AAIS is acting to address new exposures and enduring issues in the latest revision of its builders’ risk policy forms.
At the end of October 2008, AAIS released a comprehensive revision of the forms and endorsements provided in the Builders’ Risk section of the AAIS Inland Marine Guide, a resource of forms, rating procedures, underwriting guidelines, and other information for the nonfiled classes of inland marine insurance.
The new forms are immediately available for use in most states, but are also being filed in certain states where filing is required, even for traditionally uncontrolled classes. The proposed effective date for the filing is April 1, 2009.
Of particular interest to inland marine construction underwriters will be the new standardized delineation of and distinction between “soft costs” and additional costs for “delay in construction.”
That topic has been discussed for years in various inland marine and construction insurance forums, and the latest revisions implement some of the proposals raised in those forums.
As important, however, the new AAIS Builders’ Risk revision expands equipment breakdown coverage and tightens language to address the implications of a 2007 federal court decision that could, in effect, increase the exposure of builders’ risk insurers.
A major feature of the latest Builders Risk forms revision is the introduction of a new “Delay in Completion Coverage Part” to replace a previous endorsement for covering “soft costs and rental income.”
The new coverage part introduces a distinction between “additional construction expenses” and “additional soft costs” that clarifies the difference between two types of costs incurred when a construction project suffers a delay resulting from a covered physical loss.
For both of those categories of losses, recovery is limited to additional expenses, over and above those that would have been incurred had there been no delay.
The additional “construction expenses” are limited to the following:
- Additional advertising, public relations, and promotional expenses;
- Additional fees for architects, designers, engineers, and other advisers;
- Additional non-interest costs for financing, such as commissions and loan fees;
- Additional costs for renegotiating leases;
- Additional fees for accountant and attorney services that were being provided before the loss occurred; and
- Additional fees for renewing or replacing construction permits and licenses.
“What these costs have in common is that they are usually incurred in lump sums during the delay in construction,” says Robert Guevara, AAIS vice president of inland marine. “The length of the delay has little if any impact on these costs.”
For that reason, says Guevara, the additional construction expenses have a single per occurrence limit, and are subject to the basic builders’ risk dollar deductible.
Soft costs, long a loosely used term in the industry, are now a carefully defined and delimited set of expenses.
- Under the new coverage part, additional soft costs are limited to:
- Additional interest for money borrowed to finance the construction work;
- Additional real estate taxes incurred during the period of delay;
- Additional costs to extend leases for construction equipment and temporary office space; and
- Additional costs of insurance premiums to renew or extend coverage.
“These costs grow with time,” says Guevara. “Therefore, in addition to its own per occurrence limit, the additional soft costs coverage is subject to a limit per 30-day period.”
As a true time element coverage, the coverage for additional soft costs can be subject to a waiting period deductible, if so indicated on the schedule that accompanies the policy.
This still leaves “general administrative expenses,” which were included among the soft costs in earlier versions of AAIS and proprietary builders’ risk forms.
Under the new AAIS revision, general administrative expenses are split off from additional construction expenses and soft costs and insured separately as a supplemental coverage with its own sublimit.
That coverage pays for necessary and reasonable administrative and clerical expenses that arise out of a construction delay due to an insured loss, and which are over and above those that would have been incurred without the delay.
While the new treatment of additional costs following a loss is the fruit of years of industry discussion of that topic, other provisions of the AAIS Builders’ Risk forms have been revised to address a federal court ruling that abruptly expanded the potential exposure for builders risk carriers.
In 2007, a U.S. district court in New Jersey issued rulings on several questions concerning a proprietary builders’ risk policy; the rulings are relevant to most industry builders’ risk forms. (The case in question was Zurich American Ins. Co. v. Keating Building Corp., known as “Keating,” for short.)
Among other things, the court ruled that debris removal costs were limited only to the costs incurred to haul debris away, and did not include the cost of demolishing damaged property so it could be hauled away.
The implications of that ruling, were it to become a precedent, would be that the cost of demolishing damaged property would fall under the basic limit under most builders’ risk forms, not under the separate, and generally lower, debris removal limit. This would effectively increase the exposure for carriers.
“Demolition itself can be quite costly,” says Guevara. “It can entail substantial additional engineering expenses and other costs associated with electricity, permits, scaffolding, and the utilization of demolition contractors.”
To address the potential for additional exposure, the revised AAIS Builders’ Risk forms specify that the coverage extension for debris removal applies to the cost for “demolition, clearing, and removal” of debris. The basic policy limit applies only to the value of the damaged property, or to the cost to rebuild, repair, or replace it.
The Keating court also determined that the policy in question provided coverage for all additional costs incurred during the project’s delay following a covered loss, not merely those related to the repair or replacement of damaged property.
In making this ruling, the court found that the policy in question was regarded as an “all risk” policy under New Jersey law and, therefore, applied coverage to all losses for which a covered peril was the proximate cause, unless expressly excluded.
Regarding the form itself, the court noted that a different form available to the carrier included language explicitly limiting coverage to the repair or replacement of damaged property, and that the carrier could have used similar language in the policy at issue, which had similar but not identical language.
To avoid potentially open-ended exposure for any and all costs resulting from a loss by an insured peril, the revised AAIS Builders’ Risk forms state that coverage is for “direct physical loss or damage,” and include a new, comprehensive exclusion for “Delay in Completion and Increased Construction Costs.”
To get delay coverage under the revised AAIS Builders’ Risk forms, insureds must purchase the endorsement described above.
The latest AAIS revision of the Builders’ Risk forms includes a new endorsement introducing comprehensive coverage for major and minor equipment breakdown exposures, including losses that result from the testing of equipment. This endorsement replaces a previous supplemental coverage which
provided only limited coverage for relatively minor equipment exposures.
As with many AAIS equipment breakdown coverage parts, the new Builders’ Risk endorsement was developed in consultation with The Hartford Steam Boiler Inspection & Insurance Co., and adapted from the equipment breakdown coverage developed for the AAIS Commercial Output Program.
Previously, the supplemental coverage for equipment breakdown provided coverage up to a schedule limit for direct physical loss to covered buildings and structures due to explosion, rupture, or bursting; mechanical breakdown; and electrical currents. (The coverage for explosion, rupture, or bursting was limited to the pipes, boilers, turbines, or steam engines where the loss occurred.)
The new endorsement provides expanded coverage for “accidents” to covered equipment as traditionally established under “boiler and machinery” coverage.
“Covered equipment” is defined as any equipment that generates, transmits, or utilizes energy, or which operates under vacuum or pressure during normal use, provided the equipment otherwise qualifies as covered property under the base Builders’ Risk form.
“Accidents” are defined as a range of occurrences within covered equipment, and the coverage for loss caused by an accident extends to all covered property.
On the equipment and testing schedule that accompanies the endorsement, carriers have an option whether to indicate a separate limit applying to each loss from a covered accident, or whether to cover losses under the base policy limit for buildings and structures.
The equipment breakdown coverage can also be extended to the delay in completion coverage.
Builders’ Risk, 2008 
