Recently, I have been asked by quite a number of my Builder Developer clients about purchasing insurance as a "Construction Manager" , INSTEAD of , and not in addition to their current general liability insurance. They are very curious about going this route due to the prospect of enormous premium savings , versus their current insurance costs structure of insuring the business as a general contractor. My immediate reply is the premium is much less expensive, however your "cost of risk" is enormous. For those of you who have not heard this stump speech, "Cost of Risk" is the amount of insurance premium a business pays plus the cost of un-insured losses equals your "Cost of Risk". The formula looks something like this: (Insurance premium + Uninsured losses= Cost of Risk).
Under a Construction Management Errors & Omissions policy, actual construction work, and the resulting liabilities of performing such work is not a covered event, which is why the rates are far less expensive. The higher the risk that is transferred to the insurance company, the higher the insurance premium is to off-set that risk. If an insurance policy quote seems too "cheap" there is a reason, not enough of your business risk has been transferred.
To understand what insurance to buy to cover your risk as a Construction Manager and to properly transfer the risk, it is critical to properly define the role, scope of work and responsibilities of the Construction Manager. Construction Management can be a blend of the functions and responsibilities traditionally performed by the general contractor and design professional. In essence, the Construction Manager could be responsible for the coordination and administration of the project, however, they do not directly participate in the design and construction of the project. The Construction Manager represents the interests of the owner by administering the construction contract, and managing the work performed, including cost, time, and quality aspects of the project. This service is typically performed on a fee basis. For purposes of this discussion we will focus on the two most prevalent models of Construction Management, each with it's own scope of responsibilities, obligations and attendant risk-reward aspects. The two models re Pure "Agency" Construction Management and "At Risk" Construction Management.
Pure Agency Construction Management
A Pure " Agency" Construction Manager is also referred to as "Agent of the Owner" , neither designing nor constructing the project. Instead, the Pure Agency Construction Manager administers the construction contract throughout the planning, design and construction phases of the project. As a general rule, the Pure "Agency" Construction Manager is usually empowered to:
1) Act on behalf of the owner regarding contract matters, including overseeing the design and construction phases of the project; and
2) Transact specified business on behalf of the owner. For example all requisitions, and payments are made by the construction manager to verify and confirm both the quality of work and billable costs submitted by the various trade contractors, or the general contractor, hired by the owner.
Under this model of Construction Management, the owner contracts separately with the Construction Manager, design professional and either a general contractor or (more frequently) various prime contractors. The Construction Manager is generally not responsible for the means or methods of construction and does not guarantee construction cost, time or quality aspects of the work as well as does not provide direct supervision of the work force on the job.
"At Risk" Construction Management
In contrast to the Pure "Agency" Construction Manager is the "At Risk" Construction Manager, who may provide construction leadership throughout all phases of the project, which may include the planning, design, contract management, direction, supervision, coordination and control of the work (especially during the construction phase). While the owner typically contracts out directly with the design professional, the At Risk Construction Manager contracts directly with the trade contractors, similar to a general contractor model. Under the At Risk model, the Construction Manager has control directly over the means and methods of construction, the management and safety of the workers, as well as delivery of the completed work consistent with the owner's cost, time and quality requirements.
Understanding the Liability For Both Pure "Agency" Construction Management and "At Risk" Construction Management
There is divergent exposures to liability contingent on which mode you choose and the scope of work associated with each model. Under the "At Risk" model, the Construction Manager will have front line responsibilities for providing the owner with the completed product in accordance with all cost, schedule and quality requirements. Failure to perform these duties will expose the Construction Manager to liability to the owner. Liability potential exists vis-a-vis the architect or engineer with whom the owner has contracted (if separate from the Construction Manager), for certain limited items related to the Construction Manager's administrative role. Another class of litigants to whom the "At Risk" Construction Manager could be liable includes third parties such as workers or other individuals injured during or after the completion of construction.
The liability exposure of the Pure "Agency" Construction Manager mirrors that of a typical design professional with a somewhat higher degree of exposure due to the administrative relationship with the Architects, Engineers, and Contractors. Please also bare in mind design professionals and most Pure "Agency" Construction Managers, contingent on their scope of work, are held to a lower standard of care, that of negligence, versus implied warranty for "At Risk" Construction Managers , which is a much higher standard of care. To understand more about the difference in the standards of care, please read the article The Inherent Coverage Gap in Design Build Insurance Programs .
