Due Diligence for Insurance Coverage in Transportation Construction Contracts (2015)

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4specifications. If the policy is not reviewed until years after the completion of the project and after suit has been filed, the agency is no longer able to negotiate the coverage it could have easily obtained prior to or during construction. The agency may then have to resort to litigation to obtain the cover- age it paid for and was entitled to receive. Multiple state agencies’ difficulties in obtaining the insurance coverage and protections required under their construction specifications prompted this research project. This project addresses the common issues faced by the agencies such as: proof of coverage; difficulty of interpretation of specifica- tion and insurance language; coverage disputes; lapse in coverage; and qualifying contractors for the bidding process. Resources for the agencies’ contract administrators are included herein. II. SURVEY AND SURVEY RESULTS A formal survey asking for information about insurance requirements for road and bridge con- tracts was sent to the 50 state transportation agen- cies. Information requested included: what types and amounts of insurance are required by the agency; what processes are used to determine whether insurance is actually in compliance with the specifications and requirements; whether indemnification is required of the contractor; and whether the agency has experienced difficulties in obtaining compliance with its requests for defense and indemnification. Twenty-eight states responded. A copy of the survey is attached as Appendix A. The research team requested that survey respon- dents include insurance policies when responding to the survey. Only three states indicated that they required insurance policies to be submitted for review before issuing a Notice to Proceed. Most of the states relied entirely on the insurance certificate and/or an affirmation by either the contractor or its insurance company that the coverage was in compliance with state law and the state’s specifications, although a few required the contractor to produce appropriate endorsements. Most of the responding agencies indi- cated that they had not engaged in litigation with their contractors’ insurance companies or the con- tractors themselves in the last 5 years, although sev- eral agencies were contemplating litigation over cov- erage issues and three of the responding agencies had been involved in litigation with a contractor. During the preparation of this digest, multiple insurance policies and endorsements were reviewed. The policies had been submitted to the states as proof of compliance with the states’ specifications. A careful review of the policies and endorsements revealed that some were in fact noncompliant with the specifications. For instance, one endorsement contained a provision that specifically excluded cov- erage for acts “arising out of operations performed by the state.” This type of coverage is known in the insurance industry as “illusory coverage” since it specifically excludes the coverage it is supposed to be providing. An additional insured endorsement found in several policies contained language that specifically excluded coverage for damages “arising out of any of the contractor’s supervisory and inspec- tion” duties. Of course much of the work a contractor does on a construction site is supervisory and inspec- tion related. Another additional insured endorse- ment excluded coverage unless the damages “directly result from the contractor’s operations.” The authors also noted one policy that purported to provide completed operations coverage, but the cov- erage was specifically excluded by endorsement. The following information is a synopsis of the sur- vey data received from the states. A. Amounts and Types of Insurance Required Limits of coverage required ranged from a low of $100,000 to $300,000, which is Alabama’s general liability limit, to a higher range of $2 million bodily injury per accident with a $3 million general aggre- gate and $1 million automobile coverage, such as required by Utah. Some agencies, such as New Jersey, require excess coverage of up to $10 million. Numerous agencies reported that they did not require excess or umbrella coverage even though many contractors provided it. Other agencies reported that excess insurance was required on some, but not all, projects. Maine reported that it required excess coverage for fewer than 5 percent of its projects, and South Carolina reported that excess coverage is always required. Connecticut has a pro- vision in its specifications requiring $20 million in excess coverage for an $80 million bridge job. The levels of coverage for commercial general liability are aligned in some states with the sovereign immu- nity laws of the state, such that a contractor is required to purchase the amount of insurance allowed under state law that may be needed to cover any damages. Coverages required in the mega proj- ects1 appear to be coverage for property damage and liability regardless of sovereign immunity limits. 1 Prior to the enactment of SAFETEA-LU in August 2005, projects with over $1 billion in construction costs were designated as “Mega Projects.” SAFETEA-LU has lowered the monetary threshold from an estimated total cost of $1 billion to $500 million or greater, and the term “Mega Project” has since been eliminated and replaced with the term “Major Project.” See http://www.fhwa.dot. gov/ipd/project_delivery/defined/major_project.aspx.

