Contractors dive for insurance bond cover

Denis St. Bernard, Contributor

LOCAL DEVELOPERS are increasingly seeking insurance bonds coverage.

Dorothy Russell-Clarke, manager, property underwriting and claims at British Caribbean Insurance Company (BCIC), said, "Those insurers who now provide bonds to the construction industry can confirm that the number of bonds that they have been requested to provide in the last three years probably equals the amount that they have provided in the previous ten years."

Why is it that suddenly many developers, project financiers and principals are now seeking bonds or some form of guarantee when they employ a contractor? Is it because of their experiences with contractors? Is it a change in market practice?

Mrs. Russell-Clarke explained that basically the requirement for these bonds is to have some financial recourse, especially where there is an increasing amount of cost over-runs on contracts and a tendency for many contractors to run away when the going gets rough. Further, the requirement for a tender or performance bond also weeds out unqualified contractors and so encourages healthy competition only from strong and capable contractors.

Although bonds are not a form of insurance in the legal sense, and as a provider of this type of guarantee, one has to ensure that all the prudent steps necessary to protect shareholders' interests and the insurance fund, are taken.

Mrs. Russell-Clarke went on to explore the issues of which a prudent insurance practitioner must be mindful when providing bonds. The issues fall under the broad headings of: technical (insurance), financial, legal and administrative.

Technical

It is not sufficient for an insurance company, on receipt of a Certificate of Title from the contractor to safely place the title in their vault and to proceed to release a bond, thinking that they have collateral. Should this be the case and the contractor defaults on the contract, the insurer would not have any legal right to seek to recover his loss if he had to discharge a liability under the bond, i.e. pay a claim.

The bond should be secured by taking out a first legal mortgage against the title. The mortgage must be completely executed i.e. it must be stamped and then registered in accordance with the laws of Jamaica, namely the Stamp Duty Act and the Registration of Titles Act.

You may ask "Why take out a mortgage? Can't a caveat against the title suffice?" The answer is no, as it has been proven that this does not preclude the registered proprietor from dealing with the asset e.g. issuing an equitable mortgage to someone else, without the surety's (insurance company's) knowledge.

A caveat does not therefore adequately secure the interest of the mortgagee (insurance company).

Executing the mortgage

Various situations can be presented when the Certificate of Title is vetted, and each requires a different treatment. I will not go into the treatment but will list the most common situations:

The registered proprietor(s) on the Certificate of Title may be the same as that of the company requesting the bond.

The registered proprietors are man and wife - the wife under the Married Women's Property Act, must have her signature on the mortgage documents witnessed by an independent attorney who will then certify that he/she has given the wife independent legal advice and that she (the wife) understands her obligations under the mortgage. The construction project being proposed for bonding must be evaluated. Is it the type of project for which the contractor is equipped? Does he have prior experience in the kind and size of work to be bonded? Does he have the depth and capability of management and the capacity to perform the proposed project? What are the terms and conditions of the contract to be undertaken? If the answers to these questions are not satisfactory, one should be cautious.

Financial

If the contractor passes the litmus test above, one can then move on to evaluate his financial strength. A strong balance sheet and liquidity coupled with the technical skill and competence indicates that the contractor can perform the contract. This therefore means that the risk is reduced and the contractor qualifies for a bond.

Legal

Most companies require collateral and this can take the form of either cash, banker's guarantee, hypothecated funds, unencumbered real estate (the title should be accompanied by a valuation that is less than 18 months old).

Real estate

There was a time not too long ago when real estate was considered to be the most secure collateral that could be held. It is now widely recognised that real estate is not as easily liquidated these days. It is therefore not prudent to accept undeveloped or underdeveloped land or incomplete buildings as collateral since it may prove difficult to dispose of.

The registered proprietor is an individual who is offering the real estate on behalf of the company seeking the bond - the individual must sign the mortgage instrument and provide an indemnity to the insurance company.

The registered proprietor on the Certificate of Title is a separate legal company "A" from the company "B" needing the bond. In this case, the execution of the mortgage requires a significant amount of legal work. "A" will be required to give a corporate guarantee and indemnity to the insurance company as the main collateral with the mortgage being supplemental thereto. "A" must show that it has some corporate benefit to gain by providing these securities on behalf of "B".

It seems like a lot of red tape, but any professionally-run firm, though finding the requirements somewhat tedious, should have no difficulty complying.

Administrative

Most companies have their own form of wordings. Many statutory bodies are now prescribing the wording that they require. Underwriters should carefully review these wordings as they sometimes impose terms with which they may not wish to comply. Execution of the bond involves: