The Strata Building Bond & Inspection Scheme

The Strata Building Bond and Inspections Scheme (“SBBIS”) came about as a result of a spate of fires
and structural defects – see the video interview and download the comprehensive discussion paper:
In JP’s Kitchen — LINK Commercial Mortgages (linkcm.com.au)

A Deakin University study found that 97% of residential apartment buildings in NSW have at least 1
defect, defects occurred across multiple locations within each building, 50%-60% of defects attributed
to design issues, 40%-50% of defects arise due to on-site poor construction practice.

In another Deakin University publication, Dr Johnstone states, “Unfortunately, new residential buildings
in Australia appear to be plagued with defects, and while the building itself can be fractured by these
defects, it is the residents living there who face the impacts“.

Besides cleaning up the controversy plagued building industry and ensure the safety of residents who
live and have invested in strata units, one of the other benefits of the SBBIS is the reduction of insurance
policy premiums for developers.

Under the SBBIS, developers of Class-2 buildings are to lodge a Building Bond to NSW Department of
Fair Trading, calculated at 2% of a project’s final development cost, thereby providing funds to cover the
cost of rectifying early defects that aren’t rectified by the developer.

The bond is to be lodged within 6 months of the developer’s intention to apply for Occupation Certificate,
basically upon applying for OC – the amount is calculated by a Quantity Surveyor and the deposit is
lodged with the Department of Fair Trading.

The bond is refunded or released back to the developer within 2 years providing that the developer has
rectified the identified defects, or, if it is deemed that there are no critical defects.

The SBBIS is governed by the Strata Schemes Management Act of 2015 (SSMA).

Passed by NSW Parliament on 21 November 2023 is the Building Legislation Amendment Act (“BLAA”)
which increases the increases the bond to 3% commencing 1 February 2024.

19 January 2024, the Strata Schemes Management Amendment Regulation of 2024 amends the date for
the increase in the bond to 1 July 2024.

Decennial Liability Insurance

The NSW Government flagged its intention to increase the SBBIS building bond from 2% to 3% on 1 July
2024 with the purpose of “encouraging” the industry to take up DLI.

The increase is aimed at corralling developers towards a “voluntary” alternative to “paying” the 3% bond;
that alternative is Decennial Liability Insurance (“DLI”), where section 211AA of the SSMA provides that
a developer who obtains DLI will not be required to “pay” the 3% SBBIS bond.

DLI, also known as Inherent Defect Insurance, is an insurance taken out by the developer in favour of
an Owners Corporation to provide cover against major structural defects in the building. It provides
protection for a period of 10 years and was considered, in theory, a better alternative to the Strata Bond
as it provides 10 years (“decennial”) of protection and was not an insurance of last resort.

It is compulsory in a few countries such as France under its Civil Code. However, the major pitfall of DLI
is that it significantly increases a project’s costs in two ways:

a. The cost of the premium
b. The substantial up-front cost of implementation and compliance according to the underwriter’s
requirements.

Implementation and compliance involve effectively doubling the number project consultants, those of the developer and those of the insurer’s appointed inspector/project manager and its own team of specialist services consultants.

These are pre-project costs and are to be born solely by the developer as part of the Construction
Certificate (“CC”) process, that is, prior to any project finance being made available.

Further costs are incurred throughout and at the completion of a project, for example due to the
requirement for on-going inspections.

CAUTION:

It may appear that there may be a monopoly in NSW, where there is only one insurer and
one local inspector/project manager in agreement with the insurer; the other two
inspector/project managers are very large, multi-tiered foreign companies.

It is the opinion of several industry specialists that for the NSW government to create and
maintain a fair, healthy, and competitive environment, there should be more than one
insurer mandated and all current NSW building inspectors under the SBBIS scheme should
automatically be appointed to as inspectors/project managers under the DLI scheme.

The view of many industry experts is that the increase of the building bond has occurred in coincidence
with the introduction of the DLI scheme and that this may have undesirable aspects in an already
controversial industry.

Projects that are nearing completion can avoid the bond increase if they can give notice of their intent
to obtain an Occupation Certificate and lodge the 2% bond prior to 1 July 2024.

Alternatively, developers will need to factor into their project funding arrangements an extra 1% of
development costs and weigh up the effect on their project’s feasibility.
In the opinions of several industry specialists, the more than double and non-recoverable up-front costs
of DLI, not to mention the DLI premium will factor negatively on a project feasibility.

Take-Away Points:

The more than doubling of up-front DLI costs must be funded by the developer’s own resources as the
timing is pre-project, that is; during the CC process and therefore prior to external project funding
being in place.

In contrast, the SBBIS bond is payable towards the end of a project, at the time of OC, and is usually a
funding allocation provided for in the funding tables of practically all project financiers.
Not to forget that a bond may be fully or partially refunded to the developer whereas a DLI premium
and the substantial monopolised up-front costs are not.

Contact our LINK today to discuss how we can help fund your next commercial-industrial property
purchase or the construction of your next project.

Disclaimer

The information in this article is of a general nature and is not intended to address the circumstances of any particular individual or  entity. Although we endeavour to provide accurate and timely information, we do not guarantee that the information in this article is  accurate at the date it is received or that it will continue to be accurate in the future.