5B. Additional Insured and Additional Named Insured Coverages Only 2 of the 28 states indicated that they do not require their contractors to name them as additional insureds or purchase separate owner’s protective policies on their behalf. These types of coverage are essential to the agency. There are many reasons for requiring the contractor to name the state as an additional insured on its insurance policies: the state is able to transfer some of its risk to an insurance company; the state gets an immediate right to a defense by the insurer rather than waiting to be indemnified for its costs at a later date; the policy may allow one party to transfer liability arising from its own negligence to the other party’s insurer; and the coverage may increase the limits of insurance available to the additional insured on the project. Naming the state as an additional insured pro- vides it with direct rights under the named insured’s policy. Coverage for an additional insured, however, is usually limited to liability arising out of the oper- ations performed by or on behalf of the policyholder. This means the coverage will only apply if there is a logical connection between the incident and the operations of the policyholder. Additional named insured’s operations are more closely tied to the named insured/policyholder. By adding the state as an additional named insured, the holder is extend- ing coverage under the policy to the actual opera- tions of the state. In some situations, coverage may be limited to actions that have a connection with the contractor’s actions or inactions, but the cover- age typically includes the same right of defense in a lawsuit that the contractor is entitled to receive. Insurance companies use many different forms and endorsements to identify coverage provided to addi- tional insureds. Some of the forms, such as Insur- ance Services Office (ISO) forms, are standard and have been interpreted by the courts to provide cer- tain types of coverage, as discussed later in this paper. Other forms are not standard and may not offer the coverage that was contemplated by the parties or the insurance specifications. Colorado and Wisconsin reported that they used Owner Controlled Insurance Programs (OCIP) on design-build or mega projects. An OCIP is an insur- ance and risk control program implemented for a single construction project or a series of construction projects. Instead of each contractor providing its own insurance and passing the cost to the owner through the construction contract, the owner of the project purchases certain lines of insurance (such as general liability, excess liability, and workers compensation) to cover most of the contractors on a job site. The Gov- ernment Accountability Office suggests $50 million as the project cost threshold for considering a feder- ally funded owner’s controlled program.2 C. Indemnification Indemnification is the complete shifting of liabil- ity for loss from one party to the contract to another party to the contract. Only one state that responded to the survey indicated that it did not require its contractors to indemnify and hold it harmless. Indemnification is simply another way the agency can be certain that its contractor will be responsible for its actions or inactions on the job site if insurance coverage is declined for any reason. Generally, agen- cies require their contractors to indemnify and hold them harmless because the contractor’s promise of indemnification provides another, separate layer of protection. In a typical state construction contract, the general (or prime) contractor is required to indemnify the state agency for any claims, losses, or expenses that the state incurs for bodily injury or property damage arising out of the general contrac- tor’s operations, materials, parts, or equipment due to the negligence of the general contractor. The sub- contractors are also required to indemnify the prime contractor and the state. Because the state wants to be sure that the con- tractor can fulfill its indemnification obligations, it usually requires two insurance clauses in its con- tract. First, the state requires that the contractor maintain specific amounts of insurance, which will, if needed, pay for the indemnification obligations. Sec- ond, the state mandates that the contractor name it as an additional insured under its commercial gen- eral liability (CGL) policy. These steps help to ensure that the contractor has funds available to compen- sate the state for unanticipated liability. This concept is discussed in much more depth later in this digest. D. Litigation The states of Missouri, New York, and Washington each reported involvement in litigation, or that they were contemplating litigation due to a denial of insurance coverage. New York indicated that its cov- erage disputes arose from several types of situations: whether the loss occurred within project limits; whether the claim arose out of the project work; and the failure of the contractor to name the State as an additional insured. New York also had problems when insurance carriers refused to provide coverage for claims asserted by the contractor’s employees. 2 Neil Wilcove and Stephanie Stewart, The Pros and Cons of Consolidated Insurance Programs, http://enews letters.constructionexec.com/riskmanagement/2013/04/ the-pros-and-cons-of-consolidated-insurance-programs (last visited Feb. 7, 2015.)

