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What is "Total Cost" as a CGL Premium Basis?

Author: Bill Wilson

The ISO CLM specifies how a subcontractor exposure is to be charged, depending on whether the subcontractor is adequately insured or not. If adequately insured, premium is calculated on a "total cost" basis that includes labor, materials and equipment furnished for the job. Sounds simple, but is it?

Question"I have a site contractor that buys dirt (clean fill). The vendor drops the dirt at the job site. The contractor's own employees using their own machinery move the dirt to where it needs to go. There are no subcontractors used. The auditor is saying the dirt vendor is a subcontractor and is charging for the total cost of labor and materials according to the following from the CLM:

F. Total Cost

The total cost of all work let or sublet in connection with each specific project including:

1. The cost of all labor, materials and equipment furnished, used or delivered for use in the execution of the work, however, do not include the cost of finished equipment installed but not furnished by the subcontractor if the subcontractor does no other work on or in connection with such equipment; and

2. All fees, bonuses or commissions made, paid or due.

The rates apply per $1,000 of Total Cost.

"This has come up in the past and I wish there could be a better way for ISO to explain the intent. In the example shown above, it would seem the phrase 'let or sublet' is the issue. I would support the view that if a contract required the site contractor to supply dirt and this contractor hired a 'dirt contractor,' then there is a sublet involved. But if the site contractor determined dirt was needed to correctly perform the job it has been hired to perform, then material supplied by the 'dirt contractor' does not rise to the level of work that is 'let or sublet.' Is the source of the dirt truly a subcontractor or simply a supplier of materials?"

Question"Often we sell a GL policy to a contractor and tell them that there is a reduced rate charge for their total cost of subcontractors. We carefully explain that the policy will be audited. However the issue of 'Total Cost' is being interpreted by some carriers as including the total cost of the project, including the cost of materials ordered and paid for direct by the GC, commissions paid to realtors, and any other costs that went into building the structure such as architect and engineering fees, etc., not just the total cost of the GC's insured subcontractors at audit time.

"The CGL policy form says, in part, 'Premium Audit a. We will compute all premiums for this Coverage Part in accordance with our rules and rates.' Now, the ISO manual for General Liability, under Rule 24 says, 'F. Total Cost The total cost of all work let or sublet in connection with each specific project including: 1. The cost of all labor, materials and equipment furnished, used or delivered for use in the execution of the work, however, do not include the cost of finished equipment installed but not furnished by the subcontractor if the subcontractor does no other work on or in connection with such equipment; and 2. All fees, bonuses or commissions made, paid or due. The rates apply per $1,000 of Total Cost.'

"Our position is that since the words TOTAL COST appear on the Declarations page under the class description for 'Contractors - Subcontracted work...' that these Total Costs only apply to the subcontracted total costs as they have been audited for many years before. Additionally, it would seem that the words 'let or sublet' in the manual pages above would imply or be interpreted as an express statement that it is limited to only costs billed to the GC through a subcontractor. It seems that the insurer has chosen to change the rules in the middle of the game and we are hearing that several other audit departments of different carriers are beginning to look at this as a way to raise revenues under the GL policy for their companies as well.

After studying the ISO manual 'Rule 24. Total Cost' further, does the phrase, 'do not include the cost of finished equipment installed but not furnished by the subcontractor if the subcontractor does no other work on or in connection with such equipment;' say that they should exclude equipment not worked on by the subcontractor such as appliances installed by the appliance dealers? Would it not logically follow that if appliances not worked on but merely installed are to be excluded, should they not look at all materials the same way? I.e., if the sub does not bill the GC for them, then they are to be excluded!?"

"My question is to seek ISO's opinions or historical intent of the rule or, lacking that, then any court interpretations that may have an effect on this issue either way. This issue may not make it to court if we can show that they will lose it. It is for enough money that it will be disputed vigorously by our insured. We need to help him all we can in winning this audit argument. There are still quite a few companies who have told us verbally that they will not interpret 'Total Cost' this way, but they seem to be getting fewer and fewer.

"What has been/is the current experience of those agents in other jurisdictions who write contractor's GL insurance as respects the carrier's interpretation of the words 'Total Cost' at audit time?"

AnswerThe purpose of this article is to address the issue of what constitutes "total cost" as defined by this CLM rule. The issue of what constitutes a contracting (vs. supplying) operation is an interesting one, but not one we can address here. We can, however, opine about this issue of "total cost" and cite a couple of historical references to the rule from ISO.

First of all, this rule has been considered at the annual Mid-America Technical Conference. The MATC is a consortium of 17 IIABA states (AR, CO, IL, IN, IA, KS, KY, MI, MN, MO, NE, ND, OK, SD, TX, WI, and WY) that has been providing an annual forum since 1934 for the discussion of property and casualty insurance coverages, rules, forms, and other technical issues. The MATC provides a sounding board for industry organizations like ISO and NCCI to ensure that insurance programs meet the needs of consumers represented by independent insurance agents. The following is a past discussion of Rule 24:

GL 06-04
MATERIALS FURNISHED

Can you help us obtain an interpretation of rules in the CGL section of the Commercial Lines Manual concerning the proper way to rate the subcontractor exposure under a general contractor's policy? Here are the situations:

As you know, there are two ways to charge for the subcontractor exposure on a general contractor's policy. (1) If the subcontractor is uninsured or inadequately insured, you charge under the classification describing the type of work performed by the subcontractor. The basis of premium is payroll. While the manual definition for payroll doesn't say anything about materials furnished (by the sub or the general), it is intuitive that payroll is just that — payroll. If the sub's invoice shows a separate figure for payroll, then that's what the auditor must use.

(2) If the subcontractor is adequately insured, you charge under the classification for independent contractors on a total cost rating basis. The manual definition for "total cost" says to include materials furnished for the job, but that can only be taken in the context of materials furnished BY THE SUBCONTRACTOR. The first part of the definition says to include the total cost of all work let or sublet in connection with the job.

It is intuitive that the proper figure can only include materials furnished BY THE SUBCONTRACTOR, as materials furnished by the insured are not part of the cost of the subcontractor's work for which the general has contracted. Have we interpreted the rule correctly?

2006 ISO RESPONSE:

When rating the work of an adequately insured subcontractor, the total cost of the work being sublet is used as the exposure base. It is our opinion that total cost includes the cost of materials and equipment furnished in connection with the work, regardless of who furnishes the material or equipment. The only exception is when the subcontractor does no work on finished equipment other than to install it. Please keep in mind that the application of our manual rules is subject to each individual insurer's interpretation.

Subsequent to the agenda item above, we ran this issue by ISO once again and got the following response:

While insurers may interpret our rules as they see fit, I think the rules for calculating total cost are pretty clear. I think that the words "in connection with" narrow it down to the specific part of the work being sublet. In my opinion, for example, if a general contractor was building a house and sublet the electrical work, the total cost of the electrical work to be used for premium computation purposes would be the amount paid to the electrician plus the cost of any materials and supplies used in connection with the electrical work, like wire, switches, etc.  

Another thing to keep in mind is that many of these types of risks are (a) rated, and that gives the insurer some latitude as well. You also have to keep in mind that not all insurers follow the filed ISO rules, they have deviations for certain classes, forms, etc. That may also be at play here.

Based on these responses, materials supplied in connection with the subcontracted work, regardless of source, would be included in total cost.

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