Construction law: professional indemnity insurance and key risks

Insurance frameworks, particularly professional indemnity insurance (‘PII’), play a pivotal role in determining the obligations of those associated within a construction project and, moreover, the drafting of liability cover and mitigation with any associated risks within such agreements. In essence, PII covers professionals against claims arising from errors, omissions or negligence when providing their services. This is because PII plays as a crucial safeguard to parties in providing financial protection and peace of mind to those taking on numerous risks and obligations within a construction project; which are often inherently complex and involve significant finances, where minor errors can result in substantial losses. The sector has recently witnessed pressing challenges, with growing cost-driven projects and a disproportionate liability borne by professionals; this imbalance coupled with escalated risk, underscores a troubling trend across the industry.

1.      Onerously drafted contracts

During negotiations of construction contracts, it is imperative that allocation of liability is proportioned in a fair, reasonable or consistent manner. We often see significant disparities in the allocation of liability and contractual landscapes that are often characterised by terms that lack proportionality, impose obligations exceeding the standard duty of skill and care, or firms that are burdened with remote liabilities and burdens on firms that require expose them to remote liabilities past their scope of work. Consequentially, this has led to inflation in PII (which firms now require in order to secure work), through firms now relying heavily on the breadth of PII protection, rather than bearing any costs associated with negotiating fairer terms.

Widespread calls have been made to adopt the use of standardised agreements to provide a balanced, fair and consistent framework (developed through industry consensus and best practice), like those used within the public sector of various European counterparts like Ireland, the Netherlands, and Germany. However, the disruptions in the PII market could also be mitigated through embracing “fair” contracting principles, including:

·       Defining the ‘Standard of Care’ – clearly defining obligations and standards for parties to abide by under established principles of reasonable skill and care, which construction professionals are familiar with.

·       Proportional limitation of liability – capping liability for a party’s relative scope and scale of the work undertaken.

·       Net Contribution Clauses: these essentially apportion liability between parties where there are multiple parties working on a project. These are often requested by insurers (particularly within collateral warranties) to ensure that such responsibility is divided fairly.

·       Clear Contractual Scope: drafting unambiguous clauses within construction contracts that clearly outline the obligations risks, and liabilities of all parties involved.

Through adopting these legal measures, the industry could reduce ambiguity, lower disputes and provide a much more stable framework within the PII sector – which in turn will enhance legal certainty around the allocation of liability.

2.      Joint and several liability

The doctrine of joint and several liability continues to be a contentious issue within construction contracts. Under this principle, two or more parties (within a contract) jointly promise to do the same thing, but also separately promise to do the same thing (i.e. to pay any damages for breach of contract). Essentially, this means if a dispute were to arise, the claimant may choose to pursue each party, or just one, to the full extent of their losses; which in practice, means those who are well-insured or financially stable shoulder the burden, regardless of their proportionate contribution to the issue at hand.

Often, we see professionals and contractors bearing these costs on behalf of each co-defendant, then attempting to recover these losses against each party (if they are still solvent). The point we are making here is that this may be considered an imbalance between those culpable and the innocent. Whilst joint and several liability, tips in favour of an innocent claiming party, releasing them of any further burden in the recourse of claiming their damages – in practice, we often see defending parties who are minorly involved in the cumulation of any losses, bearing them to ‘foot the bill’ for those who are largely responsible.

Whilst net contribution clauses (as discussed above) offer a potential solution through dividing liability fairly amongst parties, they are notoriously difficult to negotiate, and funders are often highly reluctant to accept them. An alternative legal proposal gaining traction is the introduction of what would be a ‘proportionate liability model’, which would be implemented as part of a statutory scheme.

Furthermore, we have also heard calls for a proportionate liability model to be implemented into a statutory scheme. This means, in practice, each party would only be responsible for the portion of loss directly attributable to their acts or omissions (i.e. evaluating each parties relative responsibility and degree of fault to assign liability proportionately). A reform like this could establish a far more equitable and responsible allocation of risk across the construction sector, ensuring that all parties bear responsibility in line with their actual contribution to the issue. Despite this, the introduction of a scheme like so would create another level of complexity and contention, particularly in cases with overlapping responsibilities.

3.      Rising indemnity costs on claims

The cost of PII claims has surged in an upward trajectory in recent years. Such costs are often the remedy for any direct loss resulting from a claim, any indirect loss (i.e. delays, loss of income) and the costs of legal fees - which in turn have also increased over recent years with inflation. According to Griffiths and Armour’s ‘Constructing Change’ report this ascending trend is a key driver behind increasing premiums for PII coverage, as insurers adjust to growing financial exposure.

Despite these challenges, claims can be conducted and resolved in an orderly and cost-effective manner, if handled with care. Claimants who articulate their allegations clearly, with supporting evidence and quantifiable losses, often avoid any prolonged disputes that lead to disproportionate legal costs. Similarly, reducing the number of parties involved in a claim – where co-defendants often attempt to shift liability onto one another – can significantly lower costs on a defending party. Bipartite disputes (involving two parties) are far less expensive and easier to resolve that multi-party litigation. Whilst civil procedures rules in the UK provide harsh consequences for claimants conducting themselves in this manner, claimants may use this approach to maximise recovery of damages.

Accurate record-keeping is another crucial factor in keeping legal costs under control. When construction firms maintain well-organised and thorough project documentation, legal teams can construct reliable chronologies and robust arguments without spending excessive time and resources in preparation.

4.      Recent developments

The introduction of the Building Safety Act 2022 offers a promising path forward for the discussed disruptions, by encouraging a more rigorous approach to design and project control. With robust change management procedures and defined “gateways” for design approvals, the act aims to minimise last-minute design changes that often lead to costly disputes.

Investing upfront in comprehensive and accurate designs not only reduces risks but also aligns with the broader objectives of delivering safer and more cost-effective projects. By adhering to these principles, firms can achieve better outcomes while alleviating some of the pressures on the legal sector and PII markets.

By addressing these disruptions and challenges head-on, the construction industry can navigate the evolving legal landscape and establish a more sustainable framework for PII. Proactive measures such as adopting fair contracting principles, advocating proportionate liability and improving risk management will be crucial in fostering stability between the two markets within the construction sector.

Here at Forbes, we have specialist commercial solicitors that work within the construction sector on contractual issues like those discussed. If you need assistance with drafting and negotiating your obligations, liability and protection within a construction contract, please get in touch through the form below.