Maximize Potential Savings On Your OCIP or CCIP

By September 26, 2012Uncategorized

From the CRS Archives – Volume1, Issue 4, August 2009

How to Maximize Potential Savings On Your OCIP/CCIP

Today, more than ever, the budgeting process has become essential to the success of construction projects.  Lenders are intensifying their underwriting criteria, and projects that are already underway have become subject to additional restrictions and guidelines.  With so many limitations in place, every aspect of the budget is critical.  This includes the proper allocation of insurance costs prior to  the wrap-up program’s implementation.  Historically, the task of budgeting these costs has not been given adequate consideration by our industry. There may be many reasons why this topic has been somewhat overlooked, not the least of which is the complexity of the issue and a misunderstanding of its significance. When examining the budgeting process, it is evident that there are several different ways to apportion insurance costs within the total project budget. More than a few factors must be considered. This includes who the sponsor of the program is, how the program will be set up, how the payroll is estimated, and how unforeseen additional costs are addressed in the contract. The following sections will give you some more details on each of these variables that cause an impact when budgeting for a wrap-up.

Who is the sponsor of this program: is it an OCIP or a CCIP?

Contractor Controlled Insurance Programs (CCIPs) are typically easier to budget for than are Owner Controlled Insurance Programs (OCIPs), as the total program costs may simply be added into the total project(s) costs based on construction value or payroll.   Budgeting this way can create a profit center for the sponsor by charging the project(s) the total estimated maximum insurance costs as part of the overall project budget. It is important to keep in mind that true developed total costs are not finite and thus are subject to change.

An OCIP can prove to be more complicated for owners because they have so many variables to consider.  The owner must determine whether to include the costs that would have been incurred under a traditional insurance program, the actual cost of the OCIP at max, or simply request funding up to an estimated loss level.

Will the program be set up as an alternate add or an insurance deduction?

Wrap-up costs must be added to the budget when using the alternate add method to enroll contractors into the wrap-up program. In such cases, the insurance costs are excluded from the original bid so that it is net of insurance. If correctly negotiated, this method has the potential to save both the contractor and the owner money. Still, the success of the alternate add method depends greatly on the amount of competition in the bidding process.

Another method for securing insurance credits from contractors is through the use of insurance deductions. In this type of transaction, the insurance costs are included in the original bids then later deducted from the total contract value. An insurance deduct is the most effective method to use when the verification and quantification of insurance credits is important to the sponsor.  This method allows for authentication and analysis of all insurance credits proposed by the contractors as well as the actual removal of these costs from the contract/bid amount. The use of the deduct method enables the program sponsor to perform a “true-up” of the insurance credit at the time of work completion and make adjustments if necessary.  Furthermore, the contractors’ cost for insurance will be included in the bid/contract amount, thereby not requiring that the cost of the wrap-up be added back into the budget.

Is the payroll estimated correctly?

When the reported payroll exceeds the original program estimates, the sponsor becomes responsible for more premiums, and the project’s loss basket aggregate increases. Depending on the loss experience, this could have a significant financial impact on the project.  Underestimated payroll amounts decrease the program’s initial cost estimates, thereby  increasing the program’s appeal during implementation. However,  it is certainly not a reason to celebrate when the sponsor is forced to suffer the financial burden of paying additional non-budgeted premiums at the end of the project.  Similarly, overestimating payroll will result in inflated premiums and an increased aggregate at inception of the program.  Since many programs are written with a 90-100% minimum, these costs may be non-refundable. Premiums would be paid for exposures that do not exist.

Underestimating and overestimating payroll can wreck havoc on a budget. Consequently, accuracy in making initial estimates is extremely important in the budgeting process.  The days of the straight line 20% payroll estimates are gone, and a lot more focus must be given to this process.

How are unforeseen additional costs addressed in the contract?

When a project sustains some unforeseen delay, or the original timeline estimates are too optimistic, problems may arise. Extensions of these programs can add substantial costs to the project. This situation can become exacerbated if the program also has sustained losses. In such instances, the wrap-up insurers hold all the cards.  The insurers will determine whether an extension will be granted, for how long and how much additional premium will be required.  The effects of closing a wrap-up prior to project completion or not seeking an extension can also be detrimental to the budget.  This may generate change order requests from the enrolled contractors seeking retribution for insurance costs that they will now incur.

Unfortunately, wrap-ups are frequently subject to adjustments based on audits. Whether rated on construction value or payroll, there is always a risk that the total costs originally estimated at project implementation may increase.  A detailed contract review is essential to ensure that the insurance provisions within the contract appropriately address the implementation of the wrap-up and are consistent with the terms of the program. Outside of the insurance provisions, typical contracts will deal with project cost overruns which must be modified to include wrap-up considerations.

In conclusion

There are many factors to take under consideration when budgeting for a construction project and its wrap-up insurance program; we have merely chipped the tip of the iceberg. Whether you are a broker, general contractor, or an owner, you will be affected by overlooking the variables that influence potential total program costs as discussed in this article. Ultimately, mistakes in the budgeting process can result in litigation between all parties involved. These conflicts negatively affect the perception of wrap-ups and diminish the fundamental benefits these programs provide.  Fortunately, disaster can be averted by staying informed about your construction budgeting process and taking the time necessary to deliberate all details of your wrap-up program.