Difficulties by Design

Several recent developments have put building design issues in the spotlight. Whether one looks at the leaky condo crisis in B.C., the seemingly unstoppable construction boom in Canada, or a series of Supreme Court of Canada decisions over the last two decades – which opened the floodgates of liability to architects and engineers (and building inspectors) – it’s clear the risk of design professionals has taken on a more prominent status in the past five years.

Ontario is Canada’s only provincial government to become directly involved in liability for design professionals. Recognizing the vital role architects and engineers play in the province’s $10-billion construction industry, Bill 124 requires mandatory professional indemnity insurance and mandates the kind and amount of coverage that architects and engineers must carry as of January 1, 2006. The legislation also creates new “service delivery options” for local governments through private inspection bodies, known as registered code agencies (RCAs). Municipalities, which have traditionally handled the building code inspection process, can now outsource at least some of the work to these private RCAs. Mandatory insurance limits also apply to the new code agencies.

“There is no lack of claims against architects and engineers,” Peter Needra, vice president and general manager of XL Design Professional, says. “Whether this legislation will increase (the exposure) or not depends on what you are talking about and who you are talking to. The government is basically trying to get the insurance limits up, so if designers want to work on certain kinds of buildings and do certain kinds of work, they have to have certain limits. That is their (the government’s) call.”

But insurers are leery about their obligation to provide mandatory insurance and report regularly to the government. “From our perspective, we are now put in the position where we are going to be governing the professions to a certain extent,” Derek Holloway, senior vice president of ENCON, says. “If they don’t have insurance, they will not be registered. If they are not registered, they cannot get their designs approved. We don’t like to be policing professions, that is not our role.”

PREMIUM INCREASES ON HORIZON

One obvious outcome of Bill 124 is an increase in premiums due to higher limits. Specifically, the legislation says any engineering or architectural firm with more than $100,000 in annual fees must carry a professional liability insurance policy with at least $1 million limit per claim, plus a $2 million annual aggregate. Under the regulations, defence costs must be outside the limit, meaning the full limit will be available to pay any damages because legal or adjuster expenses will not count against that limit. Also, RCAs must carry a separate insurance policy specifically for their work, with a limit of $1 million per claim and a $2-million aggregate. The coverage has to include a two-year extended reporting, or “run-off” period, which may be available at the insurer’s discretion.

Kim McKenzie, assistant vice president, professional liability with Toronto-based brokerage Sinclair-Cockburn Financial Group, says the worst-case scenario for engineering firms is “a doubling of premium due to the higher limits. For some of the smaller firms, that represents a big chunk of change.”

Sabina Taylor, vice president with Toronto-based brokerage Hugh Wood Canada Ltd., notes the inclusion of a $2-million aggregate will mean a minimum rate increase of 10-15% for engineering firms. “For design firms, the $2-million aggregate just allows them to file more than one claim – it doesn’t give them any more coverage on a claim,” she says. “Many firms are considering it a big waste of money.”

Some say Bill 124 rightly addresses the fact that insurance limits for many design firms were too low in the past. “I think there are still a lot of firms out there right now that are carrying limits that are far too low,” Irwin Ginsler, vice president at Elliott Special Risks, says. “A limit of $250,000 is not enough in many cases. For a lot of the bigger design firms, the increased limits will not be an issue, but they will affect the smaller companies.”

BIGGER IMPACT ON SMALL FIRMS

Several insurance sources say Bill 124 will have a huge impact on single- or two-person engineering firms that rely on experience more often than formal education or qualifications. For some small design professionals, there will likely be coverage gaps and the distinct possibility of limited or no insurance availability.

“I have run into quite a few design firms that have been doing this for 20 years, but don’t belong to a professional association,” says McKenzie. “They went to the school of hard knocks and they are successful, never had a claim. Well, if they were in business for 20 years and they never felt the need to buy insurance, it is unlikely insurance companies will be interested in them now.”

Ginsler agrees. “If they don’t have the professional designations and training, we won’t be able to provide them with the coverage,” he says. “These are the ones who are going to have the most problems.”

The potential exposure of outsourcing agencies for building inspections in Ontario, such as RCAs, is another prominent issue. Municipalities that don’t have the staff to enforce building codes may need to rely on “professionally certified” private agencies. But insurance companies will be reluctant to backstop the increased risk that can come with building inspections.

“We have seen many claims where the engineering firm is saying, ‘We had the inspector out and he checked this and approved it, so it shouldn’t be just our fault. It should be the inspector’s responsibility as well,'” says Taylor. “I think it (outsourcing to RCAs) is the municipalities’ way of saying, ‘We don’t want to be in this liability, we don’t want to have to handle it.’ It’s passing the buck.”

Needra says any small firms looking to do a lot of outsourced building inspections may be in for a surprise when they look for insurance. “I would not insure a one-man firm to do that,” he says. “Anytime anything goes wrong, they will be brought into it. That is why the government was trying to get rid of it in the first place. If a one-man show does it, how much can you charge a firm that only brings in $60,000 in fees? All he needs is one claim and he won’t pay it back in a hundred years. So why would I insure him?”

SUPREME COURT DECISIONS

Two Supreme Court of Canada decisions highlight the risk of insuring design professionals and building inspectors. Up until the mid-1990s, it was difficult to recover economic losses from inherent defects in a structure caused by the negligence of a design professional. However, in Winnipeg Condominium Corporation v. Bird Construction Ltd. (1995), the Supreme Court concluded the time had come to allow purchasers to recover the costs of inherent defects in buildings they owned or occupied.

