing, to large infrastructure projects all across the country.
Historically, construction defects and poor quality workmanship performed on site were areas that insurance companies had ordinarily relied on third party inspectors to ascertain and correct. Companies were dependant on their internal underwriting procedures to assess the associated risks with offering coverage and premium costs when quoting a specific project at the onset. To some degree, certain carriers mandated third party site inspection as a last ditch effort to control quality and to create an additional line of communication to the carrier to report on site conditions which may cause future claims. In other cases, the carrier may waive the requirement of onsite inspection altogether, relying upon the general contractor or the owner’s internal quality assurance and control program. As the insurance market has become competitive and expenditures are being squeezed, underwriters have had to reduce their associated costs to be able to offer the most competitive quotes in order to secure the policy and to remain profitable. Consequently, many carriers now waive the requirement of onsite inspection to ‘save’ costs, placing more emphasis on their initial underwriting procedures to evaluate the associated risks involved. Each carrier has their own formula for calculating associated risks, however this method rarely includes onsite visitation with little or no oversight of the actual vertical construction process.
The decision to waive the onsite inspection process may prove to be a benefit to cut initial expenses, but it will undoubtedly cost the insurance company as well as the owners, design team, and general contractor in the long run. Construction defect claims have risen across the country particularly in California, Florida, Nevada, Colorado and New York. Current figures place the annual costs of construction claims to exceed a billion dollars annually in punitive damages and legal fees in the residential construction market alone. While not all of these costs are covered by the insurance policy, the project owners and designers do have a stake in these claims. As a result, projects have become more difficult to insure as well as the provisions of the policy have become increasingly restrictive, for example, environmental exclusions, prior work exclusions, course of construction coverage vs. completed operations coverage, placement of multiple policies with the same Insurer (for example, general liability and automobile) etc. Individual factors influence the “base rate” such as loss histories, errors and omissions policies carried by the design team, safety records and a host of other factors all of which must be taken into account by the underwriter providing a policy quote.
As the housing market in America began to collapse in the recent economic recession, many significant carriers largely reduced their homebuilding programs in favor of more profitable avenues such as manufacturing, transportation and shipping. As the housing market continues to improve insurance companies are beginning to see an increase in the need for new policies on projects which were left abandoned or defaulted during the recession. These projects range from local housing tracts to large scale commercial centers and municipal projects. Many of these types of projects have been idle for a number of years and have been unattended or worse. In many cases, these projects require extensive forensic review to determine the percentage of completed construction, remedial onsite correction of environmental conditions, removal of exposed building materials, and planning updates to comply with the current building codes. The original owner and general contractor are no longer in business, and the majority of site documentation lost. Without conducting in depth review onsite, how can these insurance providers possibly understand the risk profile of the project? Onsite physical inspection aside, where is the due diligence of reading and understanding the environmental reports, soil surveys, hydrology studies, energy calculations, city or county infrastructure plans? Most of these projects are being bought and developed by private equity firms with little to no construction history through fee builders and construction management firms. These joint venture firms are looking to make a quick and substantial profit while the market is depressed hoping to turn the project and move on. Consequentially, the underwriter must factor in an increased risk to the project to protect the carrier from the lack of experience and unfavorable site conditions. It is common to inspect a building which has been exposed to the elements for years and find failing or incomplete roofs, poor quality craftsmanship, vandalism, theft, code violations, and unsafe site conditions. Many project owners want to acquire these projects, and get them ready for sale as quickly and inexpensively as possible hoping to utilize as much of the existing building and materials as possible. Even the most thorough underwriting policies are bound to miss or be misled by the multitude of factors and time constraints afforded to them during the underwriting evaluation process. The carrier is then forced to provide a high premium quote or they will subject the policy to numerous exclusionary clauses in an effort to cover the associated risks. In other cases, the broker may be mislead in presenting the information directly to the insurance provider due to a multitude of reasons such as perceived site conditions vs. actual conditions due to lack of experience by the owner acquiring the project.
Some would argue that the inspections performed onsite by the municipal inspectors and deputy inspectors is sufficient to bring a value to the underwriting process. Pursuant to California statute, county and city inspectors are immune from liability for building deficiencies with minor exceptions relating to fraud or gross malfeasance. Municipal inspections focus on health and life safety, code compliance, and plan conformance. Third party inspectors draw attention to areas of the construction which have a high potential for leading to a claim. This difference should not be taken without due consideration. BPG evaluates every project from a variety of perspectives starting with the design, material selection, assembly, installation methodologies, and finished products as a whole, with regard to risk management and litigation prevention. We are aware of the particular items and products most likely to lead to future claims and focus during the construction process.
Construction defect is defined by each state but generally “failure of the building or any building component to be erected in a reasonably workmanlike manner or to perform in the manner intended by the manufacturer or reasonable expected by the buyer, which proximately causes damage to the structure.” This is not limited to construction, some states have expanded construction defect to include inadequate or improper design as well.
Utilizing this combined knowledge of onsite construction standards as well as legal theories used to bring a claim against a project, BPG is able to diminish the overall exposure of a project and help to prevent future claims for the insurance companies and owners alike.
In addition to being onsite while the construction activities are occurring, BPG has the ability to conduct in depth design review in areas such as architecture, structural engineering, civil engineering, mechanical, electrical, and plumbing design. Using Building Information Modeling (BIM), our engineers can help to solve constructability issues and eliminate the need for costly change orders, redesigns, time delays & building modifications prior to the start of any construction. In past projects, BPG has successfully found numerous design flaws in the use of building material selections, ADA design access and use, improper fire rating design, improper structural load calculations, and inadequate mechanical planning in regard to sizing, and conflict of space. Using a combination of technology and experience, BPG can identify and help resolve problems before they occur, saving both time and money for all parties in the longer term.