Insurance exclusions for AI data centers

In short

Builder’s risk and property policies for an AI data center are called all risk, but they cover only direct physical loss that the policy does not exclude or limit. ISO special form For an AI data center, the most important exclusions remove coverage for five kinds of loss. They are the cost of fixing defective work, wear and tear and mechanical breakdown, flood and earthquake, power failures that begin off site, and leaks that continue for 14 days or more. ISO special form Clauses written for the Lloyd’s market can also exclude losses connected with computer systems and data. LMA5401 exclusion, LMA analysis

Coverage for several of these losses can be bought back. For defects, an owner can choose a narrower defects clause such as LEG 3, and many London market policies let the insured choose the clause after a loss. Price Forbes guide

Fire remains the most costly risk. In claims that Allianz Commercial analyzed, worth about €677 million in total, fire caused 59% of the value. Allianz report Fire coverage can also depend on a policy condition that the insured keep its sprinklers or alarms in working order. ISO safeguards endorsement

Delay in start up coverage pays only when insured physical damage causes the delay. As a result, every exclusion in the main policy also limits the delay coverage. Swiss Re DSU guide

What does an all risk policy cover?

An all risk policy covers every cause of direct physical loss unless the policy excludes or limits that cause. The standard commercial property form published by ISO, the Causes of Loss Special Form CP 10 30, is written this way. ISO special form ISO, the Insurance Services Office, publishes standard insurance forms that insurers use across the country.

Builder’s risk insurance covers a project while it is under construction, and it usually works the same way. Builder’s risk, however, is usually written on each insurer’s own wording rather than on a standard form, so two builder’s risk policies can cover very different things. AGC paper

A coverage dispute usually turns on which exclusion the insurer relies on and whether any wording in the policy restores coverage. My guide to construction insurance for AI data centers explains the policies that cover a construction project.

Who has to prove what

Courts decide a coverage dispute in a set order.

1. The policyholder shows that the loss falls within the policy’s grant of coverage.
2. The insurer shows that an exclusion applies.
3. The policyholder shows that an exception to that exclusion restores coverage.

A federal court applying Michigan law followed this order in a 2026 power failure case, and the Wisconsin Supreme Court followed it the same year. Manchester United Technologies, Wisconsin Supreme Court decision An exception to an exclusion does not create new coverage. It preserves coverage that the exclusion would otherwise remove. Manchester United Technologies

Why the first words of an exclusion matter

Some exclusions apply regardless of any other cause that contributed to the loss, whether that cause acted at the same time or in any sequence. Insurance lawyers call wording of this kind anti concurrent causation language. In the ISO special form, that language introduces the exclusions for earthquake, utility failures, flood and several others. ISO special form

Without that language, state law decides which cause controls. A peril is a cause of loss, such as fire or wind. Washington follows the efficient proximate cause rule. Under that rule, a loss is covered when a covered peril is the main cause that sets a chain of events in motion, even if an excluded event occurs later in the chain. Vision One decision The Washington Supreme Court left open the possibility that an insurer could draft wording that denies coverage when an excluded peril starts the chain. The insurer must actually rely on that wording when it denies the claim. Vision One decision

Which exclusions matter most for an AI data center?

The exclusions that matter most are the ones tied to the way AI data centers suffer losses. Allianz Commercial analyzed 221 insurance industry claims worth about €677 million. Water damage was the most frequent cause of loss, and fire was the most expensive, at 59% of the value. Allianz report Business interruption, meaning income lost while the site cannot operate, drove the most severe losses. Allianz report An FM review cited by Swiss Re found that liquid related losses made up nearly 24% of loss costs. Swiss Re sigma

How do defects exclusions work?

Property insurance does not guarantee that the work was done correctly. Most builder’s risk policies exclude the cost of fixing defective design, workmanship or materials. Disputes usually concern whether the policy covers damage that a defect causes to other property, and how much of a repair counts as fixing the defect.

The cost of fixing the defect is not covered

In a New York federal case, a subcontractor poured a fifth floor slab with concrete weaker than the specification required, and the slab had to be removed. Laquila Construction The repair required shoring, meaning temporary supports, for the whole building, and other trades had to remove and reinstall their ductwork, electrical fixtures and plumbing.

The court held that all of those costs were part of the excluded cost of correcting the defective concrete. The court added that the result would be different if the slab had collapsed and damaged machinery or other work. Laquila Construction An AI data center has dense mechanical, electrical and cooling systems built around its structure. Under this reading, the cost of removing work that has no defect to reach a defect can also be excluded.