6Missouri reported that it had been in litigation with an insurance carrier due to the carrier’s refusal to defend or indemnify the agency after a lawsuit was filed against it. In that case, a fatal accident had occurred within the physical limits of a construction job. The insurance company refused the state’s ten- der of defense, arguing that the contractor had not worked in the area where the accident occurred. The state took the position that the entire project was within the control of the contractor at the time of the accident, that there was evidence that construction work had occurred in the general area, and that the contract required the contractor to provide traffic control and other items that had not been provided at the time of the accident. In denying the contrac- tor’s motion for summary judgment on the issue of defense and indemnity, the court found that the insurance company was contractually required to provide a defense to the state, but left the question up to a jury as to whether it had an indemnity obli- gation.3 The insurance company was required to provide a defense, due to Missouri’s requirement that when the complaint “alleges facts that give rise to a claim potentially within the policy’s coverage, the insurer has a duty to defend”4 (emphasis added). Washington and Missouri both reported that they have tendered the defense of claims to a nonrespon- sive insurance carrier and have either filed suit or are considering filing suit against the carrier on a bad faith theory. Missouri’s claim of bad faith stems from an accident in a construction zone where the plaintiff alleged that improper striping, signing, and traffic control plans caused a fatal accident. Plain- tiffs sued the Missouri Highways and Transporta- tion Commission (MHTC) and its contractor. While the insurance carrier for the contractor accepted the tender of defense, the excess carrier refused, citing policy exclusions. E. Proof of Insurance and Affirmation of Coverage Many states indicated that they accept the Agent Company Operations Research and Development (ACORD®) 25 Certificate of Insurance used by most commercial insurance companies as proof of insur- ance. However, the form contains a statement that reads: This certificate is used as a matter of information only and confers no rights upon the certificate holder. This certificate does not affirmatively or negatively amend, extend or alter the coverage afforded by the policies below. This certificate of insurance does not constitute a contract between the issuing insurer(s), authorized representative or producer, and the certificate holder. The certificate does not provide proof of insur- ance. In Trapani v. 10 Arial Way Associates,5 the court stated that a certificate of insurance that expressly states that it is “a matter of information only and confers no rights upon the certificate holder” is insufficient, by itself, to show that addi- tional insurance coverage has been purchased.6 As noted above, many agencies accept the certificate alone as proof of compliance with their construction insurance requirements. This is a mistake because without reviewing the specifics of the coverage, the agency cannot be certain that it has obtained the coverage required in its specifications and contracts. It has not engaged in vigorous due diligence. Insurance coverage types and amounts are described only in the body of the policy and its endorsements. Many states use only forms provided by ISO. ISO has produced hundreds of different forms that deal with CGL insurance since its incep- tion in the early 1970s. The forms are differentiated by number designation, typically found in the lower left corner of the first page of the document. The forms change every few years, normally in reaction to changes in the law or demands of the industry. Several new ISO forms dealing with additional insured provisions were released in the spring of 2013. Many commentators noted that the newest forms provide the most restrictive coverage yet,7 and urged insureds to carefully draft and review the insurance requirements within the contract to ensure that the coverage and limits intended by the parties is obtained. Other companies, such as The Hartford Financial Services Group and Liberty Mutual Insurance, issue standard insurance forms that follow a format similar to the ISO forms. As noted above, some of the states indicated that they required an affirmation or certification from either the contractor or the contractor’s insurance company that affirms the provider reviewed the individual insurance requirements and believed that the insurance provided was in compliance with those requirements. Examples of forms provided from the states of New York and North Dakota are 3 Cincinnati Insurance Co. v. Missouri Highway and Transportation Commission, No. 4:12-CV-01484-NKL, 2014 U.S. Dist. LEXIS 128394 (W.D. Mo. Sept. 15, 2014). 4 Id. at *31. 5 301 A.D.2d 644, 755 N.Y.S.2d 396 (N.Y. App. Div. 2003). 6 Id. at 647. 7 See Scott Pence and Wm. Cary Wright, Not All Ad- ditional Insured Endorsements are Created Equal: Brief History of ISO’s Additional Insured Endorsements and 2013 Changes, Under ConstrUCtion (The ABA Forum on the Construction Industry), Aug. 2013; and Shanda K. Pearson, The Times They Are A-Changing, 2013 Revisions to ISO’s Commercial General Liability Coverage Forms, insUranCe Law, Aug. 2013.

