The NSW Home Building Act requires that a licenced builder provides an insurance certificate to their clients prior to commencement of residential building works when the labour and materials associated with the work exceeds $20,000 in value.
The Act specifically excludes this requirement for residential apartment buildings over three levels in height. The Home Building Compensation Fund (HBCF), like other mandatory home building warranty schemes that operate in other states, is meant to act as a ‘last resort’ for homeowners if their builder fails to complete the works described under their contract or doesn’t rectify work that is carried out but deemed to be defective.
It appears to be a reasonable proposition to have some safeguard for unexpected events, which is conceptually what an insurance product is designed for. But like all insurance policies, you must read the conditions in the fine print, particularly when it comes to this rather unique insurance product. Access to this insurance cover has largely been contingent upon the builder being declared insolvent, dying or perhaps most disconcertingly of all, disappearing altogether, like a magic trick at a kid’s party. If any of the events don’t occur as scripted, then the chances of getting the insurer to cough up compensation funds are like another magic trick - where the magician appears to extract blood from a stone.
Some minor legal tinkering and fine tuning later enabled claims where the builder hadn’t just conveniently gone broke, died or disappeared. This came about when a licence could be suspended by the issuer (Fair Trading) for a builder’s failure to comply with any tribunal directives or court orders.
This had the effect of closing the loophole that had allowed insurers to simply divert any claims by directing their policy holders’ attention to the statutory warranty provisions that are incumbent upon all licence holders under the Home Building Act. Under the provisions, insurers were able to repeatedly refer clients back to their builder to address every ‘incomplete’ or ‘defect’ rectification work claim.
This classic Catch-22 situation perpetuated a vicious circle of disputes, claims and counterclaims which only served to frustrate both parties to the point where a recourse to formal legal action was often seen as being the best last resort.
The change to facilitate easier access for consumers to their insurance cover coincided with the business decision made by private insurers to stop issuing policies for home warranty insurance. Government was forced to become the sole provider under the HBCF scheme in July 2010. Since then, the scheme has failed financially and continues to fail the expectations of both building consumers and licensed builders.
As of June 30, 2015, the HBCF had a $293.8 million deficit, up from $204.8 million the previous year. This represents a 43 per cent annual increase which indicates there must have been a huge number of licensed builders ‘liquidating’, ‘dying’ or ‘disappearing’ after partially completing their building contracts. Either that or there’s an extraordinarily large number of very bad, extremely high-risk licenced builders going about their business of performing lousy building work and then having their licences cancelled or suspended to trigger the avalanche of insurance payouts.
If that’s the case, then a detailed analysis by NSW Fair Trading should be forthcoming to explain how this army of interminably bad, high-risk builders ever managed to be issued with a building contractor licence in the first instance.
The government says the reforms scheduled to go before parliament in early 2017 will enable private insurers to re-enter the market, and that this would improve protection for consumers against incomplete and defective building works whilst returning the scheme to a financially stable position. The State Insurance Regulatory Agency (SIRA) replaces NSW Fair Trading in the regulation of the HBCF with another agency called ‘icare’ to manage the policies.
Insurance premiums are planned to increase over two years. Builders will receive a letter from ‘icare’ detailing new premiums. This will include a ‘risk-based’ price for individual builders so that ‘low-risk’ builders no longer subsidise ‘high-risk’ ones. There will be changes to the way brokers are paid, with a service fee added to the premium by the broker, rather than a commission being paid by the fund. Shuffling the deck chairs on the Titanic would seem to be the most appropriate metaphor for this type of bureaucratic business reform. Sir Humphrey would be pleased.
In a press release, the Minister for Innovation and Better Regulation, Victor Dominello, admitted the current scheme has been in deficit for years and needed reform.
“This insurance provides a safety net for homeowners in the event a builder cannot complete residential building work or fix defects, due to insolvency, death, disappearance or license suspension," he said. "We are committed to enhancing consumer protection, improving home building standards and reducing the risk of insolvencies through private sector competition and innovation. NSW is experiencing a residential construction boom and these reforms protect homeowners and empower them to make more informed decisions.”
It sounds like wishful thinking, and it can’t disguise the fact that any proposed changes are focused on hitting the brakes on the government’s precarious financial position in the HBCF fiasco. Any serious attempt to address the actual root cause of the problems which give rise to the need for this type of insurance scheme in the first instance are negligible.
In many ways, the strategy is a basic reversion to a system that many would argue has been flawed for 20 years. Since the dismantling of the Building Services Corporation insurance scheme which seemed able to accrue funding of their insurance pool so that treasury could raid the BSC piggy bank, there has been little evidence of a system that fully worked as intended. It was the product of the hollow promise of how everything will function better and have self-correcting mechanisms by simply opening it up to market forces.
This is prevalent across many government sectors and is boosted on by the same promoters of companies and business sectors that benefit most from the access given them. Sometimes it works, and sometimes it doesn’t. Recent history shows that when subject to failure, it often occurs on a spectacular scale, including this one. We have gone down this path before.
Perhaps it is time to adopt advice from the genius of Albert Einstein, who defined ‘insanity’ as repeatedly doing the same thing over and over and expecting a different result. We should be trying to learn from the mistakes of the past to implement some real and effectual change.
