Home owners warranty: the practice of obtaining deeds of indemnity from directors and related persons Allianz Australia Insurance Ltd v Vitale

Transcription

1 Home owners warranty: the practice of obtaining deeds of indemnity from directors and related persons Allianz Australia Insurance Ltd v Vitale Linda Hamilton HAMILTON LAWYERS & ADVISORS History of home owners warranty insurance (NSW and Victoria) Prior to 2010, primary insurance for the home owner to protect the home owner from residential builders who disappeared, died or went into insolvency was provided by insurance companies. In the period , those companies were Royal & Sun Alliance (RSA), Reward Insurance and Dexta. The decision about which this article is concerned relates to Dexta, which was the agent of Allianz. Home owners warranty insurance was, and is, a source of considerable losses. The losses pre-2010 were conceivably capable of being lessened for insurers by the judicious purchase of catastrophe cover or other reinsurance. In 2010, the NSW Self Insurance Corporation (Si Corp) became the sole home warranty insurer in New South Wales. 1 It replaced Allianz, RSA, Calliden, QBE and Reward Insurance. The scheme since 2010 comprises a model in New South Wales whereby the insurers are agents for Si-Corp. In Victoria, the insurers are agents for the Victorian Managed Insurance Authority (VMIA). The insurers are subject to written underwriting guidelines. These guidelines are publicly available. 2 The guidelines categorise the manner in which the eligibility of builders is assessed such as to allow them to be entitled to work on residential property developments. If a building candidate to the fund is not eligible, the insurance will not be sold to the owner of the property. The owner will have to locate another builder. Hence, eligibility is a prime concern of all builders seeking to enter the industry, remain in it and/or grow. In the case of Allianz Australia Insurance Ltd v Vitale, 3 a recent decision of Sackar J in the NSW Supreme Court, the owner at the time of purchase of the insurance was the builder, Avcon. It was also the defaulting builder. Avcon s director, Anthony Vitale, was a defendant. He and another, Giuliana Vitale who appears to be a stranger to the company and who was also a defendant had both executed two deeds of personal indemnity for any losses suffered by Allianz in providing the insurance to Avcon. In its capacity as owner to whom the benefits of the insurance were to accrue, Avcon paid a premium of approximately $20,839 to obtain coverage against its own inability as builder to remedy defects in a property development it built in Sylvania. These defects constituted breaches of statutory warranty under the Home Building Act 1989 (NSW). The benefit of the policies would not just accrue to Avcon but would benefit its successors in title, the strata plan, if the build was defective structurally 4 and Avcon became insolvent. Allianz v Vitale On 1 April 2014, Sackar J of the Equity Division of the NSW Supreme Court determined that deeds of indemnity executed by Anthony and Giuliana Vitale in favour of Allianz were not void and were enforceable. His Honour held that there was nothing unconscionable in Allianz requiring these deeds of indemnity to be executed not only by Anthony Vitale, but also by Giuliana, in return for which Avcon had received eligibility status such that insurance could be offered, and therefore allowing Avcon to enter into building contracts for residential development. His Honour held that there was nothing unconscionable, either in equity or under the Trade Practices Act 1974 (Cth). Nor was there bad faith under the Insurance Contracts Act 1984 (Cth). His Honour held that both Anthony and Giuliana knew what they were signing. The terms were plain. There was no taking of moral advantage by Allianz and there was insufficient vulnerability at common law to make the conduct of Allianz unconscionable. There was no indication of special disability or special situation of disadvantage, or Allianz taking advantage of Anthony and Giuliana Vitale s positions. These deeds of indemnity were executed as requirements by Allianz to the provision of Avcon Construction 52