The Washington Supreme Court gave a simple example. Suppose a policy excludes faulty workmanship but the exclusion contains an ensuing loss clause. If a contractor miswires a building and a fire follows, the policy pays for the fire damage but not for correcting the faulty wiring. Vision One decision

The Supreme Court of Canada read the defects exclusion in a way that favors owners. A cleaning company scratched the windows of a new tower by using the wrong tools and methods. The court held that the defects exclusion removed coverage only for the cost of redoing the faulty work, which meant cleaning the windows again. Replacing the scratched windows was covered, and the court said this reading is consistent with the purpose of builder’s risk insurance. Ledcor decision My guide to warranty and construction defect claims explains how the construction contract allocates responsibility for the same defects.

What are the LEG clauses?

The London Engineering Group introduced three model defects exclusions in 1996 to make insurers’ wording more consistent. IRMI on LEG 3 Each clause excludes a different amount of loss.

• LEG 1 excludes all loss or damage due to defects in materials, workmanship, design, plan or specification.
• LEG 2 excludes only what it would have cost to fix the defect immediately before the damage occurred.
• LEG 3 covers the damaged defective part and excludes only the cost of improving the original design, plan, specification, workmanship or materials.

IRMI on LEG 3

LEG 3 was revised in 2006. The revised text says that damage includes any patent detrimental change in the physical condition of the property, meaning a harmful change that a reasonable inspection would reveal. IRMI on LEG 3 Price Forbes, a UK broker, explains that the revision followed a 2002 UK case, Skanska v Egger. In that case the appeal court said, in a comment that was not needed to decide the case, that the damage was only the defect becoming visible. Price Forbes guide Both LEG 2 and LEG 3 also state that property is not damaged solely because it contains a defect. Price Forbes guide

What courts have said about LEG 2 and LEG 3

In a 2014 British Columbia case, concrete slabs in a hospital extension bent more than they should have and cracked. Canadian Bar Association The insurers argued that the slabs were defective but not damaged. The trial court held that the builder’s risk policy covered part of the repair cost, and the appeal court affirmed. Acciona Infrastructure The policy used the LEG 2 clause, and the trial court awarded about $8.5 million. Canadian Bar Association

The first published US decision on LEG 3 was South Capitol Bridgebuilders v. Lexington Insurance Co. in 2023. IRMI on LEG 3 Concrete in a bridge in Washington, DC cured with voids called honeycombing, and the voids reduced the weight the bridge could carry. The court held that the loss of weight bearing capacity was damage and not only a defect. IRMI on LEG 3

The insurer argued that replacing the defective concrete was itself an improvement, so the entire replacement cost was excluded. The court found the clause badly ambiguous, applied the rule that unclear policy language is read against the insurer, and held the insurer liable. IRMI on LEG 3, ENR The insurance market has long read LEG 3 to exclude only the extra cost of improving the original work, such as adding steel to an underdesigned column. Price Forbes guide

In 2024 a federal court in Florida followed the South Capitol decision. Law firm analysis Concrete on an infrastructure project had been contaminated with fly ash. The court denied the insurer’s motion for summary judgment, which asked the court to rule for the insurer without a trial. Price Forbes guide Price Forbes notes that in the UK, honeycombed concrete is normally treated as a defect and not as damage. Price Forbes guide

These rulings do not decide how other courts will read LEG 3. Both came from federal trial courts, and the parties in South Capitol agreed that Illinois law governed. IRMI on LEG 3, Law firm analysis

When is damage that follows a defect covered?

Ensuing loss wording, also called resulting loss wording, restores coverage for damage from a covered peril that follows an excluded cause. The excluded cause itself remains excluded. Courts disagree about how separate the covered cause must be from the excluded one, and that disagreement can decide a water or fire claim at an AI data center.

The narrow reading requires a separate cause

In 2010 the Sixth Circuit, applying Michigan law, read the clause narrowly. Exterior walls were built improperly, water entered, and the steel structure corroded. The owner argued that the water was a separate covered peril. TMW Enterprises opinion

The majority rejected that argument. Water entering through defective walls was the natural and foreseeable result of the defect, so the exclusion applied. The court said that otherwise a beam that fell because it was built badly would be covered simply because gravity is not excluded. The majority read the clause to cover later losses from causes that were not foreseeable, such as a leak that shorts an electrical outlet and starts a fire. TMW Enterprises opinion

Other courts have reached similar results. The Fifth Circuit held that welding slag falling on windows was not a separate covered peril, because the welding work was itself the peril. Manchester United Technologies A Connecticut court found no resulting loss when power washing with crushed glass damaged about 1,800 windows, because there was only one cause. A California court treated molten zinc spilling from a ruptured kettle as part of the excluded loss rather than a new peril. IRMI on ensuing loss

The broad reading covers any covered loss that follows

Other courts read the clause more broadly. In Washington, faulty shoring failed during a concrete pour and the new floor collapsed. The Washington Supreme Court held that collapse was a covered peril, so the collapse damage was a covered ensuing loss, although the cost of repairing the shoring itself was not covered. Vision One decision