7included as Appendix B. New York’s certificate of insurance contains the following language: The subscribing insurance company, authorized to do busi- ness in the state of New York, certifies that the insurance of the kinds and types and for limits of liability herein stated, covering the work described in the underlying contract herein identified, has been procured by and furnished on behalf of the insured and is in full force and effect for the period listed below. Similarly, North Dakota requires that its contrac- tors sign and submit a form in which the contractor attests that “your company has insurance coverage consistent with the contract provisions” and further that “[t]he contractor has and will maintain in force, insurance coverage (including proof of coverage) con- sistent with the contract specifications.” New Jersey submitted a similar form that must be signed by the authorized representative of the insurance company, rather than the contractor. Arizona construction specifications on this topic state as follows: The contractor’s submission of the required insurance cer- tificates constitutes a representation to the department that the contractor has provided a copy of their specifica- tions to every broker who has obtained or filed a certificate of insurance and has communicated the necessity of compli- ance with these specifications with the broker and, to the best of the contractor’s knowledge, each certificate of insur- ance meets the requirements of the specifications. Requiring the contractor to affirm or swear that the insurance provided is compliant with the speci- fications or contract provisions provides additional protection for the agency because it puts the burden directly on the contractor, rather than the insurance provider, to promise that the requested insurance has been procured. If it later turns out that the insurance was not procured in the amounts or cover- ages that were outlined, the contractor is in breach of the contract. New Jersey requires that the con- tractor submit proof of insurance on a particular form developed for this purpose. The form is a two- page document that requires the contractor to cer- tify that the policies it obtained comply with state specifications. It includes a checklist for each type of required insurance (CGL, automobile, worker’s com- pensation, and owner’s protective coverage). A checklist for each endorsement must be submitted. New Jersey’s form can be found in Appendix B. A form such as this provides an easy format for staff to use to ensure compliance with insurance require- ments. Requiring the insurance company to affirm that it has reviewed the insurance requirements and provided compliant insurance also offers addi- tional protection to the agency. F. Timing of Notice to Proceed Every state that responded to the survey issued a Notice to Proceed (NTP) to the contractor within 60 days of the award of the project and three states noted that they typically issued the NTP within 2 weeks of award. New York reported that its stan- dard specifications require the contractor to begin work within 10 days of the award, but further com- mented that the contractor is not allowed to begin work until all insurance is in place. When there is very little time to collect and review documentation, it may be difficult for staff to do a thorough review of the policies and endorsements prior to the issuance of the NTP. G. Types of Coverage Required Every agency that responded to the survey required their contractors to provide insurance cov- erage as follows: general liability and/or CGL or bodily injury, automobile, and worker’s compensa- tion. Most agencies also required railroad protective coverage and environmental hazard or pollution coverage, depending on the scope of the project. Other required coverages may include products and completed operations, additional insured or addi- tional named insured, and professional liability. H. Preapproval Process Two states reported that they had insurance pre- approval processes in place such that a contractor whose bid was accepted could begin work immedi- ately if its approvals were up to date. The California Department of Transportation (Caltrans) allows a contractor, prior to bidding on a contract, to submit its insurance documents for preapproval. This pro- gram is intended to reduce delays in the contract execution and reduce the administrative and paper- work burden on both the contractor and Caltrans, so that a contractor who is awarded multiple contracts in one insurance policy period does not have to sub- mit the same information again and again. Upon review and approval of appropriate documentation, Caltrans will issue a certificate of preapproved insur- ance. Caltrans requires that the contractor’s CGL policy contain a blanket endorsement making the policy cover any work by the contractor under con- tract with the agency. Similarly, Kansas reported that the majority of its contractors have certificates of insurance that cover all Kansas Department of Transportation (KDOT) projects for a given annual period so that it is not normally necessary for the contractors to submit additional or new documenta- tion before beginning a project. I. Standard Forms Several agencies, such as the New York State Department of Transportation (NYSDOT) and the Colorado Department of Transportation (CDOT),