2 Pty Ltd, of which Anthony was a director, of the requisite eligibility that enabled the company to build residential developments in New South Wales. There were two deeds of indemnity. The first secured eligibility to undertake residential work to the value of $130,000. In 2002, Avcon sought to increase its eligibility from $130,000 for one job to $1,400,000 5 to undertake the building of seven townhouses. Unsurprisingly, Allianz sought additional information from Avcon. This was provided to Allianz by Avcon. In return, Allianz provided to Avcon an application form and sent Avcon the deed of indemnity requesting it be executed by both Anthony and Giuliana Vitale. The terms were the same as the first deed of indemnity. Avcon provided the executed deed of indemnity on 22 August 2002 (the second deed). Avcon also provided evidence of ownership and external funding approval. On 30 August 2002, after the second deed, provisional approval on eligibility was provided to Avcon by Allianz. This enabled Avcon to purchase the land at Sylvania upon which it now knew it could build seven townhouses. Avcon bought the property on 15 November 2002, and therefore it became an owner to which the insurance was to benefit. Avcon notified Dexta of the purchase. Only after notification of the purchase, and after the provisional granting of eligibility to Avcon, did Dexta, on 3 December 2002, consider the data Avcon had sent to it. It decided that the information was not good. The income derived by Avcon had, it determined, come from project management rather than building activities. Despite this assessment, on 4 December 2002, Dexta, as agent for Allianz, recommended to Allianz that Avcon be granted eligibility to apply for insurance cover to the value of $2.42 million for the benefit of the owner which was also Avcon. There is no indication in the judgment that Giuliana became an owner of the site. On 11 December 2002, Dexta issued insurance premium quotations to Avcon (as the owner) for work to a total of $2.4 million. The premium was $20,839. After this was paid by Avcon, the insurance was provided. Allianz issued seven builders warranty insurance policies in respect of each of the seven three-bedroom townhouses to be built by Avcon. The content of the two personal deeds of indemnity provided, inter alia, that all loss as a result of any claim in all cases would be paid by Anthony and Giuliana Vitale to Allianz. They would also be liable for costs and interest, which was named at 10%. After completion by Avcon, the strata plan was established on 25 February Six of the seven completed townhouses were purchased from Avcon. On 15 August 2007, Avcon was placed in voluntary liquidation. On 19 November 2007, the owners of the strata plan notified of claims under the home owners warranty policies. In September 2008, Avcon was made subject to a deed of company arrangement (DOCA). The DOCA came to an end on 10 September After settlement and litigation with the strata plan, Allianz paid out the strata plan, and others, for the defective work in the sum of $1,100,000 plus legal fees of approximately $150,000. There were also the costs of experts reports. The total that was sought to be recovered from Giuliana and Anthony Vitale under their deeds in favour of Allianz was $1,317, The amount of the judgment against the Vitales was $1,866,790.46, plus interest and costs. Eligibility under the scheme post-2010 The home owners warranty insurance coverage provided now to the owners of property is triggered where a builder is unable to comply with its contract with the home owner due to the builder s insolvency, death or disappearance. In any of those situations, the homeowner or subsequent purchasers may make a claim on the Fund. The sum insured is $300,000 per lot. If a development is seven lots then the payout, therefore, can now be $2,100,000. Previously, it was $200,000 per lot. Eligibility to build due to being accepted as an eligible builder post-2010 is assessed by underwriting guidelines issued by the state governments. 6 The premiums are paid by property owners who are proposing to build, and are then deposited into the state fund. Claims are paid from that fund to the owners or their successors in title. It is that fund that receives any moneys paid under any security or guarantee, including any deed of indemnity. Prior to 2010 and this government scheme, it was the insurer (RSA, CGU, Calliden, QBE, Allianz or Reward Insurance) that received the premium from the owner, paid the claims and also received the benefit of any securities or guarantees (including deeds of indemnity) entered into by the builder s directors or related persons to the development that is, if there was any benefit remaining after the paying out of the losses by the insurer. To apply for eligibility to the scheme now (without which a builder cannot build anything beyond a small shed), a builder must comply with solvency and management requirements. These requirements include providing declarations and documents annexed to an application form to an insurance agent of the fund. The application form for eligibility for the builder contains various fields for completion. These include requests for information as to its previous building experience, its prior nature of employment if there has been no building activity in the last 12 months, the type of projects in the next 12 months that are being 53

