Insuring Completed Operations Pollution Risks
January 2012
Project-specific contractors
pollution liability (CPL) policies have become a valuable form
of protection against third-party claims for both project owners
and the contractors they hire for construction projects. As
society becomes more aware of the effects of contamination on
human health and the environment, the potential risk of lawsuits
from pollution conditions associated with construction projects
continues to grow.
by
Rodney J. Taylor and
Peter Pantalone
Aon Risk Solutions' Environmental Services Group
In its basic form, a project-specific CPL policy will protect
both the owner and the contractor(s) from liability claims due
to pollution conditions arising out of the work of contractors
on a construction project. Typically, the owner of a project
will require its contractors to purchase project-specific CPL
insurance and include the owner as an additional named insured.
A project-specific CPL policy can be purchased for an individual
contractor, or a single policy may provide protection for all
contractors that work on an insured project. The latter is often
referred to as a "wrap-up" policy. CPL insurance is the only
form of environmental insurance that is available on both an
occurrence and claims-made basis.
Construction Contract Errors Can Result in Uninsured
Pollution Losses
While the use of project-specific CPLs has increased
significantly over the past several years, misunderstandings
about certain provisions found in these policies may result in a
significant loss of coverage for both owners and contractors.
The interrelation of individual CPL policy language with
individual contractual insurance procurement requirements may
negate a significant portion of the coverage the policies are
purchased to provide—the coverage for claims arising out of
completed operations.
This potential gap in coverage arises from wording that
project owners typically use to set forth the insurance
requirements in construction contracts they sign with their
contractors. Many times, these insurance requirements are
drafted so that if the contractor obtains a project-specific CPL
policy written on a claims-made basis, it is also required to
purchase completed operations coverage for claims arising out of
loss or damage occurring after the construction process has been
completed. However, if the contractor procures a
project-specific CPL policy written on an occurrence basis, it
often is not required to purchase the additional coverage for
the completed operations period. This can leave a considerable
period of uncovered exposure for the contractor(s) and project
owners where the risk of environmental damage continues past
completion of the contractor's work.
To fully appreciate this coverage gap, we must first
understand some basic language that is common to CPL policies.
The insuring agreements in most occurrence CPL policies require
that bodily injury, property damage, or environmental damage
must occur during the policy period. To understand how this
provision operates in practice, let's look at what can happen on
an actual project.
Environmental Loss Scenario
Assume a contractor is hired by an owner to construct an
apartment complex with 1,200 residential units. The estimated
construction time is 2 years. When the owner drafted the
insurance procurement requirements in its contract with the
construction contractor, it stated that if the contractor
obtained project-specific CPL coverage written on a claims-made
basis, it was also required to purchase completed operations
coverage for a 5-year period following completion of the work.
The contract went on to state that if the contractor obtained
project-specific CPL coverage written on an occurrence basis, no
completed operations coverage would be required. The contractor
did obtain a project-specific CPL policy written on an
occurrence basis for a 2-year term and purchased no completed
operations coverage.
How would this CPL policy perform in the event of an
environmental claim? Assume the contractor completed
construction of the apartment complex within the specified
2-year time frame. Three years after completion, several windows
started to leak due to improper installation of seals by the
contractor. Water intrusion as a result of this construction
defect led to mold growth that resulted in claims for property
damage and bodily injury from the residents living in the
apartments.
These claims would most likely not be covered under the
occurrence-basis project-specific CPL policy since the property
damage, bodily injury, or environmental damage did not occur
during the policy period. The fact that the construction
activities did occur during the policy period is irrelevant
under most policy forms. The insuring agreement in most CPL
policies clearly states that the "damage" must occur during the
policy period. In our example, the "damage" (property damage and
bodily injury due to mold growth) did not occur until 3 years
after the policy period was over. For coverage to be provided in
this scenario, the contractor would have needed to purchase the
additional coverage for a completed operations period of at
least 3 years.
