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This is the third in a series of articles looking at the key changes to the 2016 suite of JCT contracts.
Our first article discussed some of the key changes to the forms and the second article looks at the new payment provisions. This article examines the insurance provisions of the standard form JCT Design and Build Contract 2016 (JCT 2016) compared to those contained in the now-defunct 2011 version and explains how JCT 2016's insurance mechanisms work in practice.
JCT 2016: Insurance – Background
The insurance terms of JCT 2016 are found in Clause 6 and Schedule 3.
There are five main types of insurance required by JCT 2016, namely:
- Employers' liability insurance – which protects against Employers' liability for injury of employees arising in connection with their employment (clauses 6.1 – 6.4 JCT 2016).
- Insurance against non-negligent withdrawal of support – which covers potential structural damage to neighbouring property caused by the withdrawal of support (clause 6.5).
- Insurance of the works and of existing structures – which covers physical damage to the works, site materials and existing structures (if there are any) (clauses 6.7 to 6.11 and Schedule 3 JCT 2016) – discussed in detail below.
- Public liability insurance – which covers liability arising from death or personal injury to, or damage to property belonging to, third parties (clauses 6.1 – 6.4 JCT 2016).
- Professional indemnity insurance – which insures against liability arising from professional negligence. Architects, engineers and other professional consultants that owe a design responsibility to the Employer are usually required to maintain such insurance (clauses 6.15 and 6.16 JCT 2016).
Types of insurance
In addition to the above, there are a number of less common types of insurance that, depending on the specifics of the construction and the parties involved, may be necessary, including:
- Product liability insurance – which protects against liability for injury to people or damage to property arising out of products supplied by a business. Suppliers of equipment such as lifts or escalators may be required to maintain such insurance.
- Latent defects insurance – which protects against the cost of remedying the structure of a building due to a defect. Typically, the insurance lasts for ten years following construction.
- Strict liability insurance – which protects against strict liabilities, such as those arising in nuisance (clause 6.5 JCT 2016).
- Liquidated damages insurance – which compensates for delay to the project where damages are not recoverable from the other parties, for instance, in the case of an event of force majeure.
- Business interruption insurance – which protects against situations where a business's sole premises are so damaged that they cannot be used.
- "Run-off" insurance – which protects ex-partners and ex-directors etc., who have left their positions, from liability incurred during the course of their appointment.
An appropriate insurance policy protects all the parties, including the party to whom a particular liability is owed. The sums involved are often such that the liability could not be discharged without the existence of insurance. A successful insurance claim is often the only means of paying the remedial cost when things go wrong.
A common misconception is that liability is capped in accordance with the level of insurance required by JCT 2016. However, this is not necessarily the case. If an architect contracts to maintain a level of professional indemnity insurance equivalent to £5 million per claim, this would not in itself limit liability to that amount. If there was a claim for £8 million, the architect's own assets would be at risk. Provision to cap liability at the same level as the insurance requirement can be included within JCT 2016, but this must be expressly provided for – the insurance requirement alone does not create such a cap.
Key Changes to JCT 2016
Arguably, the most important type of insurance is the policy insuring the works and any existing structures. Clause 6.7 provides for three insurance options (A, B and C), as set out in Schedule 3. The parties select the applicable option in the Contract Particulars. In each case, the party responsible affects a Joint Names Policy, being an insurance policy which includes the Employer and Contractor as named insureds and under which the insurers have no right of recourse against any person so named (or as the case may be any person recognised as such, i.e. subcontractors) (a Joint Names Policy). Under the insurance option that applies, the Joint Names Policy subsequently covers the parties against loss or damage by the specified perils and must be maintained until the practical completion of the development.
Insurance Options A and B are used in the construction of new buildings. Insurance Option A is applicable where the Contractor is required to take out the Joint Names Policy for "all risks" insurance of the works. Whilst Insurance Option B is applicable where the Employer instead elects to take out the Joint Names Policy. JCT 2016 makes widespread amendments to Options A and B. However, the majority of these are not substantive changes.