It was thought that transitioning from the low key, in-house BSC builder insurance operation in the mid 1990s with the introduction of a privately insured Home Owner Warranty Insurance scheme would deliver greater efficiencies and lower builder preliminaries and hence lower consumer costs. It was derailed spectacularly by the infamous HIH collapse of 2001. The massive collateral damage on more than 20,000 builders and their clients demonstrated the ignorance of avoiding ‘putting all your eggs in one basket’ particularly when that basket is being held by a corporatised, listed company doing highly dodgy business deals.
The lawyers got richer and some ‘baddies’ went for a short stay in the sandstone hotel. After a bit of patchwork to the system, other private providers were attracted into the HOWI system and quickly picked up the slack. It stabilised and worked well, particularly for the new insurance providers. This was because the insurers could basically underwrite risk by compelling builders to provide full financial security against any potential claims that could arise.
Many good builders without property assets gradually found it impossible to purchase insurance. On the flip side, aggrieved home owners would virtually need to turn up to the tribunal with their builder’s corpse in the coffin or somehow prove they had really and mysteriously ‘vanished’ to make a successful claim. There was tinkering at the edges with things like managed builder programs and introducing insurance brokers to try to gain greater access to fair and affordable insurance.
The fallout from the mass exodus of private insurers from the market when licence suspensions could trigger a claim should have been the end of any plausible arguments offered up by ‘free market’ ideologues. The government had to step back in to underwrite the scheme. Another textbook example of privatising profit and nationalising debt. From both the builder and client perspective, it’s been an unhappy merry-go-round of poorly considered ideas, bad management and ineffective policy decisions. We are entitled to expect a far better level of service from executive government and their agencies.
This proposal shows the government’s main objective is to run screaming from the insurance business. As a deal sweetener, they are willing to inject almost $300 million to reset the fund deficit to zero, but even that won’t be good enough in the long term. The insurers and actuaries crunching the numbers always come up with the same equation. Their algorithm ensures they collect far more premiums – let’s call them ‘profits’ – than they will ever have to pay out. If it doesn’t, then they simply won’t play.
It’s no secret that the biggest buildings on the best properties in our CBDs are all owned by the insurance, banking and finance related sectors. They’re very intuitive and highly experienced about making money, and lots of it. They don’t have the interests of licensed builders or building consumers at heart, and frankly why should they? It’s not part of their core business objectives to care about protecting consumers from incomplete, inferior or substandard residential building work. And it never will be, regardless of any spiel from the insurance industry or government.
But the government agencies who issue occupational licences to builders and function to offer a level of consumer protection for the clients of those licenced builders should deeply care about it.
Ponder for a few seconds the actual scale of the problem based upon the figures in NSW. The current fund has a deficit of almost one third of a billion dollars. The deficit is growing exponentially. Remember, it doesn’t cover any contracts or construction works associated with residential apartment buildings over three levels.
If we put a simplistic average evaluation of the cost to construct a new house in NSW as being $500,000 – that’s construction costs only, and not land – then a $300,000,000 deficit represents the cost to completely demolish and fully re-construct 600 ‘defective’ houses. And that is the deficit portion, not the actual pool of money that is being paid out to cover the costs for incomplete and defective home building works across NSW. The other states are likely in a similar position.
If they were serious in dealing with this problem, they would be investigating ways to improve upon building quality and project outcomes. They should immediately and retrospectively implement significantly higher standards of educational training qualifications required to obtain a builder licence. This would enable building licence holders to professionally manage projects, ensuring that only high quality building works are ever performed and manage their construction contracts with a far greater level of proficiency.
Fair Trading should introduce incremental licence categories that correspond with the level of professional qualification attained. This would recognise higher order learning skills that effectively integrate construction, project, contract and financial management techniques. These are the skills that are absolutely essential to successfully manage today's construction projects, particularly those larger, more complex projects. These training outcomes do not substantively exist within the current trades based and Certificate IV level qualifications that are currently associated with NSW builder licensing.
Finally, they might choose to explain why, when the majority of residential building works currently being carried out now and in the future, will involve the construction of apartment buildings that are greater than three levels that they continue to provide the gift to property developers of these types of building projects that specifically excludes home warranty insurance?
Expecting that a competitive, profit-driven insurance market will somehow magically be equipped to deal with the inherent problems associated with a continuance of inferior, substandard building construction works and mismanaged, litigious contractual matters demonstrates complete ignorance of past experience. Clients and builders will continue to pay dearly for the simple fact that NSW, and by extension Australia, courtesy of ‘mutual recognition’ licensing rules, has the least credible standards for the issuance of building licenses in Australia and consequently, fully deserves its very poor reputational status.
Both the NSW and federal government continue to miss opportunities to address the base cause of the problems and in the state government’s case, chooses to tinker at the edges once more. This will ensure that the significant issues pertaining to the growing abundance of defective construction work and poorly managed construction projects, particularly within the residential home building sector, remains manifestly entrenched and will be set to worsen as construction project complexity and construction contract costs continue to grow.