The housing authority of a large municipality requires contractors to name it as an additional insured on a primary and noncontributory basis…on the workers' compensation and employers liability policy.

A state authority demands a commercial general liability endorsement prohibiting the insurance carrier from raising some legal defenses without the authority's advance written permission.

A general contractor requires subcontractors to carry $300,000 in fire damage legal liability coverage. It also expects subcontractors to have their insurance producers warrant that it is a “third-party beneficiary” under the policies.

These are real insurance requirements that agents and brokers have referred to me. The $300,000 fire damage coverage, though a waste of money, is theoretically available. However, it is unlikely that a contractor could get its insurance companies to comply with the other requirements.

Still, these types of provisions pop up in construction and lease contracts every day. Business owners sign the agreements and then look to their agents and brokers to take care of the insurance requirements. After the underwriter stops laughing, he refuses to comply, the agent delivers this news to the client, and the client threatens to take his business elsewhere.

The agent is then in the happy position of choosing between two bad alternatives: Keeping the client happy by issuing a certificate of insurance that contains false information, or standing firm and watching a valued client and associated commission revenue walk out the door.

At the very least, he will spend excessive amounts of time on an activity that produces no additional revenue. All because of unrealistic insurance requirements in contracts.

Every day I receive examples of insurance requirements that are increasingly impracticable. Why is this happening? Here are several reasons.

Ignorance. In some cases, the people making these demands do not understand insurance coverages. Fire damage legal liability insurance covers only fire damage to premises the insured is renting. A person who understands that does not care how high the limit of insurance is, unless that person is the landlord.

Regulations. Some of these requirements are provisions in state and municipal regulations, written by public servants who have no expertise in insurance. See “ignorance,” above.

Risk Transfer. Some risk managers know (or should know) insurance coverage, but they want to shift as much of their organizations' risks as possible to third parties. Consequently, they make insurance demands with little or no consideration as to whether anyone can meet them.

Financial Clout. These entities approve the bids, grant the licenses and permits, and hold the checkbook. Therefore, they have the financial ability to pressure contractors and tenants. This is true for tax-funded state and municipal entities, wealthy property owners, and general contractors. Because they have the money, they set the rules of the game.

The solution to this problem is not complicated. Risk managers, attorneys who write the contracts, and representatives from the insurance carrier and producer communities must work together to identify:

Insurance requirements that are desirable;
Those that are actually possible to meet; and
The best compromise between the two.

I don't think anyone in the insurance industry would deny that organizations have a right to demand that their vendors, tenants, and contractors purchase appropriate insurance. However, the current situation—where each new contract contains insurance requirements more outlandish than the one before—is inefficient and untenable. Reasonable people can work this out for the benefit of all; it's time that they did so.

Special Reports /

Out of Control: Contract Insurance Requirements

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