28 April 2021

Latent Defect Insurance vs. Collateral Warranties

We discuss the pros and cons of both options to consider when constructing and securing your commercial project.

Latent Defects Insurance vs Collateral Warranties on Commercial Buildings

Latent Defect Insurance
✓ Freely Assignable
✓ Insurance backed
✓ Full sum insured and index linked

Collateral Warranties
✖ Require proof of negligence
✖ No guarantee of warrantor’s solvency
✖ Need to maintain high levels of PI for years

Most developers immediately consider obtaining structural guarantee insurance when building a residential project because of the requirement under UK law to have a 10-year coverage in effect when the property comes to be sold – usually to a private individual in need of a mortgage.

What are the options for commercial projects?

Latent Defect Insurance

Latent Defect Insurance (LDI) offers protection for commercial or industrial properties against damage caused by a design, workmanship or material defect caused during the construction process.

There is no legal requirement for commercial properties to have latent defect insurance. However, we do advise this cover is sought to protect the:

• Property owner
• Financial investor
• Leaseholders
• Tenants
• Landlords

The cover is given against defects and the ingress of water for the load-bearing framework and the waterproof envelope of the house.

LDI covers you should the property need to be prevented from collapsing and all related maintenance costs – right up to complete demolition and restoration, including associated professional fees.

The cover shall remain with the property itself for 10 or 12 years and shall be freely assignable. Additional covers are available, such as Mechanical and Electrical LDI, Business Interruption and Lease Loss..

As the policy is written for the benefit of the property – not any individual – any valid claim will respond without fault. It is also possible to waive the subrogation rights against the contractor and consultants for additional premium.

Collateral Warranties

The alternative – and the most widely used – choice is to arrange a collateral guarantee. This is usually between a contractor, subcontractor or consultant and an interested third party benefactor, granting them the right to sue the guarantor.

This may have drawbacks, since professional indemnity insurance is written on the basis of claims received, and if coverage is permitted to expire, there may be holes. The same problem applies if the guarantor becomes insolvent..

In the event of a defect, cash flow may be a matter of concern, since money is not readily available to resolve the problem, with additional funds required to undertake litigation. Apply to this the concern that the court challenge may not go the way you want it, and this may not be the best solution to your needs.

Skilled compensation insurance in the current climate is costly and the gross limits may not be adequate. Also a claim on each and every basis may not have the limits needed if the cost of remedying the defect is exceeded.

Is latent defect insurance right for you?

The upfront expense of the latent defect insurance must be considered against future problems that might arise down the line. However, it gives investors a safe alternative to build more saleable and leasable assets. It draws tenants because they feel safe, helping to ensure their occupancy.

Help is at hand – Get in touch today

We’ll take the time to understand your requirements and provide advice and assistance when building and protecting your commercial project.

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