As a builder or developer, you will know that working in construction means being vulnerable to all kinds of risks, many of which can result in compensation claims or financial loss. The inherently unpredictable and dangerous nature of the work means that you, your employees, sub-contractors, and members of the public are all vulnerable to physical accidents as well as property damage.

Insurance is an effective mechanism for transferring the risk (and associated financial loss) should something go wrong. In return for accepting this risk, you pay a premium to your insurer. However, not all policies are the same.

As a developer or builder, it is essential to know what insurance policies provide the best protection to your project. In this blog, we explore some critical construction insurance policies and why they are important.

Public Liability Insurance

Public liability insurance is a policy that covers compensation claims arising from personal injury or accidental damage or loss to someone else’s property. Most construction work takes place on a third-party property, so it is no surprise that contractors have a high level of exposure to public liability risk.

The three main levels of public liability cover are $5m, $10m, and $20m, with the higher levels of cover attracting the higher premiums—noting that cover in place should be reflective of the nature and scale of the contracts being entered. While specific insurance policies vary between providers, most include cover for legal defence costs in addition to damages or compensations awarded by the court.

Public liability insurance does not cover damages relating to the “contract works”—when a builder enters into a construction contract, it is the builder’s responsibility to complete the work in accordance with the contract. Therefore, any damage that the builder causes is their responsibility to resolve, until such time as the contract is complete. In other words, because there is no loss to a third party, the builder will not be able to file a public liability claim but may be able to claim under a contract works policy if the damage is accidental.

Lastly, liability resulting from faulty workmanship is generally excluded from public liability claims. As a result, when damage does occur, a common issue is ascertaining whether the damage is the result of an accident or faulty workmanship. Some providers offer cover for a contractor’s liability resulting from faulty workmanship as a policy add-on (in return for an increased premium); this is something that you should discuss with your contractor.

Why is Public Liability Insurance important?

While public liability insurance is not mandatory by law, most construction contracts will require the builder and sub-contractors to have public liability insurance. Similarly, lenders will require public liability insurance to be in place prior to allowing funds to be drawn down from a construction facility.

Take an example where a contractor is doing earthworks and accidentally damages an underground power cable, or a scenario where contaminants are accidentally discharged into a neighbour’s stormwater line. The costs to remediate such damage has the potential to be financially crippling for the contractor. And as a developer, you need to know that your contractor has the financial capacity to successfully deliver your project.

Why is Public Liability Insurance important?

While public liability insurance is not mandatory by law, most construction contracts will require the builder and sub-contractors to have public liability insurance. Similarly, lenders will require public liability insurance to be in place prior to allowing funds to be drawn down from a construction facility.

Take an example where a contractor is doing earthworks and accidentally damages an underground power cable, or a scenario where contaminants are accidentally discharged into a neighbour’s stormwater line. The costs to remediate such damage has the potential to be financially crippling for the contractor. And as a developer, you need to know that your contractor has the financial capacity to successfully deliver your project.

Contract Works Insurance

Contract works insurance, also known as “builder’s risk insurance”, is an insurance policy that provides cover for sudden and accidental losses to the contract works. Policies can include both new builds and renovations of existing structures and will generally cover damage resulting from fire, theft, vandalism, construction collapse, some natural disasters, and other accidental damage to the contract works.

Almost all construction contracts will require contract works insurance to be put in place before works can commence. You can also be certain that your lender will require contract works insurance to be in place (and in an acceptable form) prior to drawing down from any construction finance loan facility.

Key things to consider when implementing a contract works policy

When putting in place contract works insurance, there are a few key things to consider:

Insured sum: The insured sum is the maximum amount the insurer will pay you (less any excess payable) in the event of a total loss. For a partial loss, the insurer will pay a fair proportion of the insured sum. For this reason, it is extremely important that the insured sum is sufficient to cover the cost of replacing or remediating the damaged property.

For example, if the contract value to build a house is NZD$1,000,000, then you would expect the insured sum to be no less than this amount. You should also consider what additional allowances need to be made for demolition, professional fees, and construction costs escalation when considering the insured sum. Keep in mind that for commercial contracts, the insured sum should always be plus GST.

Should you under-insure your project, then any funds paid on a successful claim will not be sufficient to remediate the property in full. This will require you to bridge any shortfall in funding, putting the entire project at risk.

Cover period: Your policy should be in place for however long it takes to complete the “contract works”. In other words, the period of cover should match the construction period in your development programme. Furthermore, irrespective of the expiry date on your policy, contract works cover typically ceases upon the earlier of the following happenings:

  • Practical completion
  • When someone starts using the building (such as an owner or tenant)
  • When 95% of the budget is spent (for spec builds)
  • The end date on the policy

To clarify, practical completion can occur weeks before a code of compliance certificate is issued by a relevant territorial authority, during which your property may not be insured. It is essential that you engage with your insurer to understand when your policy expires and to have a general fire and risk policy arranged for when your contract works insurance expires. After all, any loan facility provided to you by your lender will require your property to be insured at all times; failure to arrange the proper insurance may result in a “technical default.” To avoid this, insurers provide optional “completion cover” add-ons, which cover you for a specified period after the construction period or contract period is over.

Interested Parties: An interested party is someone that has a financial interest in your property. For contact works, this will usually be your lender; after all, it is likely their funds are being used to complete the development. Most lenders will require their interest noted on the policy; if so, advise your broker before putting the policy in place, as they will need to update the certificate of currency.

Exclusions: Contract works insurance covers costs arising from all kinds of accidental damages to the contract works. However, there are certain kinds of damages that are typically excluded. Below we explore some of these in more detail.

  • Faulty workmanship – contract work policies specifically exclude damage caused by faulty workmanship.
  • Consequential loss – consequential loss is a term to describe ‘indirect’ financial loss caused by damage to a business (or property). This may include loss of profits and/or increased costs, additional legal and professional fees, additional borrowing costs, loss of sales revenues (from the selling of a property below market value), and more. Consequential losses can be covered however it is a standalone insurance policy: “Liability Consequential Loss” insurance.
  • Natural Hazards – it is not a given that your contract works policy will cover you for natural hazards. Some insurers offer this as an optional add-on to your contract works policy.
  • Existing structures – most contract works policies will only cover the works being built i.e., relating to the contract.
  • Third-party damages or loss – this is covered by public liability insurance
  • Tools and equipment on site
  • Employee theft
  • Acts of war

What gets excluded and what gets covered can vary from policy to policy, and it is for builders and owners to figure out which policy works best for their requirements.

Statutory Liability Insurance

Statutory liability insurance protects businesses from any fines and penalties resulting from unintentional breaches of New Zealand laws. This can include breaches of the Resource Management Act, the Building Act, the Health and Safety at Work Act, and other relevant acts. As with public liability, cover typically includes associated legal defence costs relating to prosecution under New Zealand’s legislation.

Examples of statutory liability claims include failure to comply with a resource consent condition, pollution of land or waterways with runoff from the site and building without correct consents.

Set Yourself Up for Success: Consult with ASAP Finance Today

Knowing what your construction insurance policies cover (and what they don’t) is a critical part of reducing project risk. Should you, your contractors, or consultants not have adequate cover in place, you may be vulnerable to significant loss; such losses could undermine the success of your project as well as your business’s ability to operate as a going concern.

As is the case with most things, it pays to research options in the market and to seek professional advice. Engage with specialist financial advisors who have experience in construction insurance and access to a wide pool of products available in the market. Consult with ASAP Finance today!