3 entertained, their contract value, and the average construction cycle of the builder. There is also a lengthy section on the business and project background. There is, in addition, another lengthy section concerning the assets and liabilities (personal) for each proprietor, partner and director of the building business. The form also requires the provision of information as to all loans, mortgages, vehicle finance, trade creditors and credit card debt. It includes, and requires the builder to sign, a declaration of solvency. There is a checklist of documents required: evidence of ownership of the property; a current statement of assets and liabilities (of the builder); work in progress (of the builder); a copy of the trust deed for trust builder applicants; a description of group structures; financial evidence, which is tax returns for three years and/or a statement of working capital; business plans; cash flow forecasts; a personal statement of assets and liabilities in the form of a chart listing the builder s residence, the quantum of the mortgage, any other residences, business premises and mortgages, and other properties, including vacant land; motor vehicle ownership and mortgages; other investments and with whom they are financed; cash deposits; and work in progress and trade receivables. The completion of this form and the provision of these documents do not entitle the building entity to the right to be eligible. Rather, the application is assessed by the insurance company agent in comparison to criteria to determine eligibility. The scheme s aim is to provide that builders self-fund the failures of themselves and other builders for incomplete and defective builds where the builder has disappeared or become insolvent hence, the provision in the current guidelines for personal deeds of indemnity by building company directors and developers. The premium payable by the owners is determined in New South Wales and Victoria by reference to the builder s turnover. In both states, the insurers assess the risk presented by each builder by the content of the eligibility form and of the documents provided. Factors against which the builders are assessed are working capital, asset management, underpricing of jobs, any net profit negative in the last three years and its cause, debtors, creditors and gross margins. The builder is given an assessment between W as the best and D as decline. Category Y means that the building entity has been assessed as a conditional acceptable risk that is, with conditions to be applied beyond the standard profile conditions. The financial status of such an entity is considered less than optimum, and/or there are some other adverse features. 7 Category Z is where the entity is an unacceptable risk. Category Z will only be considered eligible subject to conditions that enable the builder to remedy the weaknesses identified in the assessment. Presumably, Avcon would have been assessed as Y on the basis that it had some experience of building, or was a Z according to Allianz though there was no underwriting evidence called by the defendants. The conditions that, post-2010, are available to be offered to the builder to remedy any weaknesses in its eligibility assessment may include one or more of the following: a capital injection; provision of security by way of a deed of indemnity; increased reporting frequency; and placing the builder under management for contracts over $50,000. The guidelines express themselves to the agents in a manner that is clear. Deeds of indemnity are not to be entered into lightly. It is stated in the NSW guidelines that, if they are required, they are to be required from directors of the building company, related parties who impinge on the risk provided in that they have a financial interest in the building business, beneficiaries of the trust, or the developer. Deeds of indemnity are allowed to: influence the behaviour of the indemnifying parties (ie, the directors of the building company); and protect the fund. Deeds of indemnity must be approved on a case-bycase basis by the fund and are not to be used to remedy: (1) non-financial deficiencies in the builder s history or experience; 8 (2) deficiencies in working capital, gross margin or profitability; or (3) lack of financial capacity to support requested turnover growth. In the case of Allianz v Vitale, the evidence of Allianz was that Avcon had derived its immediate preceding income from project management. According to Allianz, it was due to a lack of experience that the deeds of 54

