Builders risk underwriters are increasing imposing protective measures requirements upon their insureds, particularly for large frame construction projects. Builders risk insureds need to be aware of and adhere to these provisions.
This Expert Commentary is an update of the article titled "Learn Builders Risk Protective Safeguard Endorsements and Warranties" (published by IRMI in December 2016). That article provides a general overview and identifies several protective safeguards used by underwriters, including fencing, lighting, detection systems, sprinklers, fire hydrants, video surveillance, security services, cutting, and welding. Also provided were sample wordings set forth in protective safeguard endorsements.
Due to the recent "hardening" of the insurance marketplace, due in part to several substantial fire losses involving frame construction projects, builders risk insurance underwriters are imposing additional safeguards or conditions (hereafter collectively referred to as a "condition") to reduce their exposure to loss. These conditions are listed in the applicable insurance proposal issued by the respective underwriter(s) and then memorialized in the issued builders risk policy via one or more endorsements.
Builders Risk Insurance Proposals
Usually, a builders risk insurance proposal is issued to the policy sponsor only. In most cases, this is the project owner. It is unusual that the insurance proposal is broadly shared with other stakeholders or insureds.
Since the policy sponsor is negotiating the builders risk insurance, it should familiarize itself with any special condition(s) contained in the proposal. It should fully satisfy the condition(s) itself or arrange for other stakeholders to handle. It should also communicate such conditions to all builders risk insureds. Communication is paramount before the policy goes into effect. For instance, a common condition imposed by underwriters is for the project site to be protected by a 6-foot fence that is locked during nonworking hours. Usually, the general contractor is responsible for this activity. But if the general contractor is not told this is a condition of the builders risk insurance, problems can occur.
When reviewing the proposal, additional conditions are often found in sections titled "Conditions," "Subjectivities," or "Other Important Items." As part of its review, the policy sponsor should communicate with the underwriter regarding any conditions that are either unclear or can't be complied with.
An example of an unclear condition is "satisfactory and timely cooperation with the potential installation of complementary water-flow detection devices." This is an actual condition in a recent proposal for a large frame construction project. How is one to comply with a "potential installation"? And what, specifically, is a "complementary water-flow detection device"?
An example of a condition that sometimes can't be complied with is the requirement for lighting the construction site from sunset to sunrise. In some municipalities, particularly in residential areas, local building codes do not allow for project sites to be illuminated at night.
Recent Additional Conditions
Examples of additional conditions seen in recent builders risk proposals are listed below. These are in addition to the conditions listed in the December 2016 Expert Commentary article referenced.
Insurer approved site-surveillance systems
Construction in accordance with geotechnical report
Satisfactory responses to insurer questionnaires, such as hot works and groundwater
Completed buildings must roll to a permanent property policy upon substantial completion
On-site water supply and hydrants are active prior to vertical construction
Acceptable water damage mitigation measures
Acceptable hurricane emergency action plan
Acceptable means and methods for site dewatering
Acceptable means and methods for underpinning
Acceptable building conditions report (for existing structure(s))
Construction timeline showing dry-in of each phase prior to installation of drywall and interior finishes
Satisfactory water-flow detection devices
Recent Case Illustrates Some Key Issues
It is my experience that most cases involving an insured's failure to comply with protective device warranties/conditions end up favoring insurers. However, a recent case was ultimately won by the insureds. This case is Praetorian Ins. Co. v. Axia Contracting, LLC, No. 17-CV-2034-WJM-SKC (D. Colo. Sept. 23, 2020).
The facts are not in dispute. Axia Contracting and Blackhawk Hospitality obtained a builders risk insurance policy from Praetorian Insurance Company. This policy insured a hotel construction project located in Aurora, Colorado. On June 19, 2017, a fire occurred that damaged the unfinished hotel. The city of Aurora Fire Department estimated the loss at $3 million.
