Green Construction Liability Risks
Insurers 'Green Up' Gray Coverage Areas
CONSTRUCTION CARRIERS ARE TACKLING THE UNIQUE LIABILITY RISKS OF GREEN-BUILDING PROJECTS.
"Greenwashing" sounds like a reference to environmentally friendly laundry products, but when the term is applied to construction or property management operations, it can signal decidedly unfriendly consequences for participants in the building process, such as lawsuits and organized protests.
Joseph Fobert, senior vice president and practice leader for the real estate solutions group of Chartis Insurance in Tampa, Fla., explained that when builders, contractors, real estate owners or managers promise to undertake green-building processes, if finished construction projects fall short of promised levels of greenness, then one or more project participants might face allegations of greenwashing - or green whitewashing.
The promise, he explained, can take any number of forms.
For example, a real estate owner for a business complex may tout the prospect of a certain amount of savings on energy bills.
Alternatively, pre-construction marketing aimed at attracting tenants or charging higher rents for an apartment complex might advertise the prospect of a cleaner environment, warranting the achievement of a Platinum LEED certification from the United States Green Building Council. (LEED stands for Leadership in Energy and Environmental Design. For details, go to www.usgbc.org.)
Green-building generally involves practices aimed at increasing efficiency and sustainability of buildings and their use of energy, water and materials. Organizations such as the USGBC and Energy Star have set green-building benchmarks measuring performance in several key areas of human and environmental health.
USGBC. for example, assigns point values to each area, such as 17 possible points for energy efficiency issues. Certification levels - certified, silver, gold or platinum - are determined based on total values assigned.
Experts say that while green-building initiatives may reduce risks related to property damage and bodily injury typically covered by commercial general liability policies, there are a host of liability risks that fall into grayer coverage areas. Bad publicity arising from greenwashing allegations is one of them, Fobert said.
The typical coverage afforded under a CGL policy is for bodily injury and property damage liability, and advertising or personal injury, he noted. Breach of warranty and breach of contract are exclusions, he added, explaining that when a third party alleges a building didn't live up to its green-building hype, insured real estate owners or property managers might not find coverage under a CGL policy for the costs of responding to such charges.
"The exposures to these individuals are predominately economic and reputational," he said.
One way in which the Chartis Green Reputation endorsement can fill the gap is by providing crisis management consulting services, he said. In the event of adverse publicity events and lawsuits, buyers of the endorsement - introduced about a year ago - get 24/7/365 access to crisis consulting firms that are under contract with Chartis.
Fobert said just the threat of an adverse publicity event or lawsuit can trigger coverage.
An executive at the insured company, for example, might hear that a group of protesters will be outside at 8 a.m. the next day because a building is not green enough, or because builders plowed down a forest to make way for a building project he explained - noting there are many groups of eco-terrorists whose sole purpose is to generate publicity when they uncover shortcomings in green guarantees or activities that damage the environment.
Eco-terrorism and negative publicity are by no means the biggest risks on the minds of real estate and building executives. Fobert said Chartis, as well as members of property owner trade groups, see substantial first-party financial costs arising from the need to correct deficiencies in properties that fail to achieve green standards.
UNCOVERED COSTS
Fobert gave the example of a developer or owner contractually warranting that a prospective tenant will be able to get a certain number of carbon credits. "The architect, the engineer, the designer, the manufacturer - somebody along the way doesn't get it done right. There are then not only going to be defense costs" - to deal with lawsuits - "but there's a financial impact contractually to now go and do it right."
While defense costs are covered by the Green Reputation CGL endorsement, Fobert said the cost of making things right is not currently covered under standard property policies.
Chartis and other insurers have introduced "upgrade-to-green" property coverages, but those are only triggered in the event of a physical property loss - allowing an insured to upgrade to a green-certified level in the event an insured building burns down, for example.
"What about the financial cost to the first party of making themselves green so they can comply with these contracts" with leasers and tenants? Fobert asked.
"Actually getting green-certified is not easy - and it's costly," he said. A developer or builder that secured $100 million in loans to put up a building might now need another $25 million - a prospect that's particularly tough in the current economy, he added.
"It is something that I see as an exposure, and I'm not saying we're looking at doing it or we're not looking at doing it," he said, referring to the possibility of creating an insurance coverage response.
Paul Primavera, senior vice president of claims in the Washington office of broker Lockton, flagged the cost of investigating which party is at fault for the failure of a building to meet a performance standard as another that might not be covered by insurance policies as they're now crafted.
"There are many factors that go into certifying a building to a certain level," he said - noting, for example, that a building's emissions might turn out to be 20 percent greater than they should be for a gold or silver certification.
The higher-than-expected emissions could give rise to a breach-of-contract claim by an owner against a general contractor for failing to live up to an agreement to provide a green building, he said. While the "root cause" of the high emissions might not be readily evident the cost "just to investigate that is going to be expensive. Testing will need to be done," he explained.
Primavera suggested that even after spending a great deal of money, testing might only produce a finding that the ventilation system is causing the emissions problem - but it could still be unclear if there's a design flaw or some problem with the piping that's flowing emission steam out of the building. "Was it the result of a design error or a construction error? We don't know," he said.
Explaining why the investigation costs might not be covered, he said CGL policies require an occurrence, as well as covered damages, to respond. "There has to be an accidental event, and in many states, defective work is not considered accidental."
Turning to the issue of damage - property damage liability, in particular - he noted that while the venting may be the cause of the emissions problem in this example, "there's really no damage to the venting. It's just the way it was constructed," he said, drawing a parallel to a situation where a handrail for a stairway is supposed to be four feet off the ground but is placed 6 feet off the ground instead. "There's no damage. That's not covered under the CGL policy," he said.
If the design was correct, "we're stuck with a claim that is not GL· or professional liability-based" and a contractor that "may not have coverage from a pure property and casualty standpoint."
While Primavera agreed that an owner might be able to call upon a surety bond guaranteeing the performance of a contractor in this type of situation, "that gets problematic," he said.
"That's there for protection, but you have to be careful about having claims on it, he said, noting that sureties can look back to the contractor to recoup costs. "It's a solution, but it's not necessarily an adequate solution," he added.
NEW COVERAGES EMERGE
Although costs to pinpoint sources of a building's nonperformance or to correct deficiencies in undamaged buildings aren't covered by standard liability and property insurance policies, Fobert confirmed that Chartis' Green Reputation CGL policy endorsement does cover costs to defend green-building lawsuits.
Beyond standard CGL occurrences, the endorsement defines an "adverse green claim" as a cause of loss - "a civil lawsuit from anyone other than an insured under [the] policy demanding monetary or non-monetary relief and alleging your failure to meet or comply with industryrecognized green-building standards."
The endorsement defines adverse defense costs as "reasonable and necessary costs and expenses resulting solely from the response to and/or defense to or appeal of an adverse green claim," he added.
Fobert said typical buyers would be owners, real estate investment trusts, asset managers, property managers, developers or general contractors involved in commercial or residential construction.
He said while there is no filed cap, a recommended meaningful limit is $50,000 per occurrence and $100,000 in aggregate.
The minimum endorsement premium is $2,500, but an average charge is $10,000, he said, noting that the actual amount will depend on the extent of the "greenness" of the project. "Are you going for Energy Star or are you going for LEED Platinum? How have you sold that?
"To my knowledge, from a GL standpoint, we are the first carrier to release Green CGL endorsements," he said - also referring to a second Chartis endorsement, known as the Green Indoor Environment endorsement, which focuses on the pollution exclusion of CGL policies and potential gray areas of coverage related to the maintenance of special equipment to improve indoor air, water or climate quality.
While the typical wording of the pollution exclusion from the Insurance Services Office has broadened over the years - with the introduction of exceptions to the exclusion for hostile fires and heating equipment - the standard wording still does refer to all "fumes and vapors" as pollutants that trigger the exclusion.
Fobert said green-building equipment is costly and technically challenging to maintain. Under the endorsement, if such equipment breaks down and "a substance or odor [is released] that causes bodily injury, that's now covered as an occurrence," he said.
ACE USA is tackling a different set of environmental exposures - those arising during the building process rather than those from equipment maintenance - through a green-specific contractors pollution liability program known as ACE Green CPL.
William Hazelton, senior vice president of ACE Environmental Risk in New York, said ACE Green CPL- introduced in April 2009 - is unlike most contractors pollution liability policies in that it is project-specific. It can be written as an owner-controlled program, a contractorcontrolled program, or as a standalone contractors pollution liability project placement, he said.
He also identified three features - enhanced coverage, premium discounts and green-specific risk management services - distinguishing the program from ACE's standard contractors pollution coverage.
"There's broader coverage available for fungi and legionella bacterium," he said - also noting the availability of coverage for non-owned locations to which green-building contractors take their waste. There's also expanded coverage for transportation exposures and for completed operations not found under ACE's standard contractors pollution form, he said.
"We're being affirmative that those would be covered," he said, explaining his use of the term "broader coverage." Most other policies in the contractors pollution world "are silent" on legionella, for example, with no language either explicitly granting coverage or excluding it.
Hazelton said policy discounts for ACE Green CPL are typically in the 10 percent range. "We've taken this very idealistic approach that if someone is going to do something inherently good, like build a green building, [then] we're going to give some discounts for that," even though green-building risks "actually may be greater to take on from an insurance perspective."
Illustrating the greater risks, he noted, for example, that pollution liability insurers don't have a history of monitoring claims related to vegetative roofs used in some green projects. Such roofs may raise water intrusion potential and ultimately increase mold exposure, he said.
In addition to coverage, Hazelton said ACE provides services through its own environmental consulting firm, Hygienetics - a unit of ESIS, a risk management subsidiary. "We can give LEED-certification training to our contractors," he said, explaining that if an insured firm only has a few employees on site with proper certification from the Green Building Council, then training sessions can bring the rest up to speed.
In addition, because Hygenietics employs LEED-certified individuals, the firm can perform the actual certification process for a building, he said. The consulting firm can also perform indoor air quality and comfort monitoring, and even help clients calculate their carbon footprint, he added, noting that service costs can be built into the cost of the insurance program, or separately purchased outside of it.