In 2024 the same court held that condensation trapped in a roof because of a faulty ventilation design was a covered resulting loss. The policy did not require the covered cause to be independent of the defect. IRMI on ensuing loss

In 2026 the Wisconsin Supreme Court held that rainwater entering a house through a construction defect was an ensuing loss under a homeowners policy. The majority rejected the Sixth Circuit’s proximate cause test, and the dissent noted that six federal circuits require an independent cause. Wisconsin Supreme Court decision The 2010 Sixth Circuit decision also had a dissent, which found the clause ambiguous and would have read it in the owner’s favor. TMW Enterprises opinion

What the split means for a cooling leak

Two older cases show how courts that take the broad reading treat leaking water. In Maryland, a plumbing subcontractor installed a water line improperly. The cost of fixing the line was excluded, but the water damage to the building was covered as an ensuing loss. AGC paper on ensuing loss The Sixth Circuit held that insulation soaked by condensation after a vapor barrier was installed improperly was covered. AGC paper on ensuing loss

In a state that follows the broad reading, a defective coolant joint that floods a data hall in a liquid cooled AI data center resembles those cases. In a state that follows the narrow reading, the insurer may argue that the leak was the natural result of the defective joint. The 2010 Sixth Circuit majority reached that conclusion for water entering through defective walls. The outcome depends on the policy wording and on which state’s law governs.

What happens when equipment wears out or breaks down?

The ISO special form excludes several kinds of gradual and inherent loss. They include wear and tear, rust and corrosion, decay and deterioration, hidden or latent defects, any quality in property that causes the property to damage itself, and mechanical breakdown. ISO special form

The form also excludes damage to electrical and electronic devices caused by artificially generated electrical current, including arcing, but it pays for damage caused by any resulting fire. ISO special form

If wear, corrosion or breakdown results in a specified cause of loss, the resulting loss is covered. ISO special form The specified causes of loss include fire, explosion, windstorm, smoke, leakage from fire extinguishing equipment and water damage. For example, if a corroded pipe suddenly cracks and floods a room, the water damage is covered even though the corrosion is excluded.

What equipment breakdown coverage pays for

The ISO Equipment Breakdown Protection Coverage Form EB 00 20 pays for loss to covered property caused by the breakdown of covered equipment. ISO equipment breakdown overview Its coverages include expediting expense, business income and extra expense, spoilage and utility interruption.

HSB, an equipment breakdown insurer, lists electrical short circuits, mechanical forces, overload and control failures among the risks this coverage addresses. HSB Two conditions in the ISO form are important. A joint or disputed loss agreement protects the insured when the property insurer and the equipment breakdown insurer disagree about which of them pays. A suspension condition lets the insurer immediately suspend coverage on a specific machine for safety reasons. ISO equipment breakdown overview

A machinery breakdown exclusion can apply to a design flaw

A 2022 decision of the Washington Supreme Court shows how broadly a breakdown exclusion can apply. The tunnel boring machine digging the tunnel to replace Seattle’s Alaskan Way Viaduct stopped in December 2013 and did not resume until December 2015. Seattle Tunnel Partners

The court held that the policy’s machinery breakdown exclusion barred coverage for damage to the machine caused by design defects. The court also held that the policy did not cover the delay losses, and that loss of use or function of the tunnel was not physical loss or damage. Seattle Tunnel Partners The exclusion applied to breakdowns from an internal cause, and a defective design counted as an internal cause. Mealey’s report The same question could arise if a chiller or other cooling unit fails because of its design.

Long lead times and equipment in transit

Breakdown losses last longer when replacement parts are scarce. CRC Group, a wholesale broker, notes that lead times for transformers can exceed one year. CRC Group Allianz reports lead times of up to 80 weeks for switchgear and 50 weeks for transformers in North America. Long lead times extend the repair period and increase the business interruption claim. Allianz report

Equipment can also be damaged in transit. Munich Re warns that losing a critical item in transit can lead to a delay in start up claim of more than a billion dollars. Many buyers are competing for the same parts, so a lost item is hard to replace. Munich Re A common policy clause excludes mechanical and electrical derangement, meaning a breakdown or malfunction of the equipment. The exclusion does not apply if there is external evidence that the damage occurred while the coverage was in force and was caused by an insured peril. Law Insider sample clause

Why is testing and commissioning the riskiest period?

Testing and commissioning is the period when the building’s systems operate for the first time and are tested at or near their limits. Many claims arise in this period. A loss during testing usually raises the defects or breakdown exclusions, and a design flaw found in testing that causes no physical damage is not covered at all.

