Construction Subguard Insurance Fundamentals

Presented By:Ira M. Schulman

Pepper Hamilton LLP

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mail: P.O. Box 509 Eau Claire, WI 54702-0509 • telephone: 866-352-9539 • fax: 715-833-3953email: customerservice@lorman.com • website: www.lorman.com • seminar id: 389710

Construction Subguard Insurance Fundamentals

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mail: P.O. Box 509 Eau Claire, WI 54702-0509 • telephone: 866-352-9539 • fax: 715-833-3953email: customerservice@lorman.com • website: www.lorman.com • seminar id: 389710

Prepared By:Ira M. Schulman

Pepper Hamilton LLP

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Ira M. Schulman

An Introduction To Subcontractor’s Default Insurance (“SDI”)

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Background

• A surety bond is a three-way agreement whereby the surety guarantees to one party the performance and/or payment of another party.

• SDI (issued by Zurich Insurance under the name of SubGuard) is a two-party agreement between the contractor and the insurer that reimburses the contractor for the direct costs incurred arising from subcontractor or supplier defaults.

• With SDI the contractor prequalifies the subcontractor/suppliers providing the contractor with flexibility and control unavailable with surety bonds.

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Candidates For SDI

• High Annual subcontractor volume

• Financial strength, management expertise, and willingness to accept the financial risk associated with SDI.

• Miller Act Considerations

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Surety Bonds

• Bid, performance, and payment bonds.

• The bonding rate is calculated based upon contract amount

• Protection in the event of a refusal or failure to perform

• Potential refusal of surety to take over work of defaulted contractor

• Negative Impact to project schedule and budget

• Personal assets put at risk

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Advantages of Surety Bonds

• Objective prequalification

• Available to lower tier subcontractors/suppliers

• Penal Sum Limits

• No Deductible

• Established body of law regarding interpretation and implementation

• Available to entities that may otherwise not qualify for SDI

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Concerns Regarding SDI

• It’s the new kid on the block

• No guarantee of Project Completion

• Expensive deductibles

• Only available to high performing general contractors or at-risk construction managers

• Provides post-default funding that can prevent domino-style project-wide delays

• Limit of liability may not be congruent with total subcontract exposure

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Subcontractor Default Insurance

• Shifts burden of defaulting contractor to the insurance company

• Covers all subcontractors for the project

• Reimburses all direct costs incurred to complete the defaulting subcontractor’s work, including the cost of attorneys and consultant fees incurred to remedy the default

• Policy exclusions

• The contractor absorbs the deductible

• No coverage for third-party injury claims

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Contractor Advantages

• Coverage limit

• Flexibility

• Potential Cost Savings

• Reimbursement of Attorney’s fees and other non-brick and mortar costs that are not covered by standard surety bonds

• Allows use of Subcontractors that may not have established bonding lines

• Avoids waiting for outcome of dispute resolution before reimbursement of costs to complete

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Contractor Disadvantages

• Financial Risk

• Increased Responsibility

• Absence of settled case law

• Subcontractor waryness

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Subcontractor/Supplier Perspective

• Preservation of Bonding line

• No indemnity required

• Default without termination

• Continuation of payments

• Potential “vendex” issue (re: default)

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Owner Perspective

• Many owners do not fully understand SDI

• Large lending Institutions favor SDI

• SDI helps keep the Project on time

• Subcontractor Defaults do not impact project budget

SUMMARY

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• Established in 1890

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Firm Facts

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Firm Structure

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Questions & Answers

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For more information, visit www.pepperlaw.com.

Ira M. SchulmanPepper Hamilton, LLP

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Ira M. Schulman

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Notes