BLP: Funders' capital exposure on developments avoidable

, the residential and commercial building defects insurer is claiming that development funders' typical development warranty cover does not have sufficient limits to cover the full cost of developments for a growing number of schemes, leaving them potentially exposed to any shortfall should a building defect arise - having to reserve capital to cover the shortfall themselves.

The insurer believes that commercial and high-end residential conversions are most exposed due to warranty provider cover limits of £500,000 per unit within the development. According to the insurer, London in particular carries the greatest risk in this regard with many conversions creating units worth well in excess of £500,000 and in some cases more than £1 million.

Brian Kilroy, sales manager at BLP Insurance, says: "Funders are aware that warranty cover leaves them with a headache as to whether to reserve capital to cover defects on their builds or take the risk and use that capital for other developments. We are urging them to consider building/latent defects insurance instead of a warranty since the building is insured to its full rebuild value rather than the limits of a warranty; immediately freeing up capital for other developments and also preserving the value of their investment."

Much time and consideration goes into the contract negotiations between funders/investors and developers, however the latent defects cover is often taken for granted, leaving lenders and investors potentially exposed to some significant risk. While it is possible to sell or lease commercial property without latent defects insurance, many lenders are now insisting on it, particularly for residential developments. Funders are also beginning to request it as a way to protect their investment, against the consequence of building failure, or simply to make their offer more attractive to potential commercial tenants.

Further, defects insurance allows for full risk transfer after just 12 months, unlike its competitors who make the developer liable for 2 years. As a result of this, many banks, investors and funders are now insisting on latent defects insurance on all schemes before they will consider a partnership or any type of development involvement due to restrictions in developers claiming on a warranty.

Kilroy says: "If a funder is acting as development partner, perhaps within an SPV, and intends to retain units for rental purposes, the 3rd party warranty will not respond. So, yet again, the funder is left with no cover for their investment."