Can insurance replace building consents?

Building and Construction minister Chris Penk recently announced that the Government is looking to “lift the competence of building professionals” and increase penalties as a way of improving efficiency and reducing the cost of building work. In this article, construction insurance expert Ben Rickard discusses whether the changes, particularly regarding self-certification and liability, will have the intended effect

In my view, none of the changes proposed will improve efficiency or reduce cost. The factors driving down efficiency and increasing the cost of building aren’t a lack of competence or penalties, but the fact that the market for builders is made up of thousands of small firms and individuals. Even the larger group housing companies make up a relatively small proportion of the overall market.

Did the introduction of the Licenced Building Practitioner (LBP) regime and the existing penalties in the Building Act improve the situation? I’d like to see some data on that. If the answer is no, why would more “competence and accountability requirements” change the situation? And even if it does, there will be other consequences, such as more people choosing to leave the sector. Additional requirements will increase the industry’s barriers to entry, which is likely to reduce the supply of builders, leading to an increase in the cost to build!

To my untrained eye, this seems like simple economics. Plumbers and electricians have relatively high barriers to entry and get paid a lot more than builders, so while it could be a positive step to address the relatively low rates builders earn given the risk they are exposed to, the proposed regulation changes may have the opposite effect from that which was intended.

Will consent opt-outs work?

The Government has also committed, as part of its coalition agreement with ACT New Zealand, to look at the feasibility of allowing builders to opt out of a building consent, or presumably some inspection requirements, if they have adequate insurance. The assumption is that by “lifting the competence” of building professionals, insurance companies will be prepared to enter this market. While this is certainly possible, I think it is a stretch to say that it will materially improve efficiency and reduce cost. It’s almost certain that insurers will want inspections to be undertaken as a condition of underwriting any risk, so just because a Building Consent Authority (BCA) is not doing the inspection, doesn’t mean inspections don’t need to be done, and someone has to pay for that. Would it be cheaper and less risky if this work is outsourced to the private sector? I’m not sure history would agree.

Long-tail risk, like committing to remediate defective building work for up to 10 years, is a big ask for insurers. This is why the market in Australia is almost exclusively backed by state governments and why the two largest players in the New Zealand market are trade associations that essentially self-insure this risk.

That’s not to say it’s not possible. We have had an insurance-backed market for builders guarantees in the past and we could again. However, in my view, the likelihood is more about global appetites for risk from insurers than any tinkering around the edges of a competence and penalty regime here.

What’s the solution?

I think a single, nationwide BCA makes a lot of sense in terms of improving efficiency and consistency. For all their faults, organisations like the Natural Hazards Commission and ACC solve problems that markets have struggled with. A national BCA could deliver consents and inspections through a consistent and unified programme that insurers could have confidence in. This, in conjunction with additional underwriting of the building company (such as of their quality assurance systems, financial solvency and contractual terms) by insurers could attract insurers to the market. Those builders accredited by insurers would be able to provide 10-year guarantees to their customers. Those who aren’t accredited would not. The Government could mandate that only accredited builders can perform Restricted Building Work, or use some other benchmark, above which the ability to provide an independently insured guarantee would be compulsory in order to do the work.

In the event of a claim, the insurer would bear the cost of assessing and remedying the defect, while retaining their ability seek recovery of their costs from the responsible builder (if they were still around). In this way, the consumer is protected but the builder is still liable for their work. Too many claims and the builder would lose their accreditation.

The BCA, via a levy, could act as a back-up in situations where a builder has not supplied a guarantee when legally required to do so. That way, the consumer is still protected. Failing to supply a guarantee when legally required to do so could be an offence, punishable with a big fine for the company and the directors personally (since it is most likely that the company that would have gone into liquidation).

The BCA, which is doing the consenting and inspecting, could work in conjunction with insurers to reduce the compliance requirements for low-risk builders. Equally, the insurer would be able to utilise inspection data to inform their underwriting of the builder. This would have the added benefit of incentivising builders to make sure they are using the inspection system as it is intended.

Inspection data would need to be of good enough quality for insurers to determine the difference between different types of inspection fails. At least with a single BCA, there is likely to be more consistency of approach and therefore more reliable data.

In a nutshell

The Government wants to reduce the cost of building, while also improving quality and protecting consumers. They want to do this by improving efficiency, which seems to mean moving the cost of consenting on to the builder (compliance) and the private/insurance sector.

In my opinion, the Government must get their own house in order first by improving the efficiency of the consenting and inspection regime before imposing more requirements and penalties on builders. Having a well-run national consenting and inspecting organisation is more likely to attract insurers into the market to provide long-tail liability coverage for building defects.

This is an opinion piece by Ben Rickard, director of construction-focused risk adviser and insurance broking firm Builtin. Ben and Builtin have been providing insurance and risk advice to thousands of building businesses for more than a decade. He has made submissions on similar previous Government proposals and appeared before select committee on issues concerning joint & several liability and the viability of the market for builders guarantees in New Zealand.