Red Flags on Insurance for Green Building Products
While “greener” buildings are important to reducing global carbon emissions, the buildings offer much more than that. Green buildings bring people together in natural common areas, foster positive impacts of plant life and natural light, deliver healthier environments and help minimize each building’s carbon footprint.
These features are important considering that buildings account for almost 40% of U.S. carbon dioxide emissions, according to the Environmental and Energy Study Institute (EESI), a nonprofit promoting energy efficiency, renewable energy, and other sustainable solutions.
From small townhouses to downtown skyscrapers, U.S. buildings use on average about 40% the country’s total energy consumption. It is estimated that the manufacture, transport, and assembly of building materials such as wood, concrete, and steel account for another 8% of energy use and about 30% of the electricity buildings use is derived from coal-burning power plants.
The building sector could play a dramatic role in stabilizing atmospheric concentration of carbon dioxide, and the next generation of buildings could provide numerous benefits such as improved affordability, health, safety, and resale value. The EESI says government policies can help encourage or require buildings to be energy efficient and use renewable energy.
The insurance industry also plays a role, of course. It faces challenges in assessing the risks of new and often untested building materials and methods, as well as in backing the efficiency and sustainability promises green materials makers and contractors may make to buyers.
Many U.S. home buyers and businesses already understand the value of going green.
“There are a wide range of green features that buyers feel are desirable,” noted Paul Emrath, Ph.D., vice president of surveys and housing policy research at the National Association of Home Builders. “Energy efficiency, though, tops the list of what they most want.”
The majority of home buyers prefer green options such as passive solar design (60%) and durable materials (66%) into their homes. Buyers are also willing to invest in features that help lower their utility bills, with the average buyer willing to pay as much as $9,292 more upfront for a home to save $1,000 annually on utility costs, according to the NAHB.
On the commercial side, more building projects are incorporating renewable energy in design. Architects are looking for ways to either use or create solar, wind, or hydropower, as well as ways to tighten up building energy efficiency overall.
Insurance firm Applied Underwriters is one such commercial party. The carrier is currently building a 260,000 sq. ft. headquarters in the Heartwood Preserve, a large urban development in Omaha, Nebraska. Heartwood Preserve includes the Greenway system preserve that will permanently secure 80 acres of open space, eight miles of trails, thousands of trees and 13 iconic water basins that will feature important works of land art while also mitigating flood-risk, according to Bart Emanuel, national director of Development and Construction at Applied Underwriters.
Justin Smith, chief underwriting officer at Applied Underwriters, told Insurance Journal that while his company decided not to pursue the U.S. Green Building Council’s LEED certification process, the new building is designed to include many innovative “green” technologies aimed at reducing energy consumption and providing employees with a nicer place to work.
For example, the new Applied building will have windows equipped with a high-tech coating that darkens them, increasing the windows’ reflective index when the sun is out lessening the need for air conditioning. The product, View G4 Smart Glass, uses electrochromic technology to intelligently adjust tint in response to the sun to increase or decrease access to daylight.
Smart glass products are becoming a significant sustainability trend throughout the commercial construction sector. Some estimates show that buildings using smart glass windows are able to save up to 30% on energy costs.
While energy use reduction is an important feature for green properties, a post-pandemic world could drive a new focus for the green construction sector, according to Michael Heffernan, executive vice president at insurance broker Alliant, an experienced construction and real estate development expert. Research suggests that after the pandemic, developers will be focusing on building resilience.
“This concept of build resilience is really where you’re making decisions around effective resources and the investment choices for individual business units, or products and service lines, that are correlated to green technology or green building,” Heffernan said. “Developers are all running conceptualized scenarios that have some sort of COVID-pandemic modeling built into it for the next crisis.”
He said developers are looking for buildings that are able to perform better than what was experienced during the last 18 months. “Sustainable design spaces are becoming less and less of a novelty and more of an absolute necessity so that building structures are future-proof; that now means that these are pandemic-proof as well,” Heffernan said.
According to the broker, this might mean buildings with components that address air quality control, or that modify a building’s elevator capacity or synchronization. Other considerations might include how to congregate people in emergency situations within a building, or how to configure ingress-egress paths to maximize and create the most efficiencies.
“Everything is being geared around how human beings will be safe or safer when they’re inside buildings when there’s something like a global pandemic situation like we just encountered,” he said.
Not Keeping Pace
While green insurance coverages are not new to the property/casualty insurance market, Heffernan worries that some in the insurance industry have not kept up with the tech innovations and risk exposures generated by green technologies.
“I think that the green building insurance enhancements that are available in the marketplace came out sort of hot and heavy when LEED certification was the new thing, maybe 10-15 years ago,” he said. “The insurance industry recognized that this was an opportunity, so they created endorsements to address that particular segment of a newer evolving risk.”