Swiss Re reports that most material damage claims under construction and erection policies occur toward the end of construction and during testing and commissioning. Swiss Re DSU guide Allianz describes testing as one of the highest risk phases, citing latent defects, time pressure, temporary power and cooling, and many contractors working at once. Allianz report

In one Allianz case study, chillers cracked during commissioning because they were operated beyond their design limits, and the general contractor’s claim was between $25 million and $50 million. Allianz report Gallagher, a broker, notes that load testing of generators and cooling systems can result in physical damage and delay if a generator fails because it was installed incorrectly. Gallagher report

Which exclusion applies to a testing loss depends on what caused the loss.

• An installation error falls under the defects exclusion, so the result depends on whether the policy uses LEG 1, LEG 2 or LEG 3. IRMI on LEG 3
• A machine that fails on its own falls under the breakdown exclusion, and equipment breakdown coverage may respond. ISO special form, ISO equipment breakdown overview
• A design flaw that causes no physical damage is not covered. The University of California’s risk office gives the example of an electrical design flaw found during commissioning that lowers power output. Because nothing was physically damaged, the delay coverage does not apply. UC risk services

The UC risk office also lists damage to prototype facilities or equipment, and loss after the project is put into use, among the notable exclusions in delay coverage. UC risk services Allianz identifies refurbished and prototype turbines as a reliability concern. Allianz report Delay coverage is also tied to the testing schedule. Swiss Re describes delay policies that require regular progress reports listing the expected hot testing and commissioning periods. Swiss Re DSU guide My guide to performance guarantees and commissioning covers the contract terms for the same tests.

How does a policy treat a power failure?

The ISO special form excludes loss caused by the failure of power, communication or water service supplied to the premises, however the failure is caused, if the failure begins away from the premises. The form also excludes a failure that begins on the premises but involves equipment that supplies the service from off the premises. ISO special form A failure includes a reduction in supply or a lack of capacity. A power surge caused by a failure is also excluded, and communication service includes internet access. If the failure results in a covered cause of loss, the resulting loss is covered.

In a 2026 Michigan case, a utility line serving a Detroit warehouse broke, and the building lost one of its three phases of power. HVAC units, dehumidifiers, lighting and pumps were damaged. Manchester United Technologies

The court held that the utility services exclusion applied even though the power loss was only partial. The exclusion did not require damage to the utility’s equipment, because it applied to a failure however caused. The insured argued that acid burnout in the HVAC compressors was a separate covered loss. Applying the narrow Sixth Circuit test, the court found no evidence that the burnout was anything more than a natural result of losing a phase, so the burnout was not covered. Manchester United Technologies A notice of appeal to the Sixth Circuit was filed on June 22, 2026. Manchester appeal docket

CRC cites figures showing that 45% of impactful outages come from power problems. CRC Group Allianz describes a delay in start up claim of €25 million to €50 million caused by a power surge and trip during construction. Allianz report The ISO equipment breakdown form includes utility interruption coverage. ISO equipment breakdown overview The 7x24 Exchange coverage guide calls utility interruption coverage critically important for data centers, because power failures can cause large losses. 7x24 Exchange magazine

How are water damage and cooling leaks treated?

Water coverage depends on where the water came from and how long it ran. Water damage from an accidental leak caused by a break in a pipe, chiller or cooling loop is usually covered. A slow leak lasting 14 days or more is excluded, and so is flood water unless the policy adds flood coverage by endorsement. The ISO special form sets out each rule. ISO special form

The form defines water damage as accidental discharge from the breaking apart or cracking of a plumbing, heating, air conditioning or other system or appliance that holds water. ISO special form The form does not pay to repair the defect in the system that leaked. It does pay to tear out and replace the parts of the building needed to repair that system.

These rules matter more as AI data centers adopt liquid cooling. In the FM review cited by Swiss Re, fire related sprinkler leakage caused 9.3% of loss costs, and escaped liquid from the newer cooling systems caused another 10%. Swiss Re sigma AXA XL, an insurer, warns that cooling networks use large diameter pipes and extensive loops, and that contractors new to this work may install the pipes incorrectly. AXA XL

Allianz recommends leak detection tools, because they can significantly reduce the consequences of a leak. Allianz report Early detection also affects coverage, because the seepage exclusion applies to a leak that continues for 14 days or more. My guide to cooling system construction contracts covers the warranties and scopes of work for these systems.

Water damage during construction

Builder’s risk policies raise separate water issues. Equipment that is bought early and stored before installation can be damaged by damp air and condensation, and builder’s risk policies often exclude damage from moisture in the air and from corrosion. AGC paper Manufacturers may void a warranty if equipment is not stored properly, and many builder’s risk policies do not treat a voided warranty as direct physical damage.

