Learning Outcomes
By the end of this article, you will be able to explain when risk in a property passes from seller to buyer, identify the insurance obligations of both parties at exchange, and advise on the effect of contract terms that alter the standard risk position. You will also understand the solicitor’s duties in advising clients about insurance and risk, and apply these principles to SQE1-style scenarios.
SQE1 Syllabus
For SQE1, you are required to understand the legal and practical implications of insurance and risk in property transactions, especially at the point of exchange of contracts. Focus your revision on:
- The standard rule for passing of risk at exchange of contracts in property sales.
- The buyer’s and seller’s insurance obligations between exchange and completion.
- The effect of special contract terms that alter the standard risk position.
- The solicitor’s duty to advise clients about insurance and risk.
- The consequences of failing to insure and the remedies available.
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
- When does risk in a freehold property usually pass from seller to buyer in a standard residential transaction?
- What is the buyer’s main insurance obligation after exchange of contracts?
- How can the standard rule for passing of risk be changed in a property contract?
- What is the solicitor’s duty regarding insurance advice at exchange of contracts?
Introduction
The exchange of contracts is a critical point in a property transaction. It is the moment when the parties become legally bound to complete the sale or purchase. At this stage, the allocation of risk and the need for insurance become highly significant. Understanding who bears the risk of loss or damage to the property, and what insurance arrangements must be in place, is essential for both legal compliance and client protection.
Passing of Risk at Exchange
In most property transactions, the risk of loss or damage to the property passes from the seller to the buyer at the moment contracts are exchanged.
Key Term: passing of risk
The legal moment when responsibility for accidental loss or damage to the property shifts from the seller to the buyer.
This means that if the property is damaged or destroyed after exchange but before completion, the buyer must still complete the purchase at the agreed price, unless the contract provides otherwise.
Standard Contractual Position
The Standard Conditions of Sale (SCs) and the Standard Commercial Property Conditions (SCPCs) both state that the property is at the buyer’s risk from the date of the contract (i.e., exchange). The seller is under no obligation to insure the property unless the contract or a lease requires it.
Key Term: Standard Conditions of Sale
A set of pre-printed contract terms commonly used in residential property transactions, setting out default rules for matters such as risk and insurance.
Effect of Passing of Risk
Once risk has passed, the buyer is responsible for any accidental loss or damage to the property, even though they do not yet have legal title or physical possession. The buyer must therefore ensure that suitable buildings insurance is in place from the moment of exchange.
Key Term: buildings insurance
A policy that covers the cost of repairing or rebuilding the physical structure of the property if it is damaged or destroyed.
Worked Example 1.1
Contracts are exchanged for the sale of a house. The next day, a fire destroys the property. Who bears the loss?
Answer: The buyer bears the loss. They must still complete the purchase and pay the full price, even though the property has been destroyed, unless the contract states otherwise.
Insurance Obligations After Exchange
Buyer’s Duties
The buyer must arrange for buildings insurance to take effect from exchange. This is usually a requirement of any mortgage lender and is essential to protect the buyer’s equitable interest in the property.
Key Term: equitable interest
The buyer’s beneficial interest in the property that arises at exchange of contracts, before legal title is transferred at completion.
The insurance policy should cover the full reinstatement value of the property and meet any lender requirements.
Seller’s Duties
The seller is not required to insure the property after exchange unless the contract or a lease says otherwise. However, in practice, sellers often maintain their existing insurance until completion to protect their own interests in case the sale does not proceed.
Dual Insurance
Sometimes, both the seller and the buyer may have insurance in place between exchange and completion. This is known as dual insurance.
Key Term: dual insurance
The situation where two separate insurance policies cover the same property for the same risk at the same time.
If a claim arises, insurers may share liability, but the buyer should not rely on the seller’s insurance for protection.
Special Contract Terms Altering Risk
The standard rule that risk passes to the buyer at exchange can be changed by agreement. The contract may include a special condition stating that risk remains with the seller until completion.
Key Term: special condition
A contract clause that overrides or supplements the standard conditions, tailored to the specific transaction.
This is more common in new-build or incomplete properties, where the seller is better placed to insure the property until it is finished.
Worked Example 1.2
A contract for a new-build flat states: “Risk remains with the seller until completion.” A storm damages the property after exchange but before completion. Who bears the loss?
Answer: The seller bears the loss. The contract’s special condition overrides the standard rule, so the seller must repair the damage before completion.
Solicitor’s Duties Regarding Insurance and Risk
Solicitors must advise clients clearly about when risk passes and the need for insurance. This includes:
- Explaining that risk usually passes at exchange and the buyer must insure from that point.
- Checking that the contract does not contain special conditions altering the standard risk position.
- Advising the client to arrange insurance in line with lender requirements and for the correct reinstatement value.
- Ensuring that any contract variations are properly drafted and understood by the client.
Solicitors should also warn clients of the consequences of failing to insure, such as being required to complete the purchase even if the property is damaged.
Exam Warning
If a buyer fails to insure the property from exchange, they may have to pay for damage or destruction themselves and still be required to complete the purchase. Solicitors who do not advise clients about this risk may be liable for negligence.
Insurance and Risk in Leasehold Transactions
In leasehold sales, the obligation to insure may rest with the landlord or management company. The buyer should check who is responsible for insurance under the lease and ensure that cover is in place from exchange. If the lease requires the seller (as tenant) to insure, the seller must maintain the policy until completion and may need to assign the benefit to the buyer.
Remedies for Loss or Damage After Exchange
If the property is damaged after exchange and the buyer is at risk, the buyer cannot usually rescind the contract or claim a price reduction unless the contract allows it. The buyer’s only remedy is to claim on their insurance.
If the contract states that risk remains with the seller, the seller must repair the damage or may be liable to the buyer for breach of contract if they do not.
Key Point Checklist
This article has covered the following key knowledge points:
- The standard rule is that risk passes from seller to buyer at exchange of contracts.
- The buyer must insure the property from exchange, covering the full reinstatement value.
- The seller is not obliged to insure after exchange unless the contract or lease requires it.
- Special contract conditions can alter the standard risk position.
- Solicitors must advise clients about risk and insurance obligations at exchange.
- Remedies for loss or damage after exchange depend on who bears the risk under the contract.
Key Terms and Concepts
- passing of risk
- Standard Conditions of Sale
- buildings insurance
- equitable interest
- dual insurance
- special condition
