Finding the gaps when insuring green building projects

As the economy shows signs of improvement and more green building projects are in the works, various issues may arise that expose gaps in the insurance covering such risks.

“The coverage problem that we see is a very basic one,” said Karen Erger, vp and director of practice risk management for Lockton Cos. L.L.C. in Kansas City, Mo. “It's really a guarantee problem.”

For example, when an architect agrees to design a structure, building owners sometimes require that one of the objectives is to obtain a certain level of Leadership in Energy and Environmental Design certification.

“The designer needs to stop short of guaranteeing that result both because of the coverage issue and because they don't control the outcome,” she said, noting that guarantees are not insurable under professional liability policies and LEED certification is a third-party process that also involves how the contractor builds the site and how tenants use the space.

A related problem is promising that the building will achieve a particular level of energy savings, a guarantee that also is challenging to insure, Ms. Erger said.

Program administrator Energi Insurance Services Inc. in 2010 offered coverage for energy retrofit contractors that design and install energy conservation systems, such as lighting controls and energy management systems and guarantee savings over a specific contract term.

“Our energy savings warranty program directly backstops that performance guarantee,” said Megan McCarthy, business development manager for Energi in Peabody, Mass.

“We took a different approach and created in-house engineering reviews to help reduce cost of premiums,” Ms. McCarthy said, noting that the coverage is underwritten by Hannover Re Group.

But design professionals might find that deflecting guarantee promises to building owners is more difficult, experts say.

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Five years ago, building designers could opt out of guaranteeing LEED certification because the process was subjective, said Thomas R. Petty, a Washington-based partner at Anderson Kill & Olick P.C., practicing in the area of commercial real estate with an emphasis on finance, leasing and sustainable development.

“It's now becoming less subjective and more and more buildings are being certified and more and more design professionals and contractors are getting comfortable enough that they can be in a position of guaranteeing that their work will achieve that goal,” Mr. Petty said.

Still, if the building fails to meet the sustainable level required, “then somebody is going to be liable. As far as I know, insurance is not available to cover that liability,” he said.

While such risks have been around for 10 to 15 years, there's been very litigation about sustainability issues or failure to meet expectations in the construction industry, Mr. Petty said.

“I think because there is not a lot of litigation, there's not a lot of law that has established liability and therefore there's not a lot of insurance to cover that liability,” he said.

Another coverage implication facing risk managers involved with green projects is replacement costs of sustainable materials after a loss, experts say.

“Green construction involves specialized materials and methods that will increase the cost and sometimes, the installation time, over other construction methods,” said Jeffrey Beauman, Factory Mutual Insurance Co.'s Johnston, R.I.-based vp and manager of all-risk underwriting. The insurer does business as FM Global.

“Most policies will not recognize the increased costs,” he said. “The policy should have valuation wording that specifically recognizes the increased cost of green materials.”

Green wording is available mostly through endorsements to larger policies instead of stand-alone forms, experts say.

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“From a property standpoint, you have to make sure that you have the proper endorsements that if you're a green building that allow you to spend whatever is necessary extra costs there are to achieve the same status,” said Brian Ruane, executive vp and national real estate and hotel practice leader for Willis Group Holdings P.L.C. in New York.

While green risks are widely available among insurers and typically written as endorsements to larger policies, capacity and pricing varies depending on the risks, experts say.

“There is a fair amount of due diligence that the risk manager will have to do,” said William K. Austin, principal and consultant at Austin & Stanovich Risk Managers L.L.C. in Providence, R.I.

“The only way an underwriter or an insurer would offer any type of a green aspect to that, is that the risk manager has to know what his or her company would do to take an existing structure from the current type to when they become damaged to being green,” he said.

Risk managers also should consider business interruption risks as it may take longer to replace a structure with sustainable materials that might be beyond what the typical business interruption policy covers, Mr. Austin said.

Much of the valuation of green materials has to be included up front because that is how the value of the policy is set based on the anticipated project costs, said Robert Opitz, worldwide inland marine product line officer, Chubb Group of Insurance Cos. in Whitehouse Station, N.J.

“Having a true understanding of the various qualification requirements and what that entails and what the additional costs are going to be to maintain those things are important,” Mr. Opitz said.