Considering the formation of an affiliated entity to build affordable housing? Need help?

The insurance aspects of these deals require a professional insurance expertise generally not available from the developer, lender, or investor. Many PHAs do not have this expertise available on staff and those who do are often overwhelmed by a multitude of other tasks that must be completed in order for the project to be successful.

While you are busy finding lenders, forming affiliated corporations, hiring developers, constructing partnerships, and crafting development and construction agreements, meeting insurance requirements is often left to the discretion of the developer, lender, or investor. These entities seek to protect their own interests in the project, not necessarily looking out for the best interests of the PHA or its affiliated entities.  

With all the work involved in this complicated and often complex arrangement, it is a testament to the commitment of our dedicated public housing authority directors that they are willing to consistently step up to these challenges. HAI Group is committed to providing you support and assistance with some of the insurance issues and pitfalls you may face along the way.

Recent Pricing Trends – Be Prepared

Insurance costs are often underestimated and it is crucial for the numbers to work in order to retain the affordability of the project, and in order to have the closing. Underestimating the cost of insurance can cause significant stress on the deal and on PHA staff. An indication of price should be obtained early in the budget process.

The availability of general liability coverage for residential contractors seems to be particularly difficult in states such as Arizona, California, Colorado, Hawaii, Florida, Nevada, North Carolina, Texas, and Washington, which have suffered high numbers of construction defect liability and mold cases. But even states that have kept a relatively low profile in terms of construction defect litigation are not immune to the effects of runaway lawsuits or insurers' appetites to take on construction risks within the housing sector. New start tract home construction, condominiums, and town homes have been among the hardest hit, partly due to the relative ease of initiating class-action lawsuits in those types of communities. There are few active insurers in the residential condominium market. Such restricted capacity puts pressure on price, coverage terms, and conditions.

Availability of wind insurance has also been restricted since the hurricanes of 2005. Capacity to insure high limits in coastal areas is often unavailable, or the pricing is unaffordable. In areas hardest hit by recent hurricane activity, premiums can be upwards of $50,000 for each million dollars of limit requested.

Coverages typically required by lenders during the construction phase include:

Builders Risk: Covers the physical buildings during construction. May be provided by the builder or the owner, but must include the partnership as an insured.

• Completed value form (not reporting form);
• Special (all risk) policy form;
• 100% replacement cost;
• Agreed amount coverage – this is not the same as 100% coinsurance, and it will increase the insurance cost (be sure to request it as all lenders require it);
• Wind insurance with up to a 5% wind/hail deductible – insurers in wind-prone areas restrict wind coverage, while lenders often require full wind insurance limits equal to the value of the project. This will drive up the insurance costs if you are in a wind-prone area;
• Soft costs – include extra expense and 12 months rental income; use pro forma to determine rents;
• Earthquake and flood when required;
• Maximum deductible allowed is generally $10,000; and
• Request permission to occupy coverage for at least 30 days.

Liability: Covers lawsuits during construction and claims of injury or damage by third parties. Both the contractor and the partnership will be required to carry liability insurance.

• Must be in the name of the owner entity;
• Occurrence form;
• Primary limits of $1M/$2M with a per location aggregate, and excess (umbrella) limits up to $5M (some lenders may require $10M or $25M excess for large projects or high rises);
• Terrorism;
• Non-owned and hired auto;
• Mold coverage, when required, can significantly drive up the insurance premium;
• Insurance costs for high-rise buildings and condominiums is typically higher than single family homes;
• Renovation work, especially if the building is occupied during renovation, will increase the cost of insurance; and
• Demolition work will increase the cost of insurance.

Fidelity insurance: Covers theft of money. A housing authority may be able to add the affiliate to an existing Blanket Employee Dishonesty policy when the affiliate has no employees and the PHA handles the money.

Boiler and Machinery: Covers more than boilers, including electrical equipment panels, air conditioners, and generators. Coverage is priced based upon the hard cost of the building. Testing and startup coverage is often excluded. It is important during the construction phase to request this as an additional covered peril.

Flood insurance: Covers water damage caused by flood. When required by your lender, a policy is needed for each building. The more buildings you have, the higher your insurance cost. Also, if your lender requires full building limits, you will need to purchase both an NFIP flood insurance policy as well as an excess policy. Excess flood insurance policies can be very costly.

D&O coverage: Covers liability caused by decisions made by the Board of Directors. Often forgotten is the purchase of directors and officers liability. While not required by lenders, coverage is generally not provided by the PHA policy. Indemnification is generally provided to the Board by the affiliated corporation, but it would be hard pressed to provide any real indemnification as it generally has no assets to speak of (zero asset corps). Consider the purchase of D&O insurance in your budget (pricing can range from $750 – $2,500).

If you are currently engaged in construction-related activities, please contact us directly to discuss your particular project. If you wish to learn more about tax credit projects, Visit our Builders Risk Coverage Web page and follow the link at the bottom to  sign up for Tax Credit Basics online Web-based training classes (available free to policyholders).