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June 4, 2011

The Truth About Course of Construction Insurance

Do you know when to notify your insurance carrier about your home renovation?  Are you thinking about building a new home?  We interviewed a senior home appraiser from Chubb who provided clarification about when to notify your insurance carrier, common myths and misconceptions, and most importantly areas where gaps in coverage may occur during course of construction or course of renovation projects. 

What is a Course of Construction or Course of Renovation?
By definition, a course of construction is a home building project which begins with the frame of a house, whereas a course of renovation project occurs when a home renovation or update project budget exceeds ten percent of the property’s dwelling replacement cost.  Both types of projects create a high degree of risk for insurance companies which may translate into large surcharges to policies.  It is not uncommon for clients to shy away from disclosing their renovation or construction project to their insurance agent or carrier in order to avoid a large surcharge.  However, failure to notify the insurance carrier about a project may result in large gaps in a homeowner’s coverage.

Understanding Replacement Cost Versus the Project Cost:
When beginning a construction or renovation project, it is important to understand the difference between the project’s budget versus the replacement value of the project.  As many insurance carriers list the anticipated finished replacement cost of the dwelling on the policy, understanding the project’s full replacement cost will help you understand the insurance process.  Many times, homeowners overlook associated building costs such as the property’s foundation, fees associated with the project (building permit fees, design fees, phone lines, electricity, etc.) and the replacement cost of offsite materials.

Potential Coverage Gaps:
As some carriers insure the project for the anticipated replacement cost of the property at the end of the project, and others may stair-step the dwelling coverage based on the current replacement cost of the project, it is important to ask your agent which method of valuation is used by your carrier.  Stair-stepping the coverage may present a potential gap in coverage if all of the necessary information is not conveyed to the agent or carrier.  Most insurance companies will inspect a project every three to six months, and if the project progresses more quickly than anticipated and the client has not conveyed this to their agent, their current dwelling coverage may not be sufficient in the event of a total or large loss.

Most California Homeowners policies insured through Fort Point provide extended replacement cost coverage.  However, the Homeowners contract is amended for course of construction or renovation projects to “conditional replacement cost.” This means the project must be insured for at least eighty percent of the actual replacement cost at the time of the loss otherwise coverage may be denied.  To avoid this potential gap, it is important to be in constant communication with the agent or appraiser of the insurance company to ensure all necessary information has been conveyed to the insurance carrier.

Security Measurements:
Another important consideration for construction or renovation projects is the security measures the insurance carrier may require on the premises.  The extent of the safety precautions typically depend on the anticipated replacement cost of the property at the completion of the project.  Most often fire extinguishers will need to be present at every 1,000 square feet throughout the property.  Centrally Monitored Burglar and Fire Alarms will also be required at the unoccupied residence for the duration of the project.  Other safety measurements which may be required include motion censored lighting, perimeter fencing and temperature alarms.  The company appraiser will convey these expectations to you and your contractor.

Other Areas of Concern:
In addition to potential gaps and necessary security measures, there are several other areas where homeowners may become compromised during construction or renovation projects if they are not cautious:

  • Waiver of Subrogation: It’s important to confirm a waiver of subrogation is not included in your contract with the general contractor.  This is critical as the waiver of subrogation would waive your insurance carrier’s right to pursue subrogation, or recoup damages, if a loss occurs due to the contractor’s malpractice or negligence.
  • Unlicensed Contractors: It is more common for small home renovation projects to encounter unlicensed contractors, whereas most large projects tend to be conducted by licensed contractors.  However, ensuring your contractor is licensed will minimize your exposure to fraud.
  • Workers Compensation: It is important to make sure the contractor has general liability insurance as well as workers compensation insurance.  If a worker is injured on the job and the contractor does not carry insurance, you may be held responsible for the injured worker’s medical bills.

Why is Course of Construction Insurance So Expensive?
The insurance industry’s highest loss exposure results from construction projects.  While under construction, homes may spontaneously combust if oily rags or like materials, are left on site and in a warm environment.  For example, a Chubb appraiser recalled a construction project built on a bluff in San Diego overlooking the ocean.  The workers had gone home for the day, but had accidentally left an oily rag in a bucket in the residence.  The heat and chemicals combined and spontaneous combusted, resulting in a total loss of the property.  Other common losses result from vandalism or arson committed while the property is unoccupied, unguarded, or unlocked.  As such, a hefty construction surcharge in addition to a vacancy surcharge may be applied to the policy to compensate for the increased risk exposure for the property.  Fortunately, the surcharges will be removed once the project is complete and the homeowner occupies the residence.

Helpful Tips:
The process of insuring your construction or renovation project may seem daunting; however, the key to successfully insuring a project is having a clear understanding between the budget for the project versus the actual replacement value of the project.  Moreover, most seamless projects occur when the homeowner and contractor address all of the safety requirements at the beginning of the project.  Finally, maintaining clear and timely communication with the agent and appraiser also alleviates any potential areas for exposure.  

Source: Interview with Susan Wierderin, Senior Chubb Appraiser, April 20, 2011.

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