Shifting exposures
Developments in the U.S. construction and contractors’ risk environment continue to make this a difficult class to underwrite. Exposure analysis is complicated by regulatory and contractual issues within both the construction and insurance industries, and by physical changes in the way that construction itself is carried out – in particular with regard to the use of new products and to construction projects in less developed geographical areas.

Regulatory and contractual issues

• A lack of contractual standardization for the allocation of liability among property owners, contractors and subcontractors.

For example, it is possible for contractors to take on additional contractual exposure via “hold harmless” agreements, under which contractors assume a portion of the legal responsibilities of other contractors for workplace safety and construction defects. A contractor’s general liability insurance policy will typically cover this additional contractual liability. Owners and general contractors may become “additional insureds” under subcontractors’ policies.

• Multiple state legal and regulatory environments governing contractors’ liability (which also supports the point above). Regulations have also introduced new exposures through more stringent building standards.

New York State’s labor laws, for example, apply absolute and strict liability on the part of the property owner (and its agents) and contractors who control the project, to maintain workplace safety. In many cases, where liability for an injured worker’s damages ultimately comes to rest is determined by a complex web of contractual and coverage issues. The challenge of understanding the ramifications of this difficult environment adds to the complexity of the underwriting process.

• Varying definitions within the re/insurance industry and state building code regulations.

Clear definitions of key concepts, such as “residential contractors” and “artisan contractors” help to articulate the true scope of the liabilities. True artisan contractors provide specialized trades – plumbers and electricians for example – limiting the need for liability coverage to their specific services. The role of residential contractors is much broader. They are usually involved in large construction projects, which could include multiple units and result in exposure to a larger number of risks.

Physical risk issues

• The introduction of new construction materials and techniques, many with aspects that significantly differ by geographical area.

For example, demographic population shifts to “Sun Belt States” have produced an explosion of residential construction to meet housing demand. Attempts to keep construction costs down have in some cases led to poor workmanship and the use of new or substandard construction material, such as exterior insulation or stucco (EIFS). In consequence, there have been significant construction defect claims and increased defense costs in the states of California, Arizona, Nevada, Texas, Florida and even Colorado. Insurers have responded by avoiding or excluding coverage via endorsement.

• Works in new geographical areas with the potential for unexpected hazards relating to soil type or to other environmental/geological conditions.

In terms of new exposure, geological factors such as soil condition and seismic activity create an exposure to structural damage in many parts of the U.S. In some states, including California and Alaska, building codes hold contractors to rigorous standards to avoid/reduce subsequent damage potential. Failure to adhere to such standards could lead to significant liability.

• Mold, where poor design, faulty specifications or defective construction can lead to the growth of mold in certain geographical areas.

Over recent years, mold exposure has become one of the most highly publicized areas of dispute in the construction industry, often involving bodily injury and construction defect claims. The exposure affects various segments, including architects, builders, engineers, landlords and owners for both residential and commercial property.

Multiple lines
Contractors are, by their nature, exposed to financial, contractual, operational, and organizational risks, thus spanning virtually all lines of insurance. Currently, the most challenging in terms of underwriting are general liability, umbrella liability and worker’s compensation. Other exposed lines include property and builders risk, professional liability, contractors professional liability, environmental liability, directors and officers’ liability, employment practices liability, project specific coverages, owners and contractors’ protective liability and railroad protective liability. In addition, large project policies may involve wrap-up or environmental and professional liability policies that provide multi-year coverage.

Understanding the exposure
Construction risks in states known to have a propensity for construction defect or labor law claims, and the presence of residential business, contractual liability or high hazard commercial work, are all factors that should sound alarm-bells to underwriters. Key questions to help identify the real exposure would therefore include: 

• Is the contractor a general contractor or subcontractor?
• Does the contractor specialize in a single trade with little or no use of subcontractors? If so, that contractor is commonly known as an “artisan contractor.”
• Does the contractor undertake residential construction? Residential contractors are typically more exposed to construction defects.
• How is “residential” defined? Does it include “tract” developments, involving multiple identical or nearly identical homes?
• Is contractual liability assumed by the contractor? If so, the specific contracts will need to be examined.
• What methods does the contractor employ? Is there a potential for large claims, as for example would arise from lift-slab construction for a commercial building or from hot tar work performed by a roofing contractor?
• What type of projects does the contractor accept? For example, specialized restoration, historical reconstruction, environmental remediation or work involving public entities, like schools or public streets and roads?
• Does the contractor perform high hazard commercial work, such as design and build, where the contractor is responsible for both the design and construction?
• In which geographical areas does the contractor operate?

Managing the exposure
Managing the exposures associated with this class of business requires recognition of the inherent complications, the use of extensive underwriting guidelines and supplemental questionnaires to address the potential exposure associated with the particular type of construction work, and also the application and agreement with the insured of clear coverage terms and definitions. Many insurers require the insured to sign the insurance binders to verify their understanding and agreement to the terms. In some instances, the signed questionnaires and/or binder are also notarized.

Typical market examples of clear coverage terms include:

• Damage to work performed by a subcontractor on “Your” behalf. In this context, “Your” refers to the contractor employing the subcontractor. The endorsement was developed to eliminate coverage for damage to “your work” arising out of a subcontractors’ work, and damage to the named insured’s work that is caused by a subcontractor’s work (ISO CG 22 94; CG 2295). This endorsement is vital when writing a General Contractor, particularly when the questionnaire states that no subcontractors are utilized.
• Mold exclusion wordings have been approved in various states. Exclusions used by non-admitted companies will vary and these may be more or less effective than state-approved wordings.
• Subsidence Exclusion/Earth Movement Exclusion.
• “Known or Continuous Injury or Damage” – to avoid damage occurring over long periods of time.
• Residential Construction Exclusion.
• Silica Exclusion – this endorsement excludes third party bodily injury caused by materials containing silica used by the contractor or released during the work performed.

PartnerRe
We are in the market with capital to support our clients, who sit closest to the risk. We do this based on a thorough understanding of exposure – detail is important – we therefore spend time with our clients in order to understand their processes for accepting and pricing construction risks. We look at how exposures are identified and risk minimized, how information is acquired and verified, how accumulation is assessed across years (same insured) and across insureds, and how exposures are set.

As the construction industry evolves to meet the challenges presented by shifting demographics, higher building standards and greater awareness of the destructive powers of natural catastrophes, the re/insurance industry will, likewise, adapt to the corresponding new exposures and coverage needs. PartnerRe welcomes the opportunity to work with insurers to meet these challenges.