Role change: an Arizona court clarifies inland marine's growing influence in builder's risk.
When does a construction project become a building? At what point is a brick, a board or an I-beam part of an insurable structure, and no longer material in transit?
More specifically, is a builder's risk policy--written for a dormitory that burns down in the middle of the Arizona desert--exempt from the requirements of the Arizona Standard Fire Policy because the builder actually held a form of inland marine insurance?
An important decision by the Arizona Court of Appeals holds the answers while also recognizing the growing importance of inland marine insurance as an effective risk management tool.
Here's what happened. In 2002, Arizona State University contracted with Weitz Company LLC to erect four new dormitories. On June 2, 2003, a subcontractor using a torch to cut and weld structural steel supports ignited combustible materials. The flames spread, causing more than $2 million in damage.
Weitz had obtained a commercial builder's risk insurance policy from Liberty Insurance Underwriters Inc. which contained various warranty endorsements designed to reduce fire hazards, including:
* maintaining an adequate number of fire extinguishers
* conducting a fire watch during all welding operations and other "hot" processes
* inspecting the job site every workday to extinguish any smoldering embers from hot processes.
Such requirements are consistent with OSHA safety regulations.
When Liberty learned the endorsements had been violated, effectively voiding the policy, it denied coverage. The contractor sued Liberty, claiming to be exempt from compliance with the endorsements because they limit coverage.
What the Courts Found
An Arizona trial court found in favor of Weitz, ruling in a summary judgment that the policy endorsements were invalid because the builder's risk policy failed to conform to the requirements and restrictions set forth in the Arizona Standard Fire Policy.
On appeal, the Arizona Court of Appeals, in Liberty Mutual Insurance Underwriters v. The Weitz Company, et al., ruled that because the builder's risk policy had been written on an inland marine coverage form, it was exempt from the restrictions in the Arizona standard policy.
But it rejected the contractor's argument, noting it would have mandated obtaining Standard Fire and inland marine policies simultaneously to cover a construction site, and then applying the proper policy as each piece of material was affixed permanently to the structure. The Arizona court found such an approach untenable, and stated that the trial court's ruling "turns ... reasoning on its head."
The Arizona Court of Appeals' ruling recognizes that work performed on a construction site--excavation, welding, the transportation of construction materials--presents substantially greater risks than those present in a completed and occupied building.
Further, the court held that builder's risk insurance is a form of inland marine insurance, and that "a builder's risk inland marine policy remains in effect until the building is complete, the owner accepts the building or the contractor's insurable interest terminates."
The court of appeals' decision delineates a bright line rule by finding the insured construction site to be covered by builder's risk insurance until the project is completed and approved for occupancy, at which time the Standard Fire Policy would apply.
Like most states, Arizona has adopted a Standard Fire Policy to provide a general level of protection for buildings and personal property, underwriting risks which remain fairly constant over a period of time. Adapted from New York's Standard Fire Policy, it serves to protect homeowners and other building owners by prohibiting insurance companies from adding any language which might be used to deny coverage.
Originally, the Standard Fire Policy was designed to cover a narrow group of risks, basically limited to fire. However, over time its coverage was expanded to cover natural perils, such as lightning, hail, windstorms, earthquakes and other perils such as explosions, riots, smoke or damage by aircraft.
Despite the additional perils covered by the Standard Fire Policy, states which have adopted it prohibit endorsements which set forth additional exclusions or limitations.
Commenting on the case, William Warfel, a professor of insurance and risk management at Indiana State University, said, "A hallmark of both ocean marine and inland marine insurance is a potential risk of loss of such magnitude that the exposure is uninsurable in the absence of warranties. Compliance with construction site safety policies is as important to underwriters of builder's risk policies as a vessel's seaworthiness is to underwriters of ocean marine policies."
To limit losses, builder's risk carriers must be able to compel insureds to comply with safety endorsements, especially when doing dangerous work. A court ruling prohibiting warranties could lead to a dramatic increase in the cost of such coverage, ultimately increasing the cost of real estate development.
The trial court's ruling failed to recognize the emergence of inland marine as a viable form of builder's risk insurance. While similar, inland marine policies are a much-evolved derivative of the ocean marine policies first written hundreds of years ago.