4 indemnity were required. 9 This was despite history that, in the three years preceding, Avcon had undertaken residential building work worth $135,000 and $180,000 and, in the year preceding, a subdivision and subdivision unit to the values of $80,000 and $60,000. The requirement that a deed be executed by Giuliana is not given reason in the judgment. She was not described in the judgment as a shareholder of Avcon, nor was she an officeholder. She was, therefore, not the builder, nor was she the developer and nor was she an original owner. The judgment is silent as to how, if measured against the current guidelines, she would have impinged on the risk or had a financial interest in the building business. It is clear that she could never be, for instance, a beneficiary of the insurance. The grounds upon which the insurer, however, procured a personal indemnity from her would, at a guess, be that she owned unrelated property with Anthony. This would, arguably, have been insufficient to allow Allianz to obtain a deed of personal indemnity from her under the present scheme guidelines also, due to item (1) above. Arguably, in this litigation, Giuliana may have had a contracts review claim available to her to resist the deeds of indemnity. That, however, was not pleaded and it is therefore assumed that there were no grounds upon which she could maintain such a claim. Neither does the judgment enlighten on whether Avcon was a sole-director company. It is appropriate to assume that it was because, if it were not, Allianz would have procured an indemnity from the other director or directors. As a sole-director company, there may have also been an argument that it received no benefit for its $20,000 premium in consideration for its contract of insurance, as its sole governing mind (Anthony) was made liable for the entirety of the insurance payout (save perhaps the costs of management of the claim). Avcon, arguably, as a result of the deeds, completely wasted its premium. It had bought nothing except a personal liability. Such can only, however, be seen in hindsight and we are not apprised if Allianz has been able to recover its moneys from Anthony Vitale. The above speculation does not touch on another aspect, which is the absence of evidence adduced by the defendants as to the ability to rely on s 54 of the Insurance Contracts Act. Presumably, it would be capable of being adduced that Allianz had an ability to purchase excess of loss reinsurance, facultative reinsurance or other reinsurance that protected it to some extent from adverse risk particularly in relation to where it knew and had assessed that this entity and, presumably, other building entities were not as experienced as the large well-established builders. Allianz had chosen to enter this market, presumably, knowing that it did so having to offer prescribed/minimum terms and that such builders would apply for eligibility. On one view, if the eligibility of Avcon was determined now, the use of the criteria by Allianz of lack of immediate building experience solely as requiring deeds of indemnity may not have been permitted. Neither would have been the procuring of personal deeds from Giuliana Vitale. It is assumed that her relevance to Allianz was as a relative or the spouse of Anthony Vitale and her joint or co-tenancy of property with him. Post-2010, it may have been that an alternative scenario would have been available to avoid such deeds, at least from Giuliana Vitale. For example, under the current guidelines, Avcon s lack of eligibility may have been cured by a further capital injection, its risk may have been intensively risk managed, 10 or it may have been required to submit to the Building Contract Review Program. 11 This post-2010 program is to assist new entrants to the building industry, as well as existing small to medium-sized builders, to obtain eligibility where the builder is unable to provide suitable evidence of experience in the proposed building activity. It is a step forward that such underwriting guidelines now exist and that smaller builders are capable of receiving guidance prior to entering into contracts of residential building, and also while they build. It is certainly preferable to allowing such builders to proceed without risk management and waiting for their mistakes to be visited upon the innocent strata plan. This has the flow-on cost of large premiums being visited on the surviving and more successful builders. The arrangements in place pre- and post-2010 do not solve the issue of the intentional liquidation of builders prior to completion nor where those builders and their directors no longer have any assets to satisfy the deeds of indemnity. That risk remains, as does the risk of the impecunious developer failing to pay the last progress payment of the builder due under the contract for the build and so driving the builder to insolvency. Linda Hamilton Principal, Notary Public Hamilton Lawyers & Advisors Footnotes 1. In Victoria, it is the Victorian Managed Insurance Authority (VMIA). 2. Home Warranty Insurance Fund, New South Wales Self Insurance Corporation Underwriting Guidelines: Version , available at \ 3. Allianz Australia Insurance Ltd v Vitale [2014] NSWSC 364; BC

5 4. According to the definitions in the Home Building Act 1989 (NSW). 5. Above, n 3, at [20]. However, that paragraph might possibly contain a typographical error in that the amount of $2.4 million was later allowed. 6. In New South Wales, the NSW Self Insurance Corporation Act 2004 (NSW) and s 91A of the Home Building Act 1989 (NSW). 7. Above, n 2, p Above, n 2, p Above, n 3, at [22]. 10. Above, n 2, p Above, n 2, p