Construction

The sense of dread hanging over the UK Construction Market before this week's emergency budget seems to have receded somewhat.  Projects worth several billions of pounds have made it over this first hurdle and the 1% increase in Insurance Premium Tax could have been considerably worse. 

Over £7 billion of spending on construction projects was approved last week following the review of projects award between January 2010 and the May General Election including:

- 7 Building Schools for the Future projects
- 3 major hospital projects
- £5.67bn of transport spending including the recently closed Birmingham Highways
- Projects and the proposed Tyne and Wear Metro Project.

Although Contractors are now looking for clarity on which projects are going to be pushed through first, they are also keeping a wary eye on the Autumn spending review which may crystallise some of the current uncertainty.

The rise in IPT in the June 22nd Budget has been long foreseen by insurance brokers, but has been an awful long time coming - the last increase we saw was as far back as 1999! However, our new rate of 6%, effective next January, is still far less than our European counterparts, where rates are often equivalent to VAT levels.

Although the increase comes into effect in January 2011, the impact on instalments and extensions on existing project policies will fall within the anti-forestalling measures under the Finance Act 1994. However, more importantly, the answers to the impact will depend on how the insurer's accounts for the premiums.

Insurers may use either:

1. the cash receipt method of accounting - in which case the new rates will take effect for premiums received on or after 4 January 2011; or
2. the special accounting scheme - in which case the new rate will apply to premiums written in their (i.e. the insurers) books on or after 4 January 2011.

Notwithstanding this, the anti-forestalling measures (which were included in FA 1994) to cover increases in rates may apply such that certain premiums received between the date of the announcement (22 June) and the date of change may be subject to an increased rate.
 
The key factor, on the tax treatment will be dependent on how the insurer accounts for the premium, so it is important that clients obtain their own independent tax advice in this regard if they are concerned with the proposal from insurers.

In relation to PPP projects, the increase in IPT has a couple of obvious implications:

- Current bids will need to take into account the higher rate - projects already at preferred or   selected bidder phase may need to swallow the increase as the insurance costs are normally set before this stage unless the project company can demonstrate that there is significant project change or project delay.

- Existing Projects will need to pay more in terms of overall premium

It is this point where our clients need to consider the effect of any insurance premium risk sharing schedule (IPRSS) in their contracts. The later versions of the IPRSS, for example in the SOPC4 drafting exclude the effect of IPT entirely, leaving this increase as a pure Project Company risk, but earlier versions put in place post 2001 in many cases incorporated the total cost of premiums inclusive of IPT. In even earlier projects, there was complete pass through of premiums in certain cases. 

Clearly on projects closed under the current SOPC4 guidelines, increased IPT will result in an additional cost to the project Company that is not recoverable under contract, and it is for this and other unforeseen matters that an adequate insurance contingency should be considered for any project.

In conclusion whilst more recent projects will get no relief for the IPT increases due in the future, we recommend reviewing the IPRSS in all contracts to understand whether any premiums can be reclaimed and for any project contingency to consider the effects of future IPT increases.

So the fear factor built into many of the construction related pre-budget announcements seem to more about expectation management than reality, however contractors will be still waiting for the projects to be awarded and closed before breathing a full sign of relief.