Defects Liability

By Steve Nance

There are usually two types of cover available under the material damage section of the Contract Works policy. The first covers any material damage during the construction period. However, once the construction period ceases, many construction contracts enter into the “Defects Liability” phase. This is a period of time after practical completion of the works where the contractor is responsible for the making good associated with any defects in the works. This forms the second portion of the material damage section of the contract works policy. 

Many policies describe this as being the “Maintenance Period”. It is unclear as to how this term came about, but it is quite clear that the responsibility of the contractor is not one of maintenance, but rather of rectification of defects.  It is for this reason why the majority of contracts refer to this section of the contract as being the “Defects Liability” period.

It is the cover under this period that will be discussed in this item. Specifically, the types of cover which are available.

The wording of the Defects Liability Period/cover varies significantly from policy to policy. Generally speaking the policy provides cover for physical loss or damage to the contract works which occurs or “manifests itself” during the Defects Liability Period of the contract, but which originates from the contract works. It also provides cover for any physical loss or damage to the contract works which may occur when any of the insured parties attend the site to rectify any defects, or indeed any other works which the contractor is responsible for carrying out as a result of the contract.

For example, let’s take a building which has reached Practical Completion two months prior to a significant rainstorm. There is a 12 months Defects Liability Period under the construction contract. As a result of the rainfall, leaking occurs as a result of a defective membrane, causing damage to ceiling tiles, the electrical installations, and carpet (all of which formed part of the contract works) and other contents items which were owned by the tenant.

In this instance the loss occurred as a result of defective work which occurred during the construction period and as such would usually fall within the defects liability provisions of the contract. It is also arisen out of the contract works during the construction period. As a result, the policy will respond to the loss, but subject to the terms and conditions of the policy.  Depending on the wording, this would usually exclude the cost of making good the membrane, however would provide cover for physical loss or damage to other sections of the contract works. Given that the policy only provides cover for the contract works, it would not provide cover for the contents owned by the tenant, such as the desks, chairs, PABX installation, computer installation and the like. This would be more appropriate for a liability cover.

To continue the example further, the contractor re-attends the site to undertake the rectification of the membrane, as well as rectification of the other damage to the building, as well as some other defects. In doing this, he causes a fire which causes yet further damage to the building. As a second proximate cause, this is a separate event, however would also be covered as it is works being carried out by the contractor in complying with the requirements of the defects liability clauses of the construction contract.

The above is fairly straightforward, and is addressed in most of the construction policies, which the writer has seen.

There are, however, some circumstances which are not as straightforward.

Let’s take for example the situation where the Defects Liability Period under the construction contract either does not exist or is of a short period (say three months) under the construction contract. The policy, however, provides a 12 months “maintenance period” cover. Given that the contractor under various states legislation is responsible for repairing the defect, and as such also responsible for the resultant damage, would the policy respond? This of course depends on the wording of the policy.

Some policies specifically provide the necessary period of cover up to a maximum of the Defects Liability Period which is required under the contract. If therefore a contract has only a three months Defects Liability Period, then the policy would respond to losses up to three months after Practical Completion, but then would not provide cover for the events manifesting themselves during the nine months after this, being the maximum amount provided by the policy. Other more generous policies specifically state that they provide cover up to the end of the maintenance period allowed for in the policy. This suggests that even though the three months Defects Liability Period under the contract may have expired, cover would be provided up to 12 months, where this is the maximum allowable under the policy. This effectively provides cover where it may not be required.

Another issue is where some construction contracts actually allow for an extension of the Defects Liability Period. Typically this would be where a defect has originally been determined, and then repaired. Some contracts then require a new Defects Liability Period to commence at the completion of that rectification. Indeed, the writer has been involved in claims 27 months after Practical Completion where a Defects Liability Period of 12 months only had been provided. Whether cover is provided for this or not will again depend on the detailed words of the policy. Where a policy simply mentions that the cover provided will follow that of the construction contract, then where the construction contract does allow for this accumulated defects liability provisions, cover would probably be provided.

A further issue associated with the maintenance period under the contract can relate to the (usual) requirement that the cause has to arise out of the contract works which is carried out by the Insured and occur during the construction period. If we take the example of a defective generator which has been installed in our building and becomes badly damaged during the Defects Liability Period. What cover would be provided to the generator if the cause was a manufacturing defect within the generator itself, and the generator was manufactured some time prior to the contract commencing? The extent to which cover would be provided for both the generator and any resultant damage which may occur will again depend on the policy wording.

Further, most policies require the defect to occur at the construction site. Given the same generator, which was constructed off site, possibly overseas, even if the manufacture was during the construction period, cover may not be afforded to this. Again, this will depend on the policy wording, which is often tailored to suit the needs of the Insured.