27 Jan Why bodies corporate need fidelity insurance for sectional title buildings

Fidelity insurance is a crucial safeguard for bodies corporate managing sectional title buildings in South Africa. It protects the financial health of the scheme and shields members from the potentially devastating consequences of theft or mismanagement of funds. Let’s look at why this type of insurance is essential, what it protects against, and the procedure to obtain it.

Why fidelity insurance is necessary

Sectional title schemes handle significant sums of money, including levies, maintenance funds, and reserve funds. These finances are essential for the upkeep of the property, ensuring its safety and value. Unfortunately, bodies corporate are not immune to the risk of financial misconduct or theft, whether by trustees, managing agents, or employees.

The Sectional Titles Schemes Management Act (STSMA) emphasises the importance of financial security, making fidelity insurance mandatory for bodies corporate. This legