Home Building Protection Review submission

Date: 26 March 2014

The Association of Building Consultants Inc makes the following submissions in respect of the questions posed in the Home Building Protection Review paper of January 2014.

The Association is the peak body representing independent building consultants in South Australia. Its members undertake non-local government inspections of building work and provide advice to residential consumers and builders of residential construction projects. The Association’s members have many decades of experience in the industry and consider that they are well placed to offer views that are to some extent impartial given their role in the industry.

Q1 Are the current insurance triggers sufficient or do they need amending?

The current triggers of death, disappearance or insolvency have worked well, but do not cover the situation where a builder may be too ill to complete a project, or a Court finds that a builder is not capable of completing the works. Further, it is not uncommon for an owner to spend considerable legal costs in pursuing a builder for defective work before the builder then enters insolvency, perhaps by declaring bankruptcy. This often occurs when the owner has eventually compelled the builder to face the reality that a Court is likely to soon make a decision that will result in an order that the builder carry out remedial work. It would be fair and equitable for the insurance policy to be deemed to have been triggered at the time that the dispute commenced rather than at the time that the builder enters insolvency. This way, the owner’s legal costs in pursuing the builder would be covered by the insurance policy. Given that legal costs are often only partially reimbursed by an insurer, the likelihood would be that the owner would still be required to make some contribution to the rectification of the defective work even if this alteration to the trigger mechanism was made.

Q2 What are your views on the appropriate additional triggers that may supplement the current last resort model?

The Victorian approach of triggering a claim when a builder fails to comply with a rectification order should not be followed in South Australia.

Q3 Do you think that the current level of insurance coverage provides the necessary protection to consumers?

The maximum payout amount of $80,000 is out of date and should be increased. Building contract prices have increased dramatically since the limit was introduced. It is not uncommon for domestic building work contracts to be made for amounts in excess of $1m. A typical progress claim of 20% or $200,000 is not unusual. Typically, builders are at liberty to invoice on completion and require payment within 5 days. Consumers often will make payments substantially in excess of the value of works that have been completed particularly where a builder is in financial distress and is pressing for cashflow. The maximum payout should be lifted to at least $200,000.

Q4 What are your views in terms of an appropriate maximum insurance entitlement?

It would be appropriate for the maximum payout to be linked to a percentage of the contract sum, particularly if the premium to be paid for the insurance policy is also to be linked to the contract sum. For example, a maximum payout of say 25% of the contract sum would cover most situations.

Q5 Should separate limits be introduced for non-completion and defect claims? If yes, what limits are recommended?

The Association considers that there would be economic benefits in introducing separate limits for defects vs non-completion given the history of insolvencies leading to very significant non-completion liabilities. An appropriate limit for each would be $200,000 for non-completion and $100,000 for defects.

Q6 Is the current period of insurance appropriate for the South Australian market?

The insurance period in SA should match the statutory warranty period of 5 years. There is no benefit in having a statutory warranty period of 6 years for structural defects and 2 years for non-structural defects (as in NSW and Victoria). There would be a cost of discerning structural from non-structural defects and this is fertile ground for legal argument. This is not in the interest of consumers.

Q7 What are your views on varying the insurance coverage period by claim type and what would be an appropriate length of coverage per type?

It would be sensible to impose a shorter time limit for claims for non-completion as most projects are completed within 2 years of the policy being obtained. Non- completion is likely to be evident within this period. However, it is not immediately apparent what savings would be achieved by having different time limit periods and the administrative burden might outweigh any benefit that would arise.

Q8 Is the time frame for notifying an insurer of a claim appropriate?

The notification process is often fraught for consumers who are attempting to compel a recalcitrant builder to rectify defects. On the one hand, the consumer may have instituted a claim in the Magistrates Court and is being frustrated by delay tactics employed by the builder. At the same time, the 5 year warranty period is about to expire. A consumer who at this point senses that it is likely that the builder will become insolvent if the consumer succeeds in obtaining an order from the Court can be frustrated by the likely expiration of the indemnity insurance policy before the builder declares insolvency. It would seem more equitable if the notification process could be deemed to commence when the defects first emerge, even though the builder is not yet insolvent. The insurer’s liability to pay would not arise until the builder becomes insolvent, but at least in this situation, the consumer would have confidence that the policy will respond once the builder declares insolvency. The current 90 day period should be for notification following emergence of a defect which the builder has not rectified within say 60 days of request.

Q9 What are your views on the requirements for owner-builders to take out building indemnity insurance?

Not having a requirement for Owner-Builder indemnity insurance is a significant shortcoming in the system that has prevailed to date. It is a problem that requires rectification. The insurance should apply to defects with the work but could only be claimed upon by subsequent owners of the property.
The Owner-Builder should be personally liable otherwise. The status of the insurance should be disclosed to any subsequent purchaser of building work, be it a new dwelling or addition/alteration.

Under the Building Work Contractors Act 1995 (SA) (“Act”), trade contractors are required to provide indemnity insurance to a consumer where the value of their work exceeds $12,000. This simply does not happen in the market place. The legal requirement is not policed and has failed. Owner-Builders are financially-focused and acutely cost conscious. An Owner-Builder will typically choose the trade contractor with the lowest price and take the risk. Indemnity insurance adds to the contractor’s cost and makes that contractor less competitive. The Association is aware of significant non-compliance with this requirement.

Q10 What are your views on the inclusion or exclusion of developers as beneficiaries of a building indemnity insurance policy?

Excluding developers as beneficiaries of an indemnity insurance policy would potentially cause them to assess the risk of their contractor being unable to complete the project. If it is the case that developers cause builders to operate at below cost and contribute to insolvencies then this practice would be artificially inflating the cost of indemnity insurance for consumers, an effect that would be countered by excluding developers as beneficiaries. A sensible alternative to the current regime would be to provide developers with indemnity insurance limited to rectification of defects only. This alternative would ensure that all consumers including those who purchase from developers have indemnity protection.

Q11 What are your views on the introduction of a first resort insurance scheme, including the impacts it may have on consumers, builders and the costs involved in its administration?

The concept of indemnity insurance being the first resort for the rectification of defects is not sustainable. In the Association’s view such an approach would favour poor quality/unscrupulous builders. The concept would lower the quality of building work generally and ultimately make the cost to consumers greater. Private insurers would be unlikely to be attracted to this market unless high premiums were available. Ultimately, this would drive up the cost of housing, causing the majority to fund the defective workmanship of a minority.

Q12 What are your views on how the private market may respond to the introduction of a first resort scheme?

Insurers would probably reject the notion outright, or premiums would be prohibitively expensive. See answer to Q11 above.

Q13 What are your views on the introduction of a fidelity fund administered by a building industry stakeholder, including the benefits to consumers and builders?

It is difficult to see what ultimate benefit would arise from a fidelity fund scheme as opposed to an insurance scheme, if the benefits and obligations were the same under each scheme. However, holding a substantial pool of funds in a fidelity fund creates fertile ground for maladministration and exposes the industry body to risks that are outside of its normal area of operations, such as financing and investing. If such a scheme failed, the members of any builder-association may be responsible for the consequences of the collapse.

Q14 What kinds of financial risks may be involved in the set up and administration of an industry fidelity fund?

See response to Q13 above.

Q15 What are your views on making building indemnity insurance voluntary for all or some of the insurance risks?

Indemnity insurance should not be voluntary. Many consumers would opt out to save money, but if defective work is performed by the builder and becomes apparent after the property is sold, any subsequent owner would be left without insurance protection. Where defects are latent and not evident to a pre-purchase inspector, this imposes a cost on subsequent owners that seems inequitable given that the real estate market is unlikely to price in a significant differential in home prices. While this might be addressed in part if the original owner was to be made personally liable to subsequent owners if they fail to take out indemnity insurance, this alternative creates other potential problems for the subsequent owner. In particular, the subsequent owner would be required to prove their loss in Court and then obtain recovery from the original owner, who may well not have sufficient assets to meet the liability.

Q16 If a voluntary model was introduced, what information would consumers require to be able to assess the risk of not taking up the insurance?

If a voluntary model was to be introduced consumers would need to be aware of:

  1. The ramifications of not having indemnity insurance;
  2. The possibility of the development of significant defects in a home within the first period after construction, particularly where the home has been constructed to a tight budget;
  3. The difficulties they face in relation to rectification of defective work where the original builder is insolvent or close to insolvency.

Some financial information as to the current position of the builder would enable an assessment of this risk, but this information is not always accurate and capable of manipulation by the unscrupulous. Without such information, the subsequent purchaser of a home without indemnity insurance is unable to assess the risk they are taking.

Q17 What are your views on the introduction of a split risk model for the South Australian building indemnity insurance market, including any financial benefits for the insurance provider?

The split risk model is likely to present some economy as there is a clear divergence between the risks of insolvency causing non-completion and the risks of defective work. Builders with a long established financial position willing to put forward substantial capital guarantees for their work should be able to obtain insurance against the risk of insolvency at a lower premium than those with limited capital. This insurance would only need to run for a period of say 2 years. Defect liability insurance has potential to be called upon for even established builders as financial positions are more likely to change over the 5 year statutory warranty period. The “long-tail” nature of defects liability risk all comes back to proper supervision of building work in the first instance, irrespective of the involvement of a building industry association.