Inland marine began as "marine insurance" or "ocean marine" and was created to cover the myriad mishaps that can occur at sea--storms, icebergs, mutiny--and often resulted in a total loss of cargo.
This nascent insurance initially only covered goods during ocean transit. Although goods might be kept in a warehouse until transported to their final destination, ocean marine coverage typically ceased upon arrival in port.
As delivery of goods from the initial port of call to their final destination evolved, some insurers offered additional coverage for goods shipped over inland waterways, thereby creating the term "inland marine."
Then, as railroad and highway transportation developed in the 19th and 20th centuries, the need arose for flexible coverage of land transport. Inland marine again evolved to insure shipments exposed to a variety of nonmarine transportation perils.
Since inland marine allowed for more flexible coverage than the Standard Fire Policy, contemporary inland marine coverage expanded further, covering property that was in transport, associated with transportation and communication, goods in storage and even goods in a specific location.
Businesses began buying inland marine policies to cover risks incurred during renovation, repair or construction against accidental loss, damage, or destruction of property.
Inland marine policies have been adapted to provide the most common form of insurance coverage in the construction industry: the builder's risk policy. Builder's risk policies recognize that:
* Building sites are dangerous places.
* Numerous parties have an insurable interest in the property.
* Property values quickly increase in a short period of time.
* Property risk during construction is higher than the risk associated with an existing structure.
Contrary to the arguments made by the contractor's counsel in the Weitz case, it is not unusual for a marine policy to be issued for a construction project in the desert. But while some forms of marine insurance may have outgrown the name, this coverage has not outgrown its usefulness.
The Arizona Court of Appeals' recent ruling recognizes the evolution of marine insurance as an effective risk management tool, and should be welcomed by policy writers, brokers and insureds.
* What's Up: Builder's risk policies are becoming standard-issue for inland marine writers.
* What's Happened: Courts in Arizona and elsewhere recognize inland marine's unique underwriting capabilities.
* What's Next: Inland marine insurance could become a widely used risk management tool.
Getting a Watertight Policy
How can insureds, their brokers and carriers ensure that the warranty endorsements on their builder's risk policies are fair and enforceable? Based on the Arizona Court of Appeals' opinion in Liberty, Mutual Insurance Underwriters v. The Weitz Company, et al., experts recommend the following when placing builder's risk coverage on inland marine forms:
* Read every word. Know the policy language and what coverage is being provided. Insurers must tell the insureds what they are buying. Though the courts acknowledge that "the label an insurer chooses to place on a policy form is not always dispositive," the Arizona court noted that the Liberty policy represented itself to be "marine insurance, a policy that covers commercial property floater risks." Policies and riders which identify the coverage as a "builder's risk policy on an inland marine form" help clarify the scope of coverage being provided.
* Insist on specifies. Be certain that warranty endorsements specifically define the safety protocols and procedures to be followed on the job site. Warranty endorsements which track OSHA or other existing safety regulations are more likely to be upheld and not found onerous or impractical.
* Make it clear. Be certain the policy's "increase-in-hazard" provision is stated clearly. Language stating that coverage is jeopardized by any substantial change or increase in hazard, if within the control or knowledge of the insured, is straight-forward and therefore likely to be upheld. Letting site security lapse, ignoring fire safety precautions (including fire watches during hot work), and failing to conduct timely safety inspections are examples of increases in hazard which may nullify coverage, even in the absence of explicit warranty endorsements.
* Write a happy ending. Make sure the policy sets a firm and defined completion point when the builder's risk coverage will terminate. The Arizona court noted that the builder's risk policy Liberty wrote "expressly provided that coverage terminated both when the owner, Arizona State University, accepted the property, and when the contractor's interest in the property ceased."
Contributor Jeffrey J. Asperger is Principal of Asperger Associates LLC of Chicago. He and the firm represent clients throughout the country in matters of insurance coverage, large loss recovery, construction law and Admiralty and Maritime Law. He may be reached at email@example.com
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|Title Annotation:||Property/Casualty; case between Weitz Company L.L.C. and Liberty Insurance Underwriters Inc.|
|Comment:||Role change: an Arizona court clarifies inland marine's growing influence in builder's risk.(Property/Casualty)(case between Weitz Company L.L.C. and Liberty Insurance Underwriters Inc. )|
|Author:||Asperger, Jeffrey J.|
|Date:||Jan 1, 2008|
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