ARE WE GOING TO GET COMPULSORY HOME WARRANTY INSURANCE?

Ceiling leak and electric cables.

Compulsory home warranty insurance is an idea that has been floating around for a long time, and it won’t go away. It is no wonder, because it is reasonably common overseas. Every Australian State and Territory now has compulsory home warranty insurance, some from as early as the 1970s. In the UK, although it is not compulsory, banks routinely insist on home warranty insurance before they will lend on a building project, so it is almost universal.

The concept is that every time a new home is built, the builder must offer the homeowner an insurance policy that the homeowner can claim on, if defects later emerge in the home. The insurance is provided by an independent insurer – not the builder or the builder’s trade association – although the trade association may set it up, and they may both promote it for marketing purposes. The insurance policy is a contract solely between the insurer and the homeowner, and is administered by an independent insurance broker.

The idea was floated in 2003

In New Zealand the idea was first given serious consideration in a discussion document released by the Ministry of Economic Development in March 2003. This was shortly after the leaky home crisis was finally recognised as a reality and the Hunn Committee had reported on the failings of the New Zealand building industry. The intention was to protect homeowners when defects emerge and the developer or builder could not be held accountable for the repair costs. The usual reason was that the developer or builder had died, disappeared or gone bust, or had liquidated their company and protected their personal assets with a trust.

However the problem in New Zealand at the time was that private insurers were too wary of entering the market because of perceived low standards of workmanship, the difficulty of assessing the risk, and experience in Australia where HIH Insurance had recently collapsed. For those reasons the idea didn’t find its way into the Building Act 2004. Instead the Government hoped that with the benefit of new initiatives such as accreditation of building consent authorities, revision of the building code, licensing of residential builders and strengthening of homeowner rights and remedies, the market could gradually mature to such an extent that private insurers would be more comfortable about taking on the risk.

Those expectations have been borne out to some degree. In 2003 there were only two mainstream building guarantees available to homeowners – the one offered by members of the Master Builders Association, and the guarantee offered by members of the Certified Builders Association, both underwritten by New Zealand-based companies. The Master Builders guarantee is underwritten by Master Build Services Ltd, which is owned by Master Builders. However Certified Builders now promotes the Halo guarantee which is a significant improvement on its previous offering and is underwritten by a Lloyds of London syndicate. In addition to those two there are now two more guarantees on the market underwritten by overseas insurers.

The switch to proportionate liability

At the same time that the Government was looking into mandatory home warranty insurance, it was also considering switching from our current system of joint and several liability (where each liable party is potentially exposed to 100% of the cost of the damage they have caused) to a system named proportionate liability (where each liable party bears only a fair share of the damage they have caused). The pressure came mainly from Councils because joint and several liability has led to them bearing a disproportionate share of the liability for leaky building and similar building defect claims. In Australia, proportionate liability has been introduced in all States and Territories and it operates in conjunction with compulsory home warranty insurance.

Eventually the issue was referred to the Law Commission which is the body in New Zealand that carefully studies law reform proposals. The Commission released an issues paper on the subject in 2011 and followed up with a final report in 2014. It recommended against switching to proportionate liability, and given that it had reached the same conclusion in 1992 and 1998, I predict that that will be the end of the debate.

Limiting the liability of Councils

However the Commission did have considerable sympathy for the Councils and therefore recommended that their future liability be capped ($300,000 per stand-alone residence and $150,000 per unit in a multi-unit apartment block, with a maximum exposure of $3 million) – but only once the leaky building disputes were dead and buried. The Commission also came out in favour of a “comprehensive” building warranty or guarantee scheme (meaning that it is mandatory for builders and developers to offer coverage to homeowners but not mandatory for homeowners to take it up).

Unlike the rest of their report which took up some 75 pages and was a painstaking analysis of the arguments for and against joint and several liability, this building warranty or guarantee recommendation seemed to be a bit of an afterthought. The Commission glossed over the practical and political difficulties of imposing a third party guarantee requirement when many existing builders would be regarded as uninsurable by the private sector, thus driving those builders out of business or requiring the Government to become their default insurer at considerable risk to the taxpayer.

The effectiveness of a compulsory scheme depends upon who you are trying to protect. If only homeowners are protected by the insurance (as they are in the case of the four main guarantees currently available in New Zealand), then all you have achieved is to give homeowners a more certain payout. The insurer simply steps into their shoes and inherits their rights against the Council. It is a straight substitution, and it leaves the Council (or any other “deep pocket” defendant) exposed to the risk that they will have to pick up the tab for liable parties who aren’t good for their fair share of the damages.

On the other hand if you are trying to avoid any of the deep pocket defendants having to pick up someone else’s tab, then you should require each of the liable defendants – typically the building company and the subcontracting companies and their owner/operators (personally), designers, pre-purchase inspectors, previous owners and the Council – to be insured as well as the homeowners. That way, there are no liable parties who aren’t good for their fair share of the damages unless one or more of the insurers fails. Of course requiring all of those parties to carry adequate insurance is probably a bit too much to ask.

Is compulsory insurance practical?

I am sceptical that we will ever see compulsory home building insurance. Apart from the difficulties I referred to above, it is important to remember that this insurance covers defects. In many if not most cases, the builder disputes liability for the alleged defects, because they were not attributable to him, or they were within the tolerances accepted by the industry, or they met the standards required by the building contract, or they were caused by the owners’ own lack of care or by the forces of nature. Insurers aren’t going to want to pay out merely on the basis of an assertion by the homeowners that may be successfully challenged.

So to be able to claim on the insurance, the owners still have to go through the dispute-resolution process. Therefore the main benefit they get out of the insurance is that there is a guaranteed payout at the end of the day, assuming they can prove their case. That payout would not be so certain if there is no Council or other deep pocket defendant in the firing line, or the Council’s liability is capped.

by Geoff Hardy

Auckland commercial lawyer

Geoff Hardy has 42 years’ experience as a commercial lawyer and is a partner in the Auckland firm Martelli McKegg. He guarantees personal attention to new clients at competitive rates. His phone number is (09) 379 0700, fax (09) 309 4112, and e-mail geoff@martellimckegg.co.nz. This article is not intended to be relied upon as legal advice.