Q18 What are your views on the benefits to consumers and builders under a split risk model?

As indicated in the answer to Question 17 above, premiums for insolvency insurance are likely to be dependent on the financial asset base of the builder and hence the market will allow good successful builders to be more profitable or more economical. Consumers would benefit by enjoying a lower cost product from these more successful builders with the net effect of improving the affordability of quality building work.

Q19 Is it worthwhile for the Government of South Australia to seek to ensure that the building indemnity insurance market is attractive to private insurers in the long term?

The government should relinquish involvement in indemnity insurance to the private sector. The system at the moment effectively means that South Australian taxpayers guarantee to complete a house when a builder becomes insolvent. Ultimately, private insurers are likely to provide a market-driven, more efficient mechanism and the potential conflict of government in providing regulation and insurance is avoided by outsourcing of the insurance.

Q20 What are the necessary enhancements to the current home building protections that would make it more attractive to the private insurance market, while still supporting consumer and builder needs?

A robust alternative dispute resolution scheme would be of assistance. The use of corporate entities and trusts by builders who contract with consumers allows unscrupulous individuals to preserve their asset base even after a building company becomes insolvent. It would assist if the licensing authority had discretion to ask a Court to require the licence holder to make restitution where conduct of the licence holder has been unethical. Consumer and Business Services require more resources to deal with a task such as this.

Housing SA (and builders of its houses) are exempt from the requirement for indemnity insurance but should not be. Its re-entry into the scheme would provide a larger premium pool.

A change to the Act or its Regulations is required. It would be appropriate to impose a limit on the number of building sites that can be concurrently supervised by a single building work supervisor to say 20 houses at any given time. This would improve the level of supervision in the “volume build” sector. It would be attractive to insurers because the overall quality of building work would improve.

Q21 Is the current licensing system for building occupations adequate in terms of protecting consumers? If not, what amendments could be made?

Licensing of occupations should be extended beyond electrical, gas and plumbing to other trade contractors. A requirement to issue a Certificate of Compliance would focus the mind of those who presently build defects into their work as they go along.

The Association strongly supports the licensing of building consultants. The Association recognises that the present system allows any person to commence operating as a building consultant with no requisite prior experience or qualifications. The Act provides only for disciplinary action against a consultant, a form of retrospective regulation. The Association acknowledges that the current situation enables inexperienced and ill equipped persons to operate as a building consultant thereby potentially tarnishing the reputation of reputable operators within the industry.

Licence requirements

In respect of general applicants for a license the Association proposes that in order to obtain a licence a building consultant should:

  1. Obtain a satisfactory National Police Certificate.
  2. Have at least 5 years experience in the building industry.
  3. Obtain, or be eligible to obtain, an appropriate building work contractor's license or a building work supervisor’s registration under the Act.

In respect of the third requirement, appropriate building work contractor's licence, the Association acknowledges that there are a range of such licences, varying from handyman licences through to unrestricted building work contractor's licences. The Association proposes that a minimum requirement for the issue of a building consultant's licence should be the possession of a general building work contractor's licence to construct at least single storey residential homes. Architects and consulting engineers who have at least 5 years relevant experience should be entitled to a licence. The relevance of their experience should be assessed by interview.

Grandfather provisions

The Association recognises that the introduction of licensing might unfairly impact on experienced building consultants who do not possess formal education requirements that might be required to obtain a license. For that reason, the Association proposes that the Act when amended include transitionary provisions that entitle persons who have significant experience in the industry to obtain a license even if they do not hold the same level of formal qualification as would be necessary for an inexperienced person to obtain a licence.

Q22 Are the current processes around building work inspection and certification adequate, or should they be enhanced? If so, how?

Building inspection is not adequate and has not been since local government was given the option to not inspect with the advent of the Development Act. The requirement for councils to have an “inspection policy” has done little to protect consumers, although it may protect councils to some extent. A “policy” is not the same as having an obligation to inspect.

Q23 What are your views around the adequacy of the Statement of Compliance process, including any enhancements to the process?

The “Statement of Compliance” protects councils, not consumers. There have been few, if any, prosecutions for not providing such written statements. The system failed dismally in the case of Bryce Eddleston, a toddler who drowned in a new backyard pool that should have been inspected by the person who issued the Statement of Compliance, and should also have been inspected by the Council who received the paperwork but did not inspect the pool safety.

Q24 What are your views on the current disciplinary process for builders? What components are working well and what could be enhanced?

The disciplinary process for building work contractors is not functioning well. In our submission the current system allows unscrupulous and inadequate contractors to continue to take advantage of consumers. While there is arguably sufficient discretion within the Act and its Regulations to enable complaints to be brought, the legal costs deter consumers from bringing complaints and Consumer and Business Services brings very few complaints to the District Court. It would be useful if consumers could bring a complaint as to the licensing of a recalcitrant contractor at the same time as seeking compensation for the defective work performed by the contractor. At present, two separate actions are required.