A possible solution to this problem would be to purchase an
occurrence-basis CPL policy with a term long enough to cover the
latent defect exposure associated with such a project. However,
most insurers price "policy term" years at a higher rate than
they apply to "completed operations" years. In our scenario,
purchasing an occurrence-basis project-specific policy for 5
years will likely be significantly more expensive than
purchasing the same policy for a 2-year policy term with
additional coverage for a 3-year completed operations period.
Completed Operations: How Long Is Long Enough?
This raises a further question with respect to
project-specific CPL insurance—how long a completed operations
period is needed to provide adequate coverage for a given
project? Unfortunately, there is no easy answer for this
question. Several project details will factor into this
decision, including the type of job, jurisdiction in which the
project is constructed, statutes of limitations and repose
within the jurisdiction, and even the local climate.
A key factor to consider is whether the majority of the
pollution exposure exists during the construction period or the
exposure is greater in the period following completion of the
construction work. Certain projects are characterized by
conditions and activities where the pollution exposure is
greater in the years following job completion than during the
execution of the construction. These projects typically include
construction of residential, education, and healthcare
buildings. It also includes the construction of refineries,
pipelines, and petroleum storage facilities. A majority of
claims seen in these types of projects involve construction
defects that do not cause environmental damage until after the
project is completed.
Other projects, however, are characterized by conditions and
activities where a majority of the environmental exposures occur
during the construction work. These usually include road
building, construction of warehouses and other nonresidential
buildings, and grading or excavation projects. For example,
during an excavation project, the majority of the pollution
exposure often occurs during the execution of on-site
activities. It is during the excavation that a contractor may
hit an underground utility line or an unknown underground
storage tank. Site work may also result in the migration of
contaminated soil or sediments that impact neighboring
properties, streams, or bodies of water. However, once the
excavation activities are complete, there is a significantly
lower risk of future pollution incidents from the excavation
activities. As a result of this risk profile, excavation
projects can typically be adequately covered with
project-specific CPL policies that include coverage for
completed operations periods that are shorter than those
required for construction of residential buildings.
In contrast, mold damage (a form of pollution) in residential
buildings seldom manifests itself during the execution of the
construction work. As with the project scenario described above,
the damage most often occurs after the project is finished and
occupied by owners or tenants. For these projects, owners and
contractors should strongly consider purchasing CPL policies
with completed operations coverage for the longest terms
available that do not distort the cost of the construction
services. This consideration applies to policies written on
either a claims-made or an occurrence basis.
Conclusion
Project owners and contractors need to learn to avoid using
or accepting "cookie-cutter" environmental insurance
requirements in construction service contracts. Completed
operations coverage should ideally be purchased for both
occurrence and claims-made project-specific CPL policies,
especially for projects where the risk of environmental damage
is greatest in the post-construction period. CPL policies are
different from other types of liability insurance policies and
from other environmental insurance policies. It is imperative
that project owners and contractors consult with insurance
brokers experienced in environmental coverage placements before
drafting insurance requirement language in construction
contracts or purchasing environmental insurance policies for
construction projects.
Pete
Pantalone is a director in the Environmental Services Group
of Aon Risk Solutions. He is responsible for working with Aon
clients around the world to assist in managing their
environmental risk. Mr. Pantalone works directly with clients to
analyze their historic and operational environmental exposures,
structuring suitable environmental insurance programs, and
negotiating directly with underwriters to obtain the necessary
terms and conditions to meet the client's risk objectives. He
has more than 15 years' experience in the environmental
insurance industry. Prior to entering the insurance industry,
Mr. Pantalone worked as an environmental consultant leading many
different remediation projects. He has his CPCU designation, is
a licensed broker, and is a graduate of Villanova University
with a degree in civil engineering.
The views expressed in this article are
general in nature and are not designed to provide individualized
advice. You should consult with your insurance and legal
professionals regarding your specific circumstance before taking
any actions contemplated in this article.
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