In Heffernan’s view, new insurance products are needed to keep up with the rapid innovation trends on green technologies. “I think it’s fair to say that the insurance industry has not kept pace with the risks that are presenting themselves on the daily,” he said, adding, that there is a lot of room to “innovate and to customize coverages that are specific to a segment.”
New insurance products are worth investing in because the green industry will only continue to grow, he added. The global green buildings market is anticipated to grow at a healthy 14.3% compound annual growth rate from 2020 to 2027 and North America will remain the driving force of this trend, according to a May 2021 report by Market Research Future.
“It’s here to stay and the insurance industry is going to have to catch up,” he added.
That is not to say there aren’t insurance markets doing green construction well today.
“There’s probably seven or eight key markets that I think are probably ahead of the curve with innovative products and solutions around green building,” he said. He named Allianz, Travelers, Liberty Mutual, Chubb, Zurich, Starr and QBE as key players in the green building space.
“The innovation is always way ahead of us and so the issue from an insurance standpoint is that most underwriters will say, ‘Wait a minute, this is unproven technology.’ Insurance markets do not like products that have not been tested,” he said.
A new technology is often a red flag for an underwriter and a challenge to insure.
“There’s so many new products coming into the market that are green technologies, or smart technologies; it’s really difficult to keep up and understand what the risks are,” he said.
Examples include products that promise to meet certain energy efficiency levels. “If a green building is built with certain technologies that tout energy efficiencies or even energy output but doesn’t end up performing as guaranteed by the builder, monetary damages could be imposed,” he said. “There are things like liquidated penalties, monetary damages, that could be imposed upon a contractor for agreeing in a contract to build a building at a certain [LEED] certification level at a guaranteed price.” But then during the building process, that cost increases beyond the budget or beyond predicted costs.
“Performance guarantees associated with what we call liquidated damages, where in a contract, your consultants and/or builder may tell you as an owner that if you build a Platinum certified LEED building, the consultant and/or builder will guarantee that the building will perform at such a level,” he said.
Then five years later, the owner finds out the building doesn’t provide the outputs that it was pledged to provide. “Well, then the owner may turn around and say, ‘I made an investment to get the Platinum. You told me I was going to save X amount of dollars on power output. It hasn’t proven to be that and now I’m filing a claim for the difference between say a Silver and Platinum certification level, which is $10 million.”
There are plenty of concerns like these that could become insurability issues, he said.
He cites another recent example: the collapse of the construction firm Katerra Inc., which filed for bankruptcy protection last month. Large investments from SoftBank Group Corp. and others helped Katerra grow fast but that growth proved difficult for the company as it faced building delays and issues in trying to perfect its modules, which include prefab parts and modular construction units.
“Katerra is a perfect example of this discussion around technology, insurance and insurability, and sustainability,” Heffernan said. “Katerra, on the front end, had a great idea. They basically tried to integrate their experiences in technology into how they would bring a home to market. A lot of it had to do with prefabrication and using different materials, like cross laminated timber instead of wood, and other things that were very innovative.”
However, that innovation wasn’t yet proven, Heffernan said. “I think they realized pretty quickly that people build homes and structures in a certain way, for a certain reason. And while their concepts may have sounded great on paper, they didn’t play out in real application anywhere near what they were modeling or predicting.”
“It’s an example of overstretching,” Todd Germano, managing director of North America of Optio, the group company that includes Cove Programs, Ascent and Bay Risk, told Insurance Journal in June. “That expansion was problematic for them, and now they have to go through a reorganization.”
Astute underwriters want empirical data to evaluate new, innovative green technologies, Heffernan said. “They want to know that all the things that the technology or product is promising will actually happen.”
For companies like Applied Underwriters, pursuing construction with energy efficient technologies and a greener environment for its employees is more about corporate responsibility than certification. “I think the key point for us is that it’s about the reality of greenness and not checking a box” for LEED certification points. Smith said that Applied looked in-depth at pursuing the U.S. Green Building Council’s LEED certification process but made a corporate decision against it.
“Ultimately as an insurance person, there’s so much good stuff that the U.S. Green Building Council is doing,” he said. But they are missing some important things, he added. “They’re focusing on energy costs essentially, and the water cost of a building in the normal course of operation and that’s very important. But if you come from an insurance background, you don’t think about the normal course of operation. You think about all the things that could go wrong.”
An insurer might worry about what happens if the building burns down or gets swamped by a hurricane. “You’re effectively going to have to rebuild the whole thing and that’s unfortunate,” he said., arguing that the LEED process overlooks some key issues. Such as the building’s location. “To me, choosing an appropriate location with respect to catastrophe peril, that should be part of the LEED certification process because it’s just lunacy to see a LEED certified buildings going up in a flood plain, or in other places where it’s not sufficiently fire protected and it’s in a wildfire zone,” he said. “I think if those kinds of considerations accounted for say 20-25% of LEED certification, I would be happy.”