A Guide to PI Insurance
Building contracts, professional appointments, sub-contracts, collateral warranties . all routinely require the contractor, consultant or sub- contractor, as the case may, to maintain professional indemnity insurance cover.
But why? And what are the considerations for the parties to assess before signing on the dotted line?
WHAT IS PI?
It is insurance cover against the insured’s legal liability arising out of the professional activities defined by the policy itself. So, for consultants, the insured activity will be the carrying out of that professional’s business. In the context of construction, that will normally be the preparation of designs, specifications and similar tasks undertaken by architects, engineers, surveyors and other consultants. Where a contractor or sub-contractor is undertaking a purely traditional role as constructor only, then it will not be undertaking professional duties for which PI would be appropriate. But these days contractors and sub-contractors do undertake professional roles, designing temporary works or contributing to the design of the works themselves, either through the design and build route or through contractor designed packages.
IS THERE A STANDARD PI WORDING?
No, but most policies refer either to a breach of professional duty of care or to the failure to exercise the reasonable skill and care to be expected of the relevant profession. In any event, the policy is intended to cover negligence. If the designer has exercised the reasonable skill and care to be expected of his or her profession, the fact that there is a defect will not itself demonstrate negligence. In the absence of negligence, do not expect the policy to pay out! Most PI policies will also expressly exclude “fitness for purpose” guarantees given in collateral warranties and other express guarantees such as compliance with performance specifications or statutory obligations. And if you are a contractor, remember that your PI policy will not come to your rescue if the problem lies in defective workmanship or materials. Also excluded from PI policies are fixed contractual penalties . such as liquidated and ascertained damages.
CLAIMS MADE BASIS
A particular feature of PI is that policies are written on a .claims made. basis. This means that the policy responds to claims notified or made during the period of the policy. Let us suppose that our architect has negligently designed a detail in our construction project. His negligent action took place in the year 2000. We do not become aware of his error until 2002 and make our claim then. The architect has annual PI cover. It is his policy in force in 2002 which will have to respond to the claim, not the one he had in 2000 when the mistake was made. This contrasts with many other types of insurance – such as third party and employer’s liability – which are written on a “claims occurring” basis and which respond to claims which arose in the year of the policy. If you are seeking protection from a third party’s PI policy, it is therefore essential that you ensure that the third party maintains his cover after the relevant project is completed. It is normal to require that to be done for a number of years after practical completion. However, if you are the party taking on the obligation to maintain cover, you need to be careful not to agree to something that you cannot provide. For a start, there is no absolute guarantee that cover will be available in future years. The market may not be there or it may become prohibitively expensive. It is therefore common to find provisions which limit the obligation to “reasonable endeavours” to maintain PI and subject to such cover continuing to be available in the UK insurance market at reasonable commercial rates and terms.
EACH AND EVERY CLAIM
Contracts or warranties will stipulate the limit of indemnity which the insured party is to maintain which will be expressed as a sum of money e.g. £5 million. But there is a major distinction between limits of indemnity which are for “each and every claim” and those which are in “aggregate”. In the former case, the limit applies separately to every claim in the policy year so that the liability of the insurer is effectively inexhaustible except in the case of a claim above the indemnity limit. So our insurer providing a limit of indemnity of £5 million for each and every claim could be liable (in a very bad year!) for 20 claims of £4.9 million each. Contrast the insurer with a limit of indemnity of £5 million in aggregate (or sometimes “any one claim and in all”) who would only be responsible for the first of such claims (£4.9 million) and £100,000 of the second one. The limit of indemnity is also usually inclusive of damages and the claimant’s costs and expenses. It may also be subject to an excess and again that excess may apply to each and every claim or on an aggregate basis.
PI IN COLLATERAL WARRANTIES
Contractors, consultants and sub- contractors are very often required to provide collateral warranties to third parties such as funders, tenants or future owners of the project. Again, where professional services have been or are being supplied, those warranties will generally require the maintenance of PI. A thorny point with collateral warranties is the number of times the benefit of them may be assigned. Those giving warranties have generally attempted to limit the permitted number of assignments and often defend that stance on the basis that it is a requirement of their PI policy.
Sometimes all collateral warranties have to be shown to insurers before cover will be given, in other cases there will be stipulations as to what will or will not be acceptable in them – and that may well include a limit on the number of assignments allowed. A collateral warranty will often require the giver of the warranty to produce evidence of its PI cover. This is reasonable given that, as we have indicated, the beneficiary needs to be satisfied that the cover is being maintained from year to year. However, requirements to produce the policy itself should be resisted. Underwriters do not welcome you giving a potential claimant precise details of the cover and may well have precluded you from doing so in the policy terms.
PRODUCT LIABILITY INSURANCE
Some sub-contractors are more in the nature of manufacturers who also install their products. Many of these sub- contractors do not carry PI cover but offer product liability insurance instead. This type of insurance is more akin to public liability insurance. It provides indemnity against legal liability for accidental death or injury (other than to employees) or accidental loss of or damage to property. Unlike PI insurance, it is written on a “claims occurring” basis rather than “claims made” (see above). Product liability insurance covers both contractual and common law liability for the provision of defective or dangerous goods and is not therefore limited, like PI, to failure to exercise a duty of care. However, because it is concerned with damage to people or property, it does not cover the cost of replacing or repairing the defective item itself, being the defect which gives rise to the claim. Contrast PI, where there is no reason in principle why the cover should not extend to the replacement or repair of the defective element. This bulletin highlights some of the many issues that can arise for employers, consultants, contractors and sub-contractors when negotiating construction appointments, contracts and collateral warranties. And given the very substantial premiums payable for PI perhaps emphasises the need to get it right!
Reviewed in 2015