Editor's Note: This piece was written Bob Pedersen, assistant vice president with the casualty division of Brown & Riding in Chicago and Mike Davis, vice president with the property division of Brown & Riding in Los Angeles. The opinions represented in this piece are independent of Construction Dive's views.

Murphy’s Law seems to have been written for the construction business. If it can go wrong, many times it will. For example:

• Construction on an apartment building in San Francisco was running behind, so a subcontractor was asked to perform hot work. But when the subcontractor dropped his torch, the fire that resulted caused over $40 million in damage to the project and neighboring buildings.
• A subcontractor for another apartment building wanted to test the waterproofing for the basin under a fountain in the lobby. He then left for the night, forgetting that he had plugged the drain. The toll from water damage? Over $2 million dollars.
• A museum in Los Angeles was having its roof replaced, but the museum staff unknowingly bought an insurance policy that didn’t cover water damage without the building first sustaining a physical loss. When it rained with the roof off, the museum was left holding the bag for $400,000 in uncovered water damage.

Major losses are more than a business setback. They can destroy a business entirely. Here are some insurance issues to consider to prevent massive losses.

1. Create realistic timelines 

“Haste makes waste” is a proverb that everyone can understand. Claims on construction projects are more common on projects that are either 1) behind schedule or 2) had unreasonable timelines from the start. Insurance agents who don’t specialize in construction often don’t have the expertise to tell when timelines are unrealistic, but a specialized wholesale broker can. Timelines that are too compressed can raise the cost of insurance because the underwriter will perceive greater risk and charge more for the coverage.

Work with an insurance broker who specializes in construction to review your timelines before your company commits to coverage. This way, informed choices can be made. For example, does the company want to risk a higher deductible or extend the timeline?

2. Check insurance certificates for accuracy and thoroughness

Before being allowed on a site, contractors must produce a certificate proving that they have the required insurance. These certificates contain just bare bones information — who the carrier is and what the limits are — without the important coverage details found in the policy.

Problems arise when the certificate seems to be adequate, but is not. Subcontractors want the work and simultaneously want to keep their expenses as low as possible. As a result, they generally purchase the cheapest insurance available that will allow them on the site, often at the sacrifice of adequate insurance coverages. These are called “rent-a-certs.”

To prevent problems, stipulate the specific coverage grants, unacceptable exclusions and limits for each policy that subcontractors must carry, and have an insurance broker with a specialty in construction review them. As an added level of due diligence, collecting and reviewing contractors' policies to ensure adequacy will help protect the owner/developer and those hiring the contractors. The limits and coverages required vary depending on the scope of the work performed by the subcontractor and the size/scope of the project.

3. Hold subcontractors responsible 

Subcontractors should be held responsible for some portion of the deductible for any losses they cause or to which they contribute. In addition, subcontractors should be required to name general contractors, and GCs to name owners, as additional insureds on their insurance policy so that losses caused by subcontractors can be pushed onto the sub’s insurance policy as opposed to the GCs and owners. Additional insured status should include completed operations coverage.

It is also important to have written contractual agreements with contractors (in addition to the coverage requirements and additional insured statuses mentioned in the previous section) that contain hold harmless or indemnity agreements to protect the GC and owner for losses they (the GC or subs) experience.

4. Avoid mixing business and pleasure

Subcontractors often work for the same general contractors for many years, and owners and developers with the same GCs. Consequently, the relationships can become as much social as they are business. They attend each others' parties, and their kids compete on the same swim teams.

This friendly relationship can lull owners, developers and GCs into a sense of complacency. When this happens, they may not check their contractor’s insurance coverage rigorously, or they might become lax in their contractual requirements because they know the person and like him. But the business and personal relationships may suddenly flounder if a loss occurs, and the contractor is found to be inadequately insured.

Don’t let warm feelings for contractors cloud sound business judgment. Keep the two separate, and the friendships and business relationships will endure longer.

5. Beware of cost cutting that affects risk and pricing

Insurance premiums are based on the cost of the property being built, so a $2 million project may cost twice as much to insure as a $1 million project. This ratio might vary because there are economies of scale with the smaller project paying more (relative to the total cost) than the larger project. As a result, if contractors cut corners such that the total cost of a $2 million project is brought down to $1.8 million, insurance could come down proportionately.

On the other hand, using cheaper materials can make losses more likely because inferior materials are more likely to break, malfunction or wear out earlier. If the project cost is reduced because the contractor is building a smaller structure, this isn’t an issue. For optimal cost savings and risk mitigation, consult with an insurance expert with a specialty in construction to ensure that only proper costs are reported to the carriers.

6. Purchase wrap-up insurance

With dozens of subcontractors on a large construction site, monitoring their policies can be a complicated undertaking. To simplify the task, owners and contractors across the country are increasingly buying mono-line GL wrap-up insurance, which is a general liability policy that protects the owner, general contractor, and all enrolled sub-contractors working on large projects.    

These projects typically start at $10 million construction costs for for-sale residential projects with individually titled units and $20 million construction costs for commercial projects, including apartments. The typical benefits of a wrap-up policy include costs savings, improved control of insurance coverages, extended/completed operations tail coverage, warranty/repair work coverage, limits dedicated to the specific project, and overall peace of mind for the owner that the project is appropriately protected. Additional policies can be placed to cover excess liability, pollution liability, professional liability and builder’s risk.       

Because contractors and subs normally cover insurance costs themselves, owners and GCs can compensate by having all subcontractors contribute to the cost of the wrap-up insurance through bid deducts. Wrap-up insurance can be controlled by either the owner or the general contractor.

7. Tap into a specialist's expertise

A growing trend in construction insurance is the use of specialists to broker and review insurance placements. Insurance specialists are available for all industries, but due to the highly complex world of construction insurance, construction experts are in demand to protect construction clients from significant losses. Often, these specialists are wholesale insurance brokers, who serve as an intermediary between the retail insurance agent and the underwriter. The construction professional (owner or GC) deals directly with the retail insurance agent, who typically sells many kinds of insurance but often doesn’t specialize in a specific coverage.

The connections between all the parties can be visualized as a two-way street between owner and retail agent, between retail agent and wholesale broker, and between wholesale broker and underwriter or carrier.

Specialized wholesale brokers are used heavily for complex or risky projects where their expertise is most needed. The wholesale broker can examine Gantt charts and other construction documents to assess how to present the most attractive package to an underwriter in order to produce the best results and thus avoid high premiums, high deductibles, and unnecessary risk.

For example, if the museum in Los Angeles had used a wholesale broker specializing in construction, the broker would have noticed that it was not covered for rain damage while the roof was being replaced and advised the staff that options were available to close that gap.

A good construction broker will also coordinate insurance programs across multiple product lines, making sure there are no gaps in coverage across various policies and that there is no duplication.

No one approach

A cookie-cutter approach to insurance may work for some industries, but construction, where every project is different, is not one of them. Consult with a specialist to make sure every project is properly insured, and you’ll have one less worry keeping you up at night.