Crumbling Defences

“Our rates have gone soaring,” says Colin Alston, P.Eng., owner of a 10-year old geotechnical consulting engineering firm in Toronto that has never had an insurance claim. From a premium rate of $28,000 per year in 2002 for professional liability insurance, last year Alston’s rates rose to $42,000.

Mary Pasut, chief financial officer for Yolles, structural engineers in Toronto, has seen their rates rise steeply too. And she says clients want them to insure against higher claims, which again multiplies the premiums: “For a long time virtually everybody had a $1 million limit per claim,” says Pasut. “That was pretty much the standard. Now they’re looking for $2 or even $5 million.”

John Gamble, P.Eng., president of Consulting Engineers of Ontario, often fields phone calls from firms worried about their insurance premiums: “Insurance is becoming very expensive — in some cases prohibitively so,” he says. “In a few cases they [insurance companies] are refusing outright to offer coverage.

“At one time just a few years ago, typically premiums were around half a per cent or 1 per cent of a firm’s billings,” Gamble continues. “Now it’s not uncommon to see that number climb over 5%.

“A lot of [firms] are genuinely quite shocked. People have had the same carrier for 15, 20, 25 years, and they have been absolutely blown over by the change in premiums when they came up for renewal.”

Consulting engineers are far from alone in facing an insurance crisis. The Centre for the Financial Services Ombudsman Network heard 2,500 complaints about insurance companies last year. CBC Radio’s “Sunday Edition” broadcast February 8 interviewed people from all walks of life who were being squeezed out of business by high premiums. The interviewees included an East Coast fisherman who couldn’t pay an annual rate of $60,000 on his $1-million boat, even foster parents who were not able to get home coverage because the insurance company thought their wards posed too great a hazard.

The insurance crunch facing engineering firms is so serious that the Canadian Council of Professional Engineers (CCPE) and the Association of Professional Engineers, Geophysicists and Geoscientists of Alberta (APEGGA) both have task forces looking into the problem.

The leaky condo effect

While everyone is facing higher premiums, the “leaky condo” crisis in British Columbia has created a particular insurance problem in the construction industry. When horrendous problems with mould and water leakage in condominiums built during the 1980s started to show up, owners sued by the hundreds and consulting engineers and their insurers were caught up in the fray. The million-dollar costs have drained insurance company coffers, and as a result the industry is often refusing to cover designers for mould and water ingress into buildings.

What causes most grief is that the change in the rules means firms aren’t covered for some work they did in the past. Professional liability insurance is “claims based,” so a policy is only triggered at the time the design error is discovered. If you don’t have the right coverage at the time someone sues, you’re in deep water.

Neil Cumming, P.Eng. is president of Consulting Engineers of British Columbia: “The problem is that when we did work in the past we were insured for it,” he says. “But now the rules have changed and at renewal time the insurers are excluding certain types of that earlier work, notably [coverage for] leaking buildings and mould. It’s certainly creating a lot of uncertainty and difficulties in the industry. It’s leaving the consultants without insurance and it’s leaving the public unprotected for a lot of the work that was done in the past.”

Many clients — especially government and public clients — require engineers to have liability insurance before they will hire them. In Ontario, Bill 124 recently made insurance mandatory for building designers. It means that consultants are caught in a Catch 22. On the one hand they may not be able to get professional liability coverage for building envelope work, and on the other hand they will be required by law to have it.

Others working in the environmental, industrial process and geotechnical fields are also considered high risk and face high premiums. Kim McKenzie, account director at Sinclair Cockburn Financial Group in Toronto, has even found reluctance from insurers to cover mechanical engineers designing building heating and cooling systems since they can be implicated in problems with mould and indoor air quality.

Why the crisis?

People in the insurance industry say they are only trying to make a reasonable profit in the face of huge losses in past years. Glenn McGillvray is assistant vice-president at Swiss Reinsurance in Toronto: “2002 was the worst year for the insurance industry,” he says, “and 2001 was the second-worst year ever.”

As a business that depends on financial investments for much of its income, the insurance industry has been hurt by low interest rates. And the World Trade Center disaster played an important role. “Generally speaking 9/11 affected things greatly,” says McGillvray, “because one of the things it did was it took capital out of the market. There was a $40 billion insured loss — the largest loss in world history.”

Natural disasters around 2000 also hit hard. There was a severe wind storm in Europe that caused over U.S. $7 billion in insured damage, as well as floods in Europe and tornadoes in the southern U.S. “In one day there were 70-something tornadoes in one storm system,” McGillvray says.

The insurers who work directly with consulting engineers cite more mundane business reasons for the rising premiums in professional liability coverage. Peter Needra, P.Eng., vice-president and general manager of XL Design Professional (formerly DPIC) in Toronto, and Derek Holloway, vice president, construction at Encon in Ottawa, both say that before 2000, the rates had dipped too much as a result of insurance firms competing with each other for clients.