Managing the Construction Management Risk
The liability risks discussed above irrespective of which model you choose, "At Risk" or Pure "Agency" , will generally fall into two categories: (a) risks to other project participants in the project, (i.e. owner, contractor(s), design professionals, (b) risks to third parties (i.e. workers of the trade contractors, or other individuals injured during or after the completion of construction. The first category (a) can best be reduced through the use of clearly defined roles, rights , responsibilities and scope of work among the various project participants. To this end, the Construction Manager should devote considerable attention to the provisions in the contract with the owner and in the case of the "At Risk" Construction Manager, in the contract with the trade contractors.
Please also pay careful attention to the contract language, assuring the bid documents and contract documents are as clear and complete as possible so as to avoid conflicts as the project progresses. One of the most important clauses in the contract is the indemnity provision, indemnifying the owner, design professional and construction manager in the event of a negligent act of the trade contractor. Assuming your indemnity provision in the contract is tight, it is equally imperative that the trade contractor have the "correct" insurance in place, insuring a pool of capital is there in waiting to satisfy the indemnity provision in the contract.
Insurance Considerations for the Construction Manager
In most instances we prefer the Construction Manager have two types of insurance to protect them from liabilities, commercial general liability insurance as well as professional liability insurance. These two insurance contracts, if designed properly, should work in tandem with one another. The commercial general liability insurance will typically respond to accidents stemming from operations of a business, especially the "At Risk" Construction Manager who is in charge of providing a safe work environment, safety and the quality of the construction. These are typically third party litigants that commercial general liability insurance will protect against. The second policy , covering an entirely different set of potential claims, is the Construction Managers Error & Omissions policy, covering them in their professional capacity as either a fiduciary or other professional service for others in their capacity where legal liability is predicated on a negligent act, error or omission. An example would be a Pure "Agency" Construction Manager who in their fiduciary capacity as Agent of the owner administering accounts payable on behalf of the owner failed to pay the premium for the Builder's Risk policy. There is a loss that would normally be covered under their builder's risk, however due to the construction manager's error or omission for failure to pay the premium, the owner no longer has coverage, thus he may litigate against the construction manager, whose Errors & Omission policy would both defend and indemnify him to the policy limits in the event of a loss.
Interestingly enough the Commercial General Liability policy excludes coverage for "Professional Services" rendered, including errors or omissions and a Construction Managers Errors and Omissions policy will typically exclude claims of a general contractor nature (e.g., actual performance of the work, construction means & methods, techniques, sequences, safe place to work, fines, and penalties). The other typical exclusions you will find on a Construction Managers E&O policy are: Pollution, Project Financing, Cost Overruns, failure to complete the project in a timely fashion.
Recommendations and Conclusions
The liabilities of the CM are expanding. In light of the increased exposure, the following risk management techniques may be useful.
1) Identify which model applies to the particular project. Are you an "At Risk" CM, or are you Purely "Agent" of the Owner, acting only in a fiduciary or advisory capacity.
2) Precise contractual language and standard contracts which clearly delineate the CM's scope of services, and responsibilities are necessary. The CMMA Owner CM Agreement, A-1, and the AIA Standard Form Agreement between Owner and Construction Manager are industry standard contracts . Standard contracts are important because they are time tested and legal precedents exist. If standard contracts are not an option, compare the standard contract to the proposed manuscript contract and ensure that the most important provisions are incorporated into the agreement.
3) Use insurance as a vehicle to transfer risk where it is cost effective. It may be necessary to retain a portion of the risk thru a high deductible to ensure the program is cost effective.
4) Coordinate both the Commercial General Liability policy and the CM Errors & Omissions policy to be certain all potential "insurable" liabilities are accounted for and transfered thru insurance whenever practical.
5) Continually review the job site activity to ensure that neither the Construction Manager nor the staff inadvertently increases their responsibilities through the course of their conduct in regard to work site safety, means and methods; likewise, they should be trained in how to respond appropriately when an unsafe work site situation or accident is observed.
