By Max Stein and Robert Alfert
For any construction project, insurance coverage is a critical factor in managing risk. In recent years, owner-controlled insurance programs (OCIPs) for large-scale commercial and residential construction projects have grown in popularity.
OCIPs are mainly known for being “wrap-up policies,” which means the owner/developer pays the premium, and the policy provides coverage for all contractors and subcontractors working on the project, with the exception of some higher-risk trades, such as hazardous-materials handling or demolition. While OCIP costs can vary widely depending on project scale and risk, as well as the coverage limits and terms, often standard OCIPs range from 1.5 to 2.5 percent of the project value.
These policies usually cover the owner or developer, contractors, subcontractors and sometimes others, including architects and engineers. Wrap-up programs typically include builders’ risk, general liability and workers’ compensation/employers’ liability insurance, though some might include only commercial general liability.
In practice, OCIPs can offer cost savings to owners by allowing the contractor and subcontractors to bid on the project without including the price of their individual policies. OCIPs also provide the additional advantage of comprehensively covering most of the project participants, even after the construction project is complete.
These policies are in effect for the full duration of construction and also provide tail coverage through the state law period of repose. Tail coverage refers to insurance that is active after the project is completed.
A state’s period of repose is a legal time limit set by state law during which someone can file a claim for construction defects or other project-related liability. The time limits vary. Some states, including Nevada and North Carolina for example, have periods of repose that last six years after the project is complete.
Other states, like Florida and Illinois, have periods of repose that last 10 years. These policies reduce the risk of contractor or subcontractor policy lapses. By ensuring that all parties are covered under a single overarching policy, OCIPs aim to provide consistency, lower costs and reduce claim-related issues among insureds.
A Challenging Claims Process
OCIPs aren’t without challenges, and they can sometimes lead to issues in the construction defect claims process. When an owner files a claim against the contractor or subcontractor under an OCIP policy, a policy administrator will retain legal counsel for the contractor to defend the claims and an expert to investigate the deficiencies.
This process can create tension between the owner and the OCIP policy administrator. Although the owner is paying for the policy to protect the project, the carrier often responds by defending the contractor, similar to how it would under a contractor-controlled policy. The OCIP coverage plays out almost identically to the coverage and defense seen in most contractor-controlled insurance programs or commercial, general-liability claim scenarios.
Example: An owner developing a large-scale multifamily residential complex purchases an OCIP policy covering the contractor and the subcontractors. Issues occur with the contractor’s work, including defects in balcony waterproofing and the building envelope system — which includes roofing, walls and windows among other components — leading to water intrusion and causing damage.
The owner files a claim for damages caused by the contractor and to recoup repair costs, with the expectation that the insurance policy will support its position. But the OCIP insurer retains legal counsel and expert witnesses on behalf of the contractor to investigate the deficiencies claimed and invariably defends the contractor as if the contractor procured the policy, often resulting in the denial or minimization of many of the owner’s claimed defects.
Consequently, the owner must expend funds and time for attorneys’ fees and expert witnesses to fight for payouts on its own policy, often leading to a more expensive and prolonged claims process.
So, while OCIPs aim to promote efficiency and reduce litigation, owners often find themselves paying for the protection but having to fight for the payouts. Instead of reaping the benefits of these policies, owners often experience a shift from cooperation to litigation, delayed repairs and increased costs.
This tension raises a major question regarding OCIPs: Does the insurer owe a duty to the owner when analyzing claims against the contractor?
Understanding Duty Allocation in OCIPs
Under general insurance principles in Florida, for example, an insurer owes the insured the implied duty of good faith and fair dealing. An insurer must investigate the facts, give fair consideration to a reasonable settlement offer and, if possible, settle when a reasonably prudent person faced with the potential for paying the total recovery would do so.
In the OCIP context where many parties are involved but only the owner pays, this basic premise becomes more complex and begs the question, to whom does the OCIP carrier owe allegiance when a claim arises?
An OCIP insures the owner, but the coverage extends to all of those contracted to work on-site, including the general contractor and subcontractors. Generally, when one policy insures more than one party, the insurer’s good-faith duty applies to all who are covered.
Although this concept is ideal, owners often find that when they make a claim against a contractor under these policies, the legal counsel and experts retained fight on behalf of the contractor in identifying the deficiencies.
This makes the claims process akin to a standard construction-defect claims process in which the contractor obtains its own insurance, and the insurer clearly owes its duty solely to the contractor when claims are made.
This approach may conflict with the intended purpose of OCIPs and raises questions about the scope of the carrier’s duty to the owner. The policy is supposed to reduce costs and streamline the claims process, but the owner may end up spending additional time and money proving its claims.
This can be especially problematic for large-scale projects where unresolved defects can delay occupancy, affect operational timelines and lead to financial losses.
Under general insurance principles, insurers should owe owners the same duties as the contractors under the policy as the primary insured party, and the insurance company should give deference to this complex relationship and the overarching principles of OCIPs.
However, the lack of case law and limited litigation (in part because OCIPs are intended to reduce disputes) has prevented the development of a clear framework for resolving these issues. That leaves owners in situations where the process can feel counterintuitive — funding the policy but encountering resistance when filing claims.
Mitigating OCIP Claim Challenges
How can an owner utilize an OCIP but avoid these issues? First, before procuring an OCIP, it is imperative that the owner work closely with legal counsel and insurance advisers to review the policy terms, especially those regarding the claims process.
If the policy is not clear about what duties are owed to the owner, owners can seek to add language to better define the duties owed by the carrier since insurance policies are guided by their terms.
Further, owners can add clear procedures for handling claims and resolution, as well as define obligations for remedial work. These solutions may help the overall claims process and support the overarching goals of OCIPs, which include streamlining dispute resolution, avoiding litigation and reducing costs.
In summary, OCIPs are an effective way to consolidate and provide one-stop-shop insurance coverage on a construction project, reducing risks and potential gaps in coverage. However, when a construction defect arises, OCIPs can bring unexpected tension to the claims process if the insurer appears to prioritize defending the contractor over collaborative resolution.
By addressing what duty is owed to an owner in an OCIP and carefully negotiating policy terms and implementing a proactive claims procedure, owners can better navigate these issues.
Customizing your policy provisions will ensure that the intended purpose of an OCIP policy — project protection and successful completion — is fulfilled.
Max Stein is an associate attorney at Miami-based law firm Nelson Mullins, and Robert Alfert Jr. is a partner. Stein concentrates on areas such as payment disputes among project participants. Alfert is a construction arbitrator.