Some newer policies cover that risk. Zurich’s Data Center Project Guard covers damage caused when temporary climate control systems fail during construction, such as condensation on sensitive equipment. Zurich AXA XL asks for a water intrusion management plan with each builder’s risk submission. AXA XL states that water damage has been the leading cause of loss for the construction industry, other than natural disasters, for decades. AXA XL submission guide Because AI data centers rely on large water systems, a policy that broadly excludes water damage should be reviewed closely. 7x24 Exchange magazine

How are flood, earthquake and named windstorm handled?

The ISO special form excludes flood, surface water, waves, tides and storm surge, whether or not driven by wind. The form also excludes earth movement, including earthquake. Both exclusions include anti concurrent causation language. A fire or explosion that follows an earthquake or a flood is still covered. ISO special form

Owners can add flood and earthquake coverage back by endorsement, often with a sublimit. ISO special form, Swiss Re DSU guide A sublimit is a smaller limit within the main policy limit that applies to one cause of loss. Allianz cites an assessment finding that about 79% of global data center capacity is located in areas with elevated exposure to acute natural hazards, including flooding, tropical cyclones and wildfires. Allianz report

Swiss Re estimates that over 40% of US capacity may be located in zones of significant to very high tornado risk. More than a quarter may be located where large hail falls three or more days a year. Swiss Re sigma In one Allianz case study, hail and wind damaged 60 chillers, each with a replacement cost of $360,000. Allianz report

What a flood sublimit caps

A flood sublimit can limit more than physical damage. In a Delaware case after Superstorm Sandy, a New York office building in a 100 year flood zone had a $25 million flood sublimit. Almah decision The court held that the flood sublimit also limited time element losses, such as lost rent, because the policy said its limits applied to the total loss, including time element loss. Other coverages, such as debris removal, had to be addressed one by one, and some could fall under their own sublimits instead. Almah decision

When flood and named windstorm overlap

A named windstorm is a storm that a weather authority has named. Many policies give named windstorm its own limit and deductible. Whether a loss falls under the named windstorm coverage or the flood coverage can change the recovery by hundreds of millions of dollars.

After Superstorm Sandy, New Jersey Transit had $400 million of named windstorm coverage and a $100 million flood sublimit. The named windstorm definition expressly included storm surge and flood associated with a named storm, while the flood definition did not mention storm surge. A New Jersey appeals court applied the more specific named windstorm wording, so the larger limit applied. Law firm analysis

What fire protection conditions can remove fire coverage?

A protective safeguards endorsement can remove fire coverage entirely if the listed sprinklers, alarms or services are not kept working. The ISO form CP 04 11 makes it a condition of the insurance that the insured keep the listed safeguards under its control in complete working order. The insured must also keep any listed automatic system turned on and notify the insurer of any impairment it knows about. ISO safeguards endorsement If the insured fails any of these duties before a fire, the insurer does not pay for the fire loss.

The form has one narrow exception. If part of a sprinkler system is shut off because of breakage, leakage, freezing or opened sprinkler heads, no notice is required if full protection is restored within 48 hours. ISO safeguards endorsement ISO added the requirement to keep systems turned on in 2017, after policyholders argued that an alarm that was not turned on was not impaired. IRMI on safeguards

How courts read the safeguards condition

Courts have reached different results under the condition.

• Against the owner. An Illinois court denied coverage after a plant capped between 3 and 19 of its more than 600 sprinkler heads near a hot oven. A federal court in Pennsylvania denied coverage where the owner of a vacant warehouse shut off the sprinklers after leaks. IRMI on safeguards
• No causal link required. A federal court in New Jersey held that the insurer did not have to show that the missing safeguard caused the fire. IRMI on safeguards
• For the owner. Courts found the undefined word maintain ambiguous in two cases, one involving frozen pipes and one involving a closed valve in a leased building the owner could not enter. A federal appeals court held that an owner was not at fault when an arsonist shut off the sprinklers. IRMI on safeguards

In a case decided by New York’s highest court, the owner of vacant commercial buildings had a safeguards endorsement that required an automatic sprinkler system. About a month after the policy began, the insurer’s inspector found no working system, and a fire occurred months later. The jury found that the owner had not proved due diligence in maintaining a working sprinkler system. Seneca Insurance decision

The owner testified that he had told his broker he did not want the sprinkler condition, but he admitted he never read the policy. The court did not allow him to change the terms of the policy, because his claim was brought too late. Seneca Insurance decision

Why the wording matters for gas suppression systems

AI data centers often protect server rooms with clean agent systems, which put out fire with a gas instead of water. A safeguards condition that requires sprinklers by name could lead to a dispute over a gas system, and wording that requires a fire suppression system is less likely to. 7x24 Exchange magazine The ISO form’s sprinkler category is broad, because it includes any automatic fire protective or extinguishing system. ISO safeguards endorsement

Suppression systems carry their own risks. Allianz warns that dust, condensation or construction debris can cause aspirating smoke detectors, which are designed to detect microscopic particles, to trigger an unnecessary gas release. Allianz recommends a double knock design, in which two separate sensors must detect smoke before the system discharges. Allianz report

Engineering standards are also becoming stricter. FM’s 2026 guidance raised the recommended fire rating of walls from one hour to two hours and set stricter sprinkler expectations. Swiss Re sigma An IRMI commentary notes that when a safeguards endorsement is added only to earn a rate credit, the premium saved may not justify the coverage risk. IRMI on safeguards

How are lithium ion batteries treated?