“The rates had gone too low,” says Needra, “and insurers, myself included, have no-one to blame but ourselves as we were competing with each other for market share. The architects and engineers enjoyed the benefits, as they should, but we started to realize that we were losing money.”

Needra says that if anyone thinks insurers are gouging their clients, they should consider that a 10% return on equity is the normal profit margin sought by any engineering or architecture firm. Compare that figure with the insurance companies’ financial statements. “If you do that, you’ll see that we’re making 2% or 3% on equity, or worse, we’re losing money. And that has been going on for years. All we’re trying to do is charge for the claims. That’s what it’s all about. It’s the claims that drive the costs.”

The litigation tide

Consulting engineers and insurers both agree that a growing tide of litigation and claims is helping to push premiums to record high levels.

Insurers complain of “ambulance chasers” involved in the leaky condo crisis in B.C., i.e. lawyers pursuing discontented clients and persuading them to sue. Beside this relatively new threat on the construction scene, Needra sees other pressures: “The amount of claims has gone up over the years — the quantum amount.” And, “Yes, I think people are more litigious.”

Kim McKenzie, who has been involved in the construction industry for 20 years, also blames the tight economy: “There is a lot more litigation out there these days,” she says. “Much of it, I believe, comes down to the slim profit margins that everybody is experiencing — contractors, project owners and their consultants. What that leads to is an atmosphere of litigation. Years ago, if there was a problem on the job site everybody would say, ‘Well, let’s just all pool in a bit of money and we’ll make it go away.’ But those funds just aren’t there to throw around these days.”

Frivolous lawsuits are also driving up insurance costs. Anecdotally people give examples such as the case where a man fell in a 50-year old office building. He tie
d up the courts for years trying to recover damages from all and sundry, even consultants such as the landscape architect who had nothing to do with that part of the building. Or the case where a couple having an extra-marital affair climbed out onto a glass roof to enjoy an encounter. The roof collapsed, the hapless couple fell several stories to their deaths, and the lawsuits flew. Were the building designers really responsible for keeping those people off that roof?

John Gamble sees the far-reaching impact that litigation has on engineering firms: “Unfortunately the system is being treated like a lottery. The problem is that even when the consulting engineers are not to blame for the problem, they are being dragged into the fray. Innocent or not, they and their insurers find themselves paying heavy legal costs to defend themselves. It’s not enough to be a good engineer that has done a job well. Sometimes the premiums are being driven upward by simply being in the wrong place at the wrong time. Even if a firm named in a lawsuit has been completely exonerated, the fact remains that a significant amount of time, money and resources went into proving they were not responsible, and that’s a real cost that has to be recovered. It’s going to be tough for us to get ahead of this until somebody starts rethinking reform of tort law.”

Where engineers would really like to see legislative reform is in the area of “joint and several liability.” Neil Cumming of CEBC, explains: “[That legal principle] means that if there are a number of defendants in a lawsuit and one of them is found 1% or 2% liable, potentially they could be made to pay the entire amount of the settlement because the law applies the judgement jointly and severally to all defendants regardless of what their actual contribution was.” The judge awards a plaintiff a certain amount, and it comes from whoever has the “deepest pockets.” Often other defendants — say the contractor — have gone bankrupt or disappeared, so those like engineers who are still solvent have to pick up the whole tab.

David Chalcroft, P.Eng., who is heading the task force on insurance at APEGGA, also takes issue with joint and several liability: “Essentially it means the last guy standing with insurance has 100% of the liability for everybody. That’s a problem with respect to insurance companies and the [engineering] industry because it drives up the cost of insurance. Insurance companies are saddled with unfair and disproportionate settlements.”

Chalcroft’s task force is proposing to the APEGGA council that it should lobby the provincial government to reform the law. He likes what happened in Australia where the rules have been changed from “joint and several” to “proportional liability.”

“What that means,” says Chalcroft, “is that when there’s a judgment at the end of the day, the participants get a proportion of the liability commensurate with their level of responsibility for the problem.”

It could be tough finding politicians willing to push the legal reform through, since proportionate liability ostensibly protects professionals and business at the expense of the “little guy” plaintiff. Still Ontario and Alberta have recently limited the ultimate period for which professionals can be held liable, so there is hope.

In the meantime, according to people like Needra, the best way of keeping premium rates stable is to try to avoid claims.

“I don’t want to be arrogant, or to preach,” says Needra. “But I would say be very mindful of your business practices. If the client tries to hire you for a scope of work which is not complete, don’t do it.”

And, he suggests, if you’re desperate enough to take the job for such a small fee that you must take shortcuts, then be prepared for the consequences. You will have to build your own defences and put away some financial reserves. Because one day, that lawyer’s letter will almost certainly arrive.