8require insurance providers to use particular indus- try forms, such as the ISO Commercial General Liability Form CG 00 01 10 93 or its equivalent, although they allow for forms that provide equiva- lent coverage. When the agency requests a particu- lar form in its specifications, it is easy for staff to review the endorsements to determine if the appro- priate form has been submitted. A potential diffi- culty emerges when the insurance provider submits what it proposes to be the “equivalent” of a particu- lar standard form and much time is needed to deter- mine if the coverage truly is equivalent. Most agencies require particular types and amounts of coverage in their specifications, i.e., CGL in the amount of $2 million and automobile coverage in the amount of $1 million. Those agencies typically require the contractor and the subcontractors to name the agency and its assigns as additional insureds, but do not require proof of that status on a particular form or endorsement. Missouri has devel- oped a checklist (see Appendix C) to assist the con- tract administrator in reviewing the insurance information submitted by its contractors. J. Details of Specifications While the specifications used by each agency have the same general components, i.e., they identify the work to be done and the manner in which the work must be done, multiple differences were identified with regard to the agencies’ methods of administer- ing the insurance processes. The following are a number of variations from the generic specifications that were noted in the survey responses: 1. Documents Submitted Caltrans requires a copy of the CGL policy and excess policy or binder (if the policy is not readily available), as well as all applicable endorsements, riders, and other modifications in effect to be sub- mitted prior to contract execution. They accept cer- tificates of insurance for all other required cover- ages. Caltrans requires a formal declaration by a certified public accountant that the contractor has sufficient funds to pay deductibles or other reten- tion. Indiana requires a binder and the entire policy to be submitted. Maryland requires certificates of insurance plus all applicable endorsements. 2. Affirmations of Coverage In Arizona, the contractor has to sign an affirma- tion that “submission of the insurance certificate is a representation that the contractor provided specifi- cations to all insurance brokers and communicated the necessity of compliance. To the best of the contractor’s knowledge, the provided coverage is compliant.” Agencies use this type of document as an additional means of binding the contractor or carrier. It can operate as an additional component of the contract and is designed to further impress upon the contractor or his insurance carrier that they are legally bound to provide the coverage outlined in the specifications. 3. Completed Operations Coverage Completed operations coverage addresses liabil- ity that arises out of the contractor’s operations once those operations have been completed or abandoned. Colorado and Utah require 1 year of completed oper- ations coverages. Other states, such as Nebraska, require 3 years of coverage. The intended effect of this coverage is that even after a job is completed or accepted, if a defect is discovered, a claim can be made against the contractor. A claim could involve materials, signing, striping, compaction of soils, and many other aspects of the job. 4. Tiered Insurance California, Colorado, and Connecticut tie the required insurance coverage amount and umbrella limit to the value of the construction job. For instance, a small job that has little risk of liability may carry limited insurance requirements, com- pared to a large job with a lot of risk attached to it. Caltrans offers the tiered insurance option to reduce insurance as a barrier to small business enterprise contractors by allowing contractors to bid according to the total bid range of the job. 5. Reporting Claims Maine’s specifications indicate that any failure to comply with reporting requirements, such as a delay in time, shall not affect coverage. Utah’s spec- ifications require the agency and the contractor to provide each other with notice of a suit within 2 days of service of a lawsuit. Most insurance policies require that the insured inform the carrier of a pending claim promptly, but don’t specifically define “promptly.” 6. Attorney’s Fees and Direction of Defense As do most states, Kansas requires indemnifica- tion by its contractors. However, the Kansas specifi- cation states that defense costs, plus interest, are to be paid by the contractor if the claim is a result of the contractor’s (or subcontractor’s) actions. In Utah, the specifications require a contractor to defend claims arising out of or resulting from the contrac- tor’s work. The Utah Department of Transportation may require the contractor’s counsel to represent it or may select separate counsel. Defense costs are