Hazelton said ESIS' participation in the underwriting process is determined on a project-by-project basis, noting that the target market for the program includes contractors working on buildings in the LEED-certification process and those involved in renewable energy projects, such as power plants and wind farms.
Policy limits up to $50 million are available, with terms up to 13 years, he said. Costs vary by project, but since most projects have construction values in the hundreds of millions of dollars, premiums are typically at the six-figure level, he noted.
Beyond contractors, Hazelton said ACE Environmental offers a green endorsement to its standard premises pollution liability policy. The PPL Green endorsement has the same coverage and service features as ACE Green CPL, he said.
What it means to be green
Green building generally refers to the practice of increasing the efficiency with which buildings and their sites use energy, water and materials, as well as the impact on. human health and the environment.
The U.S. Green Building Council, a nonprofit agency composed of leaders from each sector of the building industry, is among the groups that have set green-building benchmarks that measure performance in several key areas of human and environmental health.
LEED certification levels under the USGBCs Leadership in Energy and Environmental Design guidelines are based on point values assigned in these areas:
* Sustainable site development
* Water savings
* Energy efficiency
* Material selection
* Indoor environmental quality. SIDEBAR
What are the liability exposures?
Contractors and owners face potential claims under three main theories of legal liability, according to Paul Primavera, senior vice president of claims for Lockton:
1 Negligent misrepresentation claims, which could arise when a contractor or owner warrantees the performance of a building over a period of years.
For example, there might be an unmet promise of some specified percentage-saving in electricity costs because of the energy-saving appliances and systems installed.
2 Negligence-based claims, arising from a design or construction element that doesn't work right, akin to a leaky roof or other defect claim for a standard building.
In the green-building arena, there are potentially added exposures arising from the use of newer products, Primavera said. "Clearly, you can have a green product that has not fully tested through, [and] it may be unintentionally installed incorrectly or used in the wrong geographical climate."
3 Contractual claims, arising from contractual agreements between project owners and general contractors.
When a contractor promises to attain a certain level of certification, a failure can fuel a breach-of-contract claim brought by the owner against the contractor.
Primavera and other experts have identified only one litigated case so far- Shaw vs. Southern Builders- -a lawsuit brought by a developer against a contractor when a failure to achieve a LEED Silver certification resulted in over $600,000 In lost state tax credits.
The lack of lawsuit activity Is expected "at this point in time," Primavera said.
"If we assume that green-building started 3 or 4 years ago, then the claims that come out of those projects once completed"- from design or construction defects- "are really not going to become known until 4, 5, 6, 7 years down the road. So there will be some lag time," he said.
Competition emerges fop green merket
Brokers say that while liability coverages addressing green-building risks have been slow to emerge, property insurers have responded much more readily to calls for new coverage solutions.
Marsh, in its most recent report on the "Green Built Environment in the United States," updated through December 2Q08, listed Fireman's Fund, Lexington, ACE, Travelers, Liberty Mutual and FM Global as carriers offering special property coverage for green buildings.
At ACE, Kurt Husar, senior vice president of ACE USA Global Property, described his company's property coverage offerings as "standard," giving some insight into how green property insurance generally works.
ACE has offered a Green Building Restoration endorsement since March 2008, according to Husar, who said trie endorsement allows damaged portions of buildings to be rebuilt to greener standards after a loss.
The coverage for buildings that aren't already green entitles the insured to "a certain bank of money" (defined as a percentage of the underlying net loss) to use to make the building green "in any way they see fit- whether it be carpeting, lighting Or something else."
"We would not dictate what they have to do," he said- confirming, however, that If a fire burned only one floor of a building, the insured could not upgrade areas not damaged by fire, smoke or water as a. result of the event triggering a claim.
ACE also offers property coverage for existing LEED-certifled buildings, he said.
"As long as we know what has been done to that building [and] replacement values," ACE provides coverage to "put the materials back as the way they were found. It's exactly what we do In the non-green world," where policies provide for replacement with likekind and quality materials, he said.
Mr. Husar noted that because green-building materials are harder to come by and green-construction processes take longer, policies allowing for green-rebuilds or greenupgrades cost more than comparable policies for non-green buildings.
"You can't always go to your local hardware store and get exactly what you need," he explained, noting that since property policies cover business interruption income losses in addition to rebuilding costs, the longer time element is a rating consideration.
Husar said ACE is distinguished from competitors by a better understanding of green construction that comes through environmental risk management and consulting firms- ESIS and Hygienetics- that are operating units of ACE.
Originally published in the January 11, 2010, issue of
National Underwriter P&C.By SUSANNE SCLAFANE, managing editor,
National Underwriter P&CSusanne Sclafane is managing editor of National Underwriter P&C, part of Summit Business Media's P&C Magazine Group, which includes American Agent & Broker. Before joining the magazine as a staff writer in 1995, Sclafane worked as an actuary for 14 years. She is a Fellow of the Casualty Actuarial Society and a Member of the American Academy of Actuaries.