Q25 What are your views on the current contractual requirements for major domestic building work? What components are working well and what could be enhanced?

Building work contracts usually require the final progress claim to be made by the builder when the work is “practically complete”. The contracts used by the industry contain varying definitions of practical completion. The Act should be amended to include a definition of practical completion in respect of domestic building work to overcome different interpretations of the term by the building industry. At present some builders take the view that whatever items of incomplete, defective and or non- compliant work which exist at the time a house is handed over to the consumer may be completed or rectified within 3 months, or at the builder’s discretion without any particular time constraints. A useful definition might be:

Practical completion means completion of all of the work to be performed under the contract apart from very minor defects such that the work is free from known omissions or known defects.

The current wording of the Act or perhaps the Form 1 notice in respect of the use of Prime Cost amounts, Provisional Sums, “estimates” and “allowances” requires clarification. There is a trend for contractors to breach the requirement under section 28 to list all amounts that may vary under the contract by using words such as “estimate” or “allowance” and to then inform consumers that this is not precluded by law. Clarification of the issue is required.

Q26 What are your views on the current dispute resolution process? In particular, what components are and are not working well?

There should be a specialist Tribunal dedicated to hearing all building disputes, regardless of the monetary sum involved. This Tribunal should have an accelerated resolution program including a compulsory early mediation process where a Court appointed expert (paid for by the parties in the first instance) assists a Court appointed mediator to attempt to resolve the dispute. The Tribunal should have sweeping investigative powers and the power to make orders for the performance of rectification work by third parties at the expense of the contractor if in default. The current problem with the Magistrates Court system is that the process is open to manipulation by unwilling participants who delay resolution until one or other of the parties tires of the dispute or runs out of funds to pursue the claim.

Section 8 of the Law Reform (Contributory Negligence and Apportionment of Liability) Act 2001 and/or section 72 of the Development Act 1993 are now being repeatedly utilised in domestic building work disputes to compel an owner to bring to litigation the subcontractors who performed the work by the builder. The builder’s defence usually says that the subcontractors’ defective workmanship caused the defects and seeks contribution for that defective workmanship under one or both of the above sections. Owners face the possibility of proceeding to trial and having orders made against the builder that only reflect a small percentage of the claim on the basis that the subcontractors contributed to or caused the main portion of the defective work. This situation should be overcome by an amendment to the Act which causes the liability of the building work contractor to be 100% in respect of work for which a statutory warranty applies. This should not prevent the building work contractor subsequently pursuing the subcontractor(s) responsible but should prevent the owner from having to establish the respective contributions of each before being able to receive sufficient compensation to rectify the defects. This is very time consuming and expensive for the owner. Again, the establishment of a specialist Tribunal would assist in speeding up this process.

Q27 Would the introduction of binding rectification orders enhance the dispute resolution process?

A Tribunal with power to make binding rectification orders would work in South Australia. We used to have the Commercial Tribunal, which seemed to be satisfactory, although overloaded. However, the Victorian system which allows the consumer to trigger the insurance policy when a builders fails to comply with a rectification order is not the preferred way to go, despite the insurer being allowed to then pursue the builder. In the Association’s view, it is a cumbersome system which will add to the insurer’s costs, with that cost eventually being recovered through the premium charge.

Q28 Are there any other amendments needed to the dispute resolution process?

See answers to 26 and 27 above.

Q29 Is the current level of information available to consumers sufficient to provide them with the necessary information to make an informed building decision?

Consumer Affairs staff could be offered additional assistance and training in regard to provision of advice to the public about building related matters. There is a deal of misinformation at the moment.

The method of providing information to consumers should be updated. Currently, the Form 1-Notice under section 28(1)(f) of the Act must be provided in writing. It would be better if this information was now provided in an up to date format, such as by way of video or a more readable brochure.

Q30 Do you have a view on the possible amendments to improve the information available to consumers?

DIY television shows actively encourage untrained renovators. However, there is little or no information provided by such shows to educate the public about the down side to their weekend pursuits. For example, little is said about the dangers of asbestos, or the liability if something goes wrong with the work when it is owned by another consumer in the future. DIY people do not require any particular skills, experience or licences, and no indemnity insurance. This is completely out of step with the legal requirements for builders, who do the same work, but for a living.
Not having a requirement for Owner-Builder indemnity insurance is a problem that requires rectification. Insurance should apply to defects with Owner-Builder and DIY work. The Owner-Builder should be personally liable otherwise. The status of the insurance should be disclosed to any subsequent purchaser of building work, be it a new dwelling or addition/alteration.