The amendments simplify the drafting by stripping out the repetition in Schedule 3 and moving operative provisions into the body of Clause 6. For instance, the provisions relating to evidence of insurance are now contained in Clause 6.12 rather than duplicated in each of the Insurance Options in Schedule 3. Similarly, provision for insurance claims and reinstatement is now contained in Clause 6.13.
Substantive changes have, however, taken place to Insurance Option C. This option is used in the case of alterations or extensions to existing structures. This option provides for the Employer to insure both the works and the existing structures. However, JCT 2016 has recognised that securing an appropriate Joint Names Policy for a tenant Employer's fit-out or refurbishment works can be difficult, particularly where the insurance of the existing structures is the landlord's responsibility, which is often the case in large multi-let buildings.
Often the landlord of a building is best placed to effect this type of insurance. However, the commercial reality is that a landlord may be unwilling to add Contractors and Sub-contractors to its building insurance policy due to the likely impact on future premiums. Therefore, a tenant Employer's obligation to insure can be very difficult (and expensive) to perform. JCT 2016 provides greater flexibility by allowing the parties to disapply paragraph C.1 of Schedule 3 and instead include bespoke arrangements in the form of a C.1 Replacement Schedule.
How the Insurance Mechanisms Work in Practice
Clause 6.3 of JCT 2016 sets out the default position where Insurance Option C applies, i.e. the Employer insures the works and the existing structures. A Contractor is not liable to an Employer for loss or damage to an existing structure when it is caused by a specified peril which should have been covered under a Joint Names Policy placed by the Employer. This is the case even if the Contractor's negligence causes the loss. A C.1 Replacement Schedule can vary this default position.
Scenario
Let's say a tenant of an impressive city centre office development carries out a redevelopment of its offices which comprises a portion of the building. The redevelopment could have far-reaching and costly implications in the event of damage to the rest of the building.
Commercially speaking, it may not be feasible for the tenant Employer to effect cover for the existing structures (in addition to the works) where the value of the building (including the contents thereof) vastly exceeds the value of the works. Therefore, paragraph C.1 of Schedule 3 could be disapplied, and a C.1 Replacement Schedule included. The Contractor could rely on its annual cover for liability arising from damage to existing structures. The upper limit of the Contractor's cover would likely need to increase to account for the nature of the multi-tenanted high-quality office space and the extent of potential liability this entails.
In scenarios like the above, insurance premiums are likely to be very expensive and disproportionate to the sums payable in the building contracts. Detailed and comprehensive drafting of the C.1 Replacement Schedule to properly reflect the assumed risks is essential. A C.1 Replacement Schedule must outline the alternative insurance arrangements in substantial detail. The risk is that failure to do so can result in gaps in insurance coverage, which can prove incredibly costly down the line. JCT advise that a C.1 Replacement Schedule should not be used without first consulting an insurance professional.
C.1 Replacement Schedule
An explanatory summary of the alternative arrangements generally adopted, in the form of a C.1 Replacement Schedule, is contained in the Design and Build Contract Guide 2016, for instance:
- for low-value projects (e.g. domestic refurbishments), the Contractor is often able to cover the risk of loss or damage to existing structures under its public liability insurance;
- for high-value projects (e.g. tenant Employer of a multi-let building), more complex insurance arrangements involving different layers of different cover and/or risks are likely required; or
- for very high-value projects, the tenant, Employer and landlord of the building may agree that a level of cover below the full reinstatement value will suffice.
The alternative arrangements included in a C.1 Replacement Schedule will depend heavily on the specifics of the project and the insurance market. It is uncertain how the difficulty of who will insure existing structures will be reflected in the products secured by insurance brokers. At the very least, its inclusion in the Contract Particulars increases awareness of these issues and highlights the importance of allocating and apportioning risk properly.
It is extremely important to seek professional legal advice before entering into any form of a building contract. Decisions made early on, such as selecting the Insurance Option, can have significant implications during the course of the development. Many problems (and potential litigation) can be avoided by ensuring that the necessary contracts are carefully drafted.