Modular and prefabricated off-site construction is expanding in terms of usage and volume for many reasons. These forms of construction raise issues related to appropriate builders risk insurance.
The purpose of this article is to provide an overview of what modular and prefabricated construction are and discuss how these forms of construction impact builders risk insurance from the beginning of a construction project to the end. Various issues need to be considered if the builders risk policy is to meet the requirements of the contract documents and the needs of the stakeholders.
Modular and prefabricated are two terms often used interchangeably, but there is a distinction. The following is according to the Modular Building Institute.
Source: Zena Ryder, "Modular vs. Prefab: What's the Difference?," Modular Building Institute, accessed on December 20, 2021.
Some construction organizations and insurers consider a "modular structure" to be at least 70 percent finished in the factory prior to delivery at the construction site. Some modular buildings or structures may be nearly 100 percent finished in the factory. But most are a combination of modular and conventional construction.
For an excellent primer on modular construction and several varied project case studies, it is recommended that you read Design for Modular Construction: an Introduction for Architects, prepared by James Wilson of Building Green, Inc., for the American Institute of Architects and National Institute of Building Sciences.
The global market for modular and prefab construction could reach more than $173.4 billion by 2027, up 70 percent from $101.7 billion in 2020. 1 According to a recent study, over 86 percent of respondents have utilized off-site fabricated components to some degree. 2 Approximately 5 percent of current commercial construction in the United States is modular in nature, and this is expected to grow. Growth is being fueled by the following perceived benefits.
When designing a builders risk insurance program, an insurance practitioner should always review the contract documents to understand the contractual insurance requirements. This includes the design, construction, and loan agreements. In the case of modular construction projects, the agreements with the fabricator(s) should also be reviewed. Scrutinize these documents, keeping in mind who, what, where, when, and how the builders risk policy should provide coverage.
A builders risk policy typically insures the owner, general contractor, and subcontractors but does not usually cover designers (architects and engineers) or suppliers. With some projects, the off-site fabricator (manufacturer) also operates as an installer, whereby it should typically be insured under the builders risk policy for its on-site installation work. Review of the fabrication agreement will provide the necessary guidance on who must be insured and in what situations.
Builders risk policies contain provisions as to what constitutes "covered property." This term will need to be reviewed to make sure it encompasses the modular components. To avoid doubt, some insurers actually describe modular components as "covered property." For instance, Hartford Form MS 00 23 09 03 includes under Covered Property "materials and supplies, including modular structural components …" [emphasis added].
Likewise, nearly all builders risk policies exclude existing buildings and structures. Does the wording of the applicable exclusion somehow limit coverage applicable to modular components?
Builders risk policies have provisions that govern where insured property is covered. This is usually found in two areas: (a) address and description of the project, and (b) the "coverage territory" definition. The address and description are fairly straightforward. When considering modular components, determine whether coverage is needed while the components are in transit, at the fabricator's location, at warehouses, and at staging/laydown areas. The risk allocation should be set forth in the fabrication and transportation agreements. Look specifically at who bears the risk and when/where the risk transfers to the project stakeholders.
The "coverage territory" definition in the builders risk policy should be reviewed. This most often is limited to the United States or the United States and Canada, with no coverage on waterborne shipments. With a construction project, there may be modular component suppliers located outside of the United States and Canada. Those agreements should be reviewed to determine where coverage is required and for whom, and when the risk of loss is transferred.
From a physical damage standpoint, the project term should not be affected simply because modular components are utilized. The policy term should reflect the period that coverage is required by the contract documents. One time issue that should be considered is the period of delay for soft costs and/or loss of revenue coverages (if purchased). The period of coverage delay may be longer when utilizing modular fabricators (particularly overseas fabricators), depending on their ability to produce new modules. Fabricators tend to be highly specialized and difficult to replace.
This is a catch-all category on the overall way the builders risk policy is constructed, considering all the terms and conditions. Is there any provision that excludes or limits modular construction that would adversely impact a claim, such as a limitation on crane operations?
A recent case decided the issue of whether modular units are insured under a builders risk policy. This case is 6 W. Apartments, LLC v. Ohio Cas. Ins. Co., Civil Action No. 1:20-cv-02243-RBJ, 2021 U.S. Dist. LEXIS 204835 (D. Colo. Oct. 25, 2021).
The facts are not in dispute: 6 West Apartments ("Owner") broke ground on the construction of an apartment complex, which constituted 9 buildings and 120 apartment units located in Eagle, Colorado. The project was to be completed by stitching together modular units delivered to the jobsite. The Owner purchased a builders risk policy from Ohio Casualty Ins. Co. ("Insurer") for the period of April 3, 2018/19. During the course of construction, multiple claims were filed with the Insurer totaling $792,588, of which the Insurer paid $294,162. Disagreements over the unpaid amounts led to this litigation.
At the heart of the issue, the Insurer denied coverage for losses associated with the modular units. The builders risk policy contained an exclusion for "Standing Buildings or Structures." This exclusion precludes coverage for damage to a building or structure that has been wholly or partially constructed, erected, or fabricated. A standing building or structure also meant any building or structure that was in the process of construction, erection, or fabrication at the inception of this policy. The Insurer brought a summary judgment motion and argued that the modular building units, which were constructed offsite, fit within this exclusion.
The Owner argued that the exclusion was ambiguous, and the circumstances indicated a mutual intent that the modular housing units would be covered. The Owner further argued that (a) builders risk policies typically cover preassembled building components, (b) the modular units comprised over 50 percent of the project cost, and (c) the premium cost was based on such amounts and also covered the units at an offsite location used for inspection and storage. In addition, the Owner argued that standing structure exclusions typically exclude preexisting or partially completed buildings at a jobsite and not modular units.
The court ruled that the Insurer was not entitled to summary judgment. The court found that the policy language was contradictory and ambiguous.
As an industry custom and practice, existing buildings and structures are excluded in builders risk policies. That is not to say these could not be covered by the issuance of a change endorsement. In fact, many builders risk policies are endorsed this way, especially with projects involving extensive renovations or rehabilitation of an existing building.
The reason existing buildings and structures are excluded by builders risk coverage forms is that these assets are not considered a "course of construction" exposure. For example, let's assume a contractor is constructing an addition to a manufacturing plant. The cost of the addition is $5 million. The insurable replacement cost of the plant building is $50 million. A builders risk underwriter does not want to cover damage to the existing plant. The underwriter has not underwritten that loss exposure, nor has the insurer received a premium for that. An underwriter generally views this exposure (liability for damage to nonproject property) as one that should be insured by a commercial general liability policy.
In my opinion, the judge ruled correctly. The insurer's policy covers buildings and structures in the course of construction, erection, or fabrication. This coverage is limited to materials and supplies that will become a permanent part of the buildings or structures. As such, the modular units fit squarely within the coverage. The insurer's argument that the modular units are standing buildings or structures, while novel, fails. The "Standing Building or Structure" exclusion simply does not apply to modular components. The wording used in the builders risk policy at issue is intended to exclude existing buildings and structures (like the existing manufacturing plant in the example above). Also, the premium charged for the builders risk policy included the value of the modular components.
Modular and prefabricated construction are growing in popularity and are here to stay. These activities warrant additional risk assessment and potential changes in the builders risk insurance.
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