A comprehensive builders risk program should include soft costs and business income/rental value. While there may be some overlap between the two coverages, such overlap is typically very limited and can be dealt with in the adjustment of the loss. On the other hand, the exposure created by not combining soft cost coverage with business income/rental value can give rise to significant uninsured losses.
One of the explanations or theories for not combining soft cost coverage with business income coverage is that many of the “soft costs” covered by the policy represent expenses that would be earned by the operations of the business. For example, real estate taxes and interest are common soft cost coverages, however, they are also operational type expenses that would be covered as continuing expenses under the income coverage. Other examples are: advertising, legal, accounting and insurance. If one were to claim these as a continuing expense and as soft costs, theoretically there could be duplication in the claim.
However, there are many expenses that could be incurred as a result of the delay that are development/ construction in nature as opposed to operational expenses. Examples of these types of expenses are contractors’ general conditions, office and administrative overhead of the contractor, the developers’ fee, equipment rental and other additional contractors’ costs all of which can be very substantial. Therefore, as these types of expenses would not be covered under the business income coverage, complete indemnification for these expenses will require placement of soft cost coverage as well. Keep in mind that it is imperative to delineate in the delay in opening endorsement all soft costs for which there is an exposure, such as the aforementioned items.
Furthermore, operational type expenses that are not specified in the declarations of the delay in start-up endorsement would not be compensable under soft cost coverage, thus resulting in uninsured losses in the event that income coverage is not provided. Typical examples of such operational expenses are: salaries and wages, utilities, maintenance, entertainment and medical insurance, etc. These types of expenses will often be incurred during a delay period, especially if the loss occurred at the later stages of construction and the owner was gearing up to commence operations. In the absence of income/rental value coverage, net income that was expected to be generated from the project would not be covered as well.
In regard to operating profit, many owners or developers do not perceive the need for income coverage as they may not expect the project to achieve any degree of profit at the beginning of operations. However, given that income potential is measured on the planned level of occupancy/ earnings, the insured would be entitled to recover any lost income as well as the continuing operational expenses based on the experience of the business at a planned or stabilized level of operations.
To summarize, it is imperative that the full scope of the project’s soft costs be quantified and specified in the soft cost endorsement of the policy. In addition, the projected earnings or rental value at planned levels of occupancy or operations must be incorporated into...