“This was a very significant change in the law,” John Singleton, a partner with the law firm Singleton Urquhart, says. “Without it, design professionals in British Columbia would not be facing many – if any – of the dozen of claims that were brought against them for the cost of remedying alleged building envelope deficiencies (resulting in leaky condominiums).”

Another Supreme Court of Canada decision changed the state of the law regarding local governments and building inspections. As recently as 30 years ago, municipalities involved in building code regulation were immune from liability. They were protected by either Crown immunity legislation or the Common Law. In Kamloops v. Nielsen (1984), the Court held that building inspectors did indeed owe a duty of care to users and owners of projects who may have suffered harm.

FLOOD OF CLAIMS

“Since (the decision), there has been a marked increase, or ‘flood,’ of claims against building regulators, plan checkers and building i
nspectors in a variety of situations, including the leaky condominium claims brought in British Columbia,” notes Singleton.

The leaky condo situation in B.C. was a liability wake-up call to design professionals and building inspectors. To date, roughly 65,000 condo units have incurred estimated total repair costs of between $1.5 billion and $2 billion. In one prominent court case, the British Columbia Supreme Court awarded $3.15 million to the owners of the Riverwest development, a condominium in the Municipality of Delta, to repair their water-damaged units. Strata Plan NW 3341 v. Canlan Ice Sports Corp (2001) marked the first decision to hold a municipality, Delta, liable for negligent inspection with regard to a leaky condo.

Against this backdrop of increased liability and risk, Ontario conceived of Bill 124 to streamline the building permit process and ensure all parties involved in construction carried sufficient insurance to protect consumers. The legislation was passed in June 2002, but it is has taken more than three years to work through the legislation’s complex regulations. In addition to insurance conditions, the legislation requires engineers and architects to pass exams to demonstrate their knowledge of the building code.

It would be a gross understatement to say the legislation hasn’t been popular with engineering or architect associations. Both groups have done intense lobbying to express their opinion that Bill 124 is an infringement on their ability to self-regulate their respective professions. Many see the bill as a selective attempt to pin even more liability on architects and engineers, while letting other groups in the building process off the hook.

ARCHITECTS, ENGINEERS PROTEST

“Despite our embracing the overarching good principles initially encompassed by the (legislation), by the time the bill was drafted our profession’s good faith was taken advantage of by the government,” Lesley Watson, past president of the Ontario Association of Architects (OAA), says. “Bill 124 is flawed . . . We, the architects, got screwed.”

Engineers are arguably in an even worse position. While architects were unsuccessful in their lobby for a complete exemption from the Bill 124 requirements, they were able to convince the government to create a “parallel system.” This allows architects to deal independently with Building Code compliance under the Architects Act. The insurance requirements of Bill 124 still apply to architects, but the OAA has its own professional association insurance program through Pro-Demnity Insurance, which covers virtually all primary layers of indemnity (private insurers write some excess cover for architects).

Many of the requirements of the legislation now fall squarely on the shoulders of engineers. Interestingly, these insurance requirements were not extended to builders or contractors. Both the Consulting Engineers of Ontario (CEO) and the Ontario Society of Professional Engineers (OSPE) argue that “all parties working in the area of the Building Code, including builders and contractors, should be covered by some form of insurance so that engineers will not be on the hook alone should problems occur,” according to an OSPE document.

“In general, they (engineers) think Bill 124 is a royal pain,” says Taylor. “It’s especially interesting that the architects got this parallel system, and the contractors walked away from the table right off the bat. It seems very one-sided, and a lot of engineers are pointing the finger and asking why the other players got out of this and they didn’t.”

The issue of mandatory insurance requirements has dragged professional liability insurers into the fray. A relatively small number of markets handle E&O for architects and engineers, including ENCON, XL Design Professional, Commerce and Industry (AIG), several Lloyd’s syndicates, Elliott Special Risks, Creechurch Underwriters and some mainline carriers such as Zurich Canada. Several of these companies are predicting a rush of applications as of January 1, 2006, when the insurance requirements for design professionals are slated to take effect. (They were postponed from the original deadline of July 1, 2005.)

INSURERS’ CONCERNS WITH BILL124

While satisfied for the most part with the current regulations of Bill 124, several insurance representatives have met with the government to discuss areas of concern. In particular, insurers questioned some of the reporting and notification duties they were required to make to the Ministry of Municipal Affairs and Housing under the legislation.

“At the end of the day, we determine who we do and don’t insure,” notes Holloway. “But we did sit down with the government and the ministry to establish insurance requirements and regulations we could meet. In fact, at one time we told the ministry that unless they changed the regulations, we would not comply and this would virtually shut down construction activity in the province – which caught their attention.”

To date, no other province has emulated Ontario’s legislation on the building code process and design professionals. Holloway notes Alberta and B.C. have discussed the issue, but he believes the Ontario experience may prompt the associations of architects and engineers in the western provinces to self-regulate and require all members to hold certain limits of professional liability insurance. In Quebec, professional associations already require indemnity insurance for their members.

In the meantime, Ontario’s legislative experiment with mandatory professional liability insurance for design professionals will continue in the months ahead.

“If this just involves passing the buck – especially when it comes to RCAs – it is not going to work,” says Needra. “It all depends on how it plays out, how it is managed and how it is used. It’s just that people like me who have seen this kind of stuff get to be a little cynical. We will see after January 1.”