The insurer denied coverage for the subsequent claim because the policy contained a Protective Devices Schedule (PDS) and a Protective Devices Endorsement (PDE). The PDS listed required protective devices, including a chain-link fence at least 6 feet in height, completely enclosing the jobsite. In addition, the entrance and access gates were required to be securely locked during all nonworking hours. The PDE excluded loss caused by a fire if the insured (a) had knowledge of the suspension or impairment of a required protective device and did not notify the insurer, or (b) failed to maintain in complete working order the fire protective device or service described in the schedule.
It is undisputed that the project jobsite was not enclosed with a chain-link fence. In addition, the defendants received a 10 percent premium credit due to the inclusion of the PDS and PDE.
The lower court concluded that the policy was not ambiguous and that there was no genuine dispute of material fact that the requirement to maintain a fence was a material term of the builders risk policy (see Praetorian Ins. Co. v. Axia Contracting, LLC, No. 17-CV-2034-WJM-KLM (D. Colo. March 1, 2019)). The court reasoned that the insurer agreed to assume a known level of risk for losses not otherwise excluded. The insurer agreed to a premium reduction in exchange for the defendants' agreement to supply the protective safeguards. The failure to erect the required fence constituted a material breach of the policy.
This decision was appealed to the Tenth Circuit Court of Appeals (see Praetorian Ins. Co. v. Axia Contracting, LLC, No. 19-1113, Dec. 31, 2019). The appeals court reversed the lower court and remanded the matter for further proceedings. It rejected the lower court's conclusion that defendants' failure to maintain fencing and secured access to the construction site was a material breach of the builders risk policy. The policy sets forth specific consequences for failing to maintain the fire or theft protective devices listed in the PDS (loss by fire or theft is excluded by the PDE). However, the lower court's material breach theory would have far greater consequences than intended by the parties. Treating the failure to fence the construction site as a material breach could excuse the insurer's obligation to cover damage from another cause of loss, such as a tornado.
The insurer then renewed its motion for summary judgment in the lower court. The insurer argued that the builders risk policy does not cover the fire loss for two reasons: (1) the defendants failed to maintain the required protective devices at the construction site, which was a condition of coverage, and (2) the loss is excluded by the PDE.
Regarding its first reason, the insurer argued that the required fence was a condition precedent to coverage. The court disagreed. While the PDE states that the insureds must maintain at all times during the policy period the protective devices listed in the PDS, the PDE does not unequivocally state that the fencing requirement is a condition precedent to coverage or that the insurer is relieved of all its policy obligations if the defendants do not maintain the required fence. Rather, the PDE provides that failure to comply with the PDS leads to exclusion of certain perils (i.e., losses caused by fire or theft). If the fence requirement was a condition precedent to coverage, the "Perils Excluded" section of the PDE would be meaningless. Based on the insurer's reading, the defendants' failure to maintain the fence would relieve it of all its policy obligations.
The insurer also argued that the PDE excludes coverage for the loss. It contends that the following exclusion in the PDE applies: "'We' do not pay for loss caused by fire if, prior to the fire, 'you' … b. failed to maintain in complete working order, the fire protective device or service described in the Protective Devices Schedule which 'you' control" [emphasis added]. The court reasoned that the required fence does not constitute a "fire protective device." The plain and ordinary meaning of the term "fire protective device" does not include "chain link fencing" or other similar fencing. It determined that the language of the PDS demonstrates that the fundamental purpose of the fence is to provide security, not fire protection. Therefore, it found that the PDE did not apply to the fire loss. It concluded that if the insurer considered the fence to be a fire protection device, it could have specified as much using clear language in the policy.
The builders risk policy sponsor should closely review all additional conditions imposed by insurers as part of the insurance proposal. If the conditions are unclear, clarity should be sought. If a condition cannot be complied with, this should be explained to the underwriter prior to binding coverage, and the condition removed. The policy sponsor should make all stakeholders/insureds aware of the additional conditions.
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