Lithium ion batteries are now a major fire risk in AI data centers. Swiss Re reports that battery backup units are now built into server racks. The batteries add an ignition source that server rooms did not have before. Swiss Re sigma

The main danger is thermal runaway, a self sustaining, very hot fire in a damaged battery cell. A damaged cell can remain dormant for days or weeks before it fails. Allianz report In 2025, a battery explosion was believed to have started a fire at a state computing facility in South Korea. About 600 servers were shut down while firefighters removed around 400 battery packs.

Insurers often require proof of battery risk planning. Starr, an insurer, says most property and builder’s risk policies for large, complex data center projects require documented planning for battery storage risk before coverage begins. Starr Marsh, a broker, says fire codes have not kept pace with lithium ion technology and that many underwriters remain cautious about battery storage risk. Marsh

Some exclusions are written broadly. One specimen homeowners endorsement excludes any loss caused by, contributed to by, or in any way related to a lithium battery, regardless of any other cause. The endorsement expressly includes thermal runaway and improper charging or storage. Specimen battery exclusion That form is written for homes, not commercial buildings, but it shows the kind of wording to look for at each renewal.

Battery fires also raise pollution issues. Gallagher notes that battery fires can release toxic gas and contaminated runoff, and that standard general liability policies often provide limited pollution coverage. Gallagher report My guide to hazardous materials and battery storage rules covers the fire code requirements.

What cyber and AI exclusions do property policies carry?

Many property policies written in the Lloyd’s market now include cyber and data clauses that can apply to almost any loss involving a computer. In an AI data center, nearly every valuable asset is a computer, so these clauses should be read closely.

The Lloyd’s cyber and data clauses

The Lloyd’s Market Association published two property clauses in November 2019. LMA analysis LMA5401 excludes any loss connected with a cyber act or a cyber incident, regardless of any other cause. LMA5401 also excludes the loss of use, repair, replacement or value of data. LMA5401 exclusion

A cyber act is an unauthorized, malicious or criminal act involving a computer system. A cyber incident is an error or omission involving a computer system, or the full or partial unavailability or failure of a computer system. A computer system includes any computer, hardware, software, electronic device, server or cloud, whether the owner or anyone else operates it.

LMA5400 is the narrower exclusion of the two. LMA5400 restores coverage for physical damage from a fire or explosion that directly results from a cyber incident, unless a cyber act was involved. LMA5400 endorsement LMA5400 also pays to repair or replace damaged data storage media and to restore data from backups, but it never pays for the value of the data itself.

One analysis points out that the fire carve back in LMA5400 covers only physical damage, so business interruption after the fire remains excluded. LMA analysis The analysis also notes that because the clause treats any electronic device as a computer system, the unavailability of almost any device can fall within the exclusion.

The ISO special form also excludes some computer losses. Its utility services exclusion applies to communication services, including internet access. ISO special form Swiss Re notes that power, cooling, security and monitoring systems are increasingly connected to the internet, which creates new cyber vulnerabilities. Swiss Re sigma A separate cyber policy is the usual way to cover these gaps. My guide to operational insurance for AI data centers covers the property, cyber and liability policies that apply once the site is operating.

Generative AI exclusions on the liability side

The new generative AI exclusions appear mainly in liability policies, not property policies. ISO’s form CG 40 47 became available for insurers to attach to general liability policies as of January 1, 2026. CG 40 47 guide CG 40 47 removes coverage for bodily injury, property damage, and personal and advertising injury arising from generative AI. Two companion forms are narrower. CG 40 48 applies only to personal and advertising injury, and CG 35 08 applies to the products and completed operations hazard. These forms apply to claims made by others, not to damage to the owner’s own building.

How do these exclusions shape delay in start up coverage?

Delay in start up insurance pays the owner’s lost income and certain costs when a project opens late. It pays only when the delay is caused by physical damage from a peril insured under the main policy during the policy period. Swiss Re DSU guide As a result, every exclusion in the main policy also defeats a delay claim. A delay caused by a design flaw with no physical damage, or by a lack of funds, is not covered.

