Recent attention has been paid to the limitations of construction project insurance coverage. Because insurers will always include exclusions in agreements to minimize their exposure, it’s important to understand both what is and is not covered.
For example, builders risk policy insurance agreements covering large, complex construction projects frequently use standard form contracts in Ontario that include the three-tiered exclusion clauses developed by the London Engineering Group (LEG), a consultative body for insurers of engineering class risks.
Sahil Shoor, partner with Gowling WLG, summarizes the three LEG exclusion clauses commonly used. Each of the three progressively limits the level of exclusion.
LEG 1/96 is an “outright defects exclusion” clause that excludes coverage for all loss or damage due to defects of workmanship, materials or design.
LEG 2/96 is a “consequences defects exclusion” clause that excludes the before-loss cost of remedying any defective workmanship, materials or design.
LEG 3/06 is an “improvement defects exclusion,” the narrowest model exclusion clause, only excluding any costs incurred for improvements to the original design, material or workmanship.
Of course, a builder may wish to take any one of these exclusions out. There would simply be a premium cost to do so.
At the same time, an exclusion clause in a builders’ risk insurance policy does not necessarily mean it should apply in every situation. However, Shoor explains that any attempt to overturn an exclusion clause faces a challenging three-step process that throws the burden of proof back and forth between the insured and the insurer.
“First, the insured must establish that the damage or loss falls within the general scope of coverage of the policy. Second, the insurer may prove that an exclusion clause applies to limit the insured’s claim. Third, if an insurer succeeds in proving an exclusion, the insured may then prove that an exception to the exclusion applies.”
Success or failure with that third step is what proves conclusive.
One of the few times courts have ruled on exclusion clause disputes between the insured and the insurer was the 2016 case, Ledcor Construction Ltd. vs. Northbridge Indemnity Insurance Co.
“The decision of the Supreme Court of Canada in Ledcor was whether the builder’s risk policy taken out by the contractor that was contractually responsible for cleaning the windows of a building, covered damage to the windows caused by its poor cleaning work,” writes Marie-Claude Cantin, partner with Lavery Lawyers. “The Supreme Court decided that only the cost of redoing the cleaning was excluded and so replacement of the windows, which was damage resulting from the faulty workmanship, was covered.”
Shoor draws further attention to a 2015 ruling by the British Columbia Court of Appeal, Acciona Infrastructure Canada Inc. v. Allianz Global Risks US Insurance Company.
Concrete slabs were found to be over-deflecting and cracking. No actual damage had yet occurred but could likely occur. The court upheld an earlier ruling that determined that the LEG 2 exclusion clause did, in fact, allow the insurer to deny coverage to rectify the issue, even though the cost of doing so at that stage would have been far less than after structure damage had occurred. The result was that the contractor was obliged to step in and take remedial action ahead of any actual damage at its own expense.
While the court ruling might appear counterintuitive — closing the barn door only after the horse escapes — the fact is, insurance companies insure against the consequences of actual events, not in anticipation of them.
These cases confirm the importance to not only realize that LEG exclusions may be part of the provided coverage, but that there are important differences between each one.
“The issue becomes very challenging when you have perhaps negligence or environmental factors to which the insured didn’t pay close attention when the policy was negotiated,” says Shoor. Anything within these clauses that cannot be negotiated with the insurer represent risks to be assumed by the insured. “That can be ‘make-or-break’ for the builder’s profit.”
John Bleasby is a Coldwater, Ont.-based freelance writer. Send comments and Legal Notes column ideas to editor@dailycommercialnews.com.
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