Gallagher reports that a delay can cost a developer up to $2 million a day in lost revenue. Gallagher also reports that nine out of ten such projects run late, with an average overrun of 34%. Gallagher report CRC says traditional property forms may not adequately address delay in start up exposure for these projects. CRC Group

Swiss Re’s guide to delay in start up coverage lists its common limits.

• Catastrophe perils. Standard delay coverage often excludes earthquake and similar perils, as well as extensions added to the main policy by endorsement. Coverage for these perils can be added back, often with a sublimit shared by the physical damage and delay coverages.
• One waiting period. The deductible is a period of time, often 30 to 90 days, and it applies once to the entire delay.
• Special exclusions. Delays caused by a lack of funds for prompt repairs, by improvements, or by fixing defects after an event are excluded, as are liquidated damages and fines.
• Progress reports. The owner must report on progress regularly, and a schedule change can require a new agreed start date.

Swiss Re DSU guide

The University of California’s risk office says a 30 day deductible is standard for large projects. UC risk services Costs outside the policy’s grant of coverage are not covered just because no exclusion names them. In the Washington shoring collapse case, soft costs such as loan interest and taxes were covered only under an extra expense endorsement with a $1 million limit. The main policy covered only physical loss, so it did not need to exclude those costs. Vision One decision

When a covered delay and an uncovered delay overlap

Delays often have more than one cause, and Swiss Re explains how the covered part is measured.

1. An uninsured defect is found, and another unit suffers insured physical damage at about the same time. If both take the same time to fix, nothing is paid, because the defect alone would have caused the same delay.
2. If the insured repair takes longer than fixing the defect, the delay coverage pays only for the extra time.
3. If insured damage on the critical path occurs first and an uninsured defect is found later, the full repair time for the insured damage counts. The time to fix the defect does not.

Swiss Re DSU guide

Swiss Re says delay coverage ends when the facility is handed over, taken over, or put into operation and able to earn revenue. For projects handed over in phases, the coverage should give each unit its own start date and its own share of the limit. Swiss Re DSU guide

How do owners and contractors buy back coverage?

Each party covers the gaps that fall on it. The owner buys the delay coverage and the coverage for the operating facility. The contractor covers the gaps that builder’s risk leaves for the contractor’s own tools, work and design.

Owners

Delay in start up coverage protects the owner, because only the owner earns the revenue that a delayed project would have produced. Swiss Re explains that contractors cannot be named insureds on the delay coverage. Swiss Re DSU guide AXA XL suggests that the owner and the contractor review the delay endorsement together and ask the underwriter to draft it. AXA XL also asks for a breakdown of soft costs and a revenue forecast. AXA XL submission guide

Owners also choose the defects clause, the flood and earthquake sublimits, equipment breakdown coverage and a cyber policy. They should review the safeguards endorsement and any battery or cyber wording at each renewal.

Contractors

Contractors face gaps that the builder’s risk policy leaves open. Builder’s risk usually covers the permanent works but not the contractor’s own tools and temporary equipment. Builder’s risk also usually excludes damage that ongoing work causes to existing or already operating parts of the site, and it excludes contract penalties for late delivery, such as liquidated damages. AGC paper

Design errors raise a separate issue. A contractor that takes on design work, or delegates it, carries risk that builder’s risk and general liability insurance will not cover. If a cooling system fails to meet its contract specification and nothing is physically damaged, only professional liability insurance could respond. AGC paper

After a loss, the records kept on site affect how much is recovered. One AGC paper recommends tracking the cost of fixing faulty work separately from the cost of repairing ensuing damage, so that the covered portion is easy to prove. AGC paper on ensuing loss My guide to key terms in an AI data center construction contract explains how the contract assigns these insurance duties.

Key takeaways

• An all risk builder’s risk or property policy covers only what it does not exclude, and builder’s risk wording varies widely between insurers, so the exclusions deserve as much attention as the limits.
• The cost of fixing defective work is usually excluded. The defects clause determines how much of the resulting damage is covered. LEG 1 covers almost none of it, and LEG 3 covers the damaged part and excludes only the cost of improvements.
• US courts have not settled the meaning of LEG 3. Two federal trial courts read it against the insurer in 2023 and 2024, and the meaning of the word improve is still disputed.
• Ensuing loss wording restores coverage for damage from a covered cause that follows a defect. Courts disagree about whether that cause must be separate and unforeseeable, so the governing state’s law can decide a cooling leak claim.
• Wear and tear, latent defects, mechanical breakdown and arcing are excluded under the standard form. Equipment breakdown coverage pays for loss caused by the breakdown of covered equipment, and a breakdown exclusion can apply to a design flaw.
• Power failures that begin off site are excluded, even partial ones, and damage that naturally follows may also be excluded. Utility interruption coverage is one option.
• Accidental leaks are usually covered as water damage, but leaks of 14 days or more, flood and the cost of fixing the leaking part are not. Leak detection matters for both safety and coverage.
• A flood sublimit can also limit time element losses, and the definitions of named windstorm and flood can change the recovery by large amounts.
• A protective safeguards endorsement can remove fire coverage if sprinklers, alarms or gas systems are not kept working and turned on. Some courts do not require any link between the failure and the fire.
• Delay in start up coverage follows the main policy. A delay without insured physical damage is not covered, and overlapping uninsured delays reduce the payment.
• The Lloyd’s cyber and data clauses can exclude losses connected with almost any electronic device, and a separate cyber policy is the usual way to cover that gap.

Frequently asked questions

Q:Does builder’s risk insurance cover water damage at an AI data center under construction?

A:Usually yes for accidental leaks, but not for every water loss. Under the ISO special form, water damage from an accidental leak caused by the breaking or cracking of a pipe or appliance that holds water is covered. The form excludes leaks lasting 14 days or more, flood, and the cost of fixing the part that leaked. ISO special form Builder’s risk policies may also exclude damage to stored equipment from damp air and corrosion, and some do not treat a voided warranty as physical damage. AGC paper

Q:Is flood covered under an AI data center property policy?

A:Not under the standard form, which excludes flood, surface water and storm surge with anti concurrent causation language. ISO special form Owners can add flood coverage back with a sublimit. A flood sublimit can limit lost income as well as physical damage, as a Delaware court held after Superstorm Sandy. Almah decision Fire that follows a flood is still covered under the standard form.

Q:Does insurance cover wear and tear or faulty design at an AI data center?

A:Not directly. The standard form excludes wear and tear, latent defects and mechanical breakdown, and it excludes faulty design and workmanship. ISO special form Damage that results from these causes, such as a fire or water damage, can still be covered. ISO special form Equipment breakdown insurance covers loss caused by the breakdown of covered equipment. ISO equipment breakdown overview A design flaw can also fall within a machinery breakdown exclusion, as the Washington Supreme Court held in a case about a tunnel boring machine. Mealey’s report

Q:What is the difference between LEG 2 and LEG 3?

A:LEG 2 excludes what it would have cost to fix the defect before the damage occurred. LEG 3 covers the damaged defective part and excludes only the cost of improving the original design, plan, specification, workmanship or materials. IRMI on LEG 3 LEG 3 provides broader coverage and usually carries a larger deductible. Some policies let the insured choose between clauses after a loss. Price Forbes guide

Q:Can a sprinkler problem remove fire coverage?

A:Yes, if the policy has a protective safeguards endorsement. The ISO form excludes a fire loss if, before the fire, the insured failed to keep the listed safeguards under its control working, or failed to keep a listed automatic system turned on. The exclusion also applies if the insured failed to report an impairment it knew about. ISO safeguards endorsement An Illinois court denied coverage after a few of more than 600 sprinkler heads were capped. A federal court in New Jersey held that the insurer did not have to show that the failure caused the fire. IRMI on safeguards

Q:Are lithium ion battery fires covered?

A:Fire is a covered cause of loss under the standard form. ISO special form Insurers now place conditions on battery risk, however. Starr says most property and builder’s risk policies for large, complex data center projects require documented planning for battery storage risk before coverage begins. Starr Some forms exclude battery losses entirely, as one specimen homeowners endorsement shows. Specimen battery exclusion Each renewal should be checked for new battery wording.

Q:Does a property policy cover a cyber attack that damages equipment?

A:Often not, if the policy includes a Lloyd’s cyber and data clause. LMA5401 excludes any loss connected with a cyber act or cyber incident. LMA5401 exclusion LMA5400 restores coverage for physical damage from a fire or explosion caused by a cyber incident, but not when a cyber act was involved. LMA5400 endorsement A separate cyber policy usually covers that gap.

Q:Does delay in start up insurance pay if testing reveals a design flaw?

A:No, unless the flaw caused physical damage from an insured peril. The University of California’s risk office gives the example of an electrical design flaw found during commissioning. Because nothing was physically damaged, the delay coverage did not apply. UC risk services Delay policies also commonly exclude delays caused by fixing defects or by improvements. Swiss Re DSU guide

Q:How do builder’s risk programs for AI data centers compare on specialized equipment and water damage?

A:Some programs built for data centers address climate control, transit and the handover to operations. Zurich’s Data Center Project Guard covers failure of temporary climate control systems during construction and extends transit and offsite limits, and it offers up to 12 months of operational property coverage. Zurich Lockton’s program addresses the gap between construction and operations, with more than $6 billion of builder’s risk capacity. Lockton Servers are often insured later under a separate policy rather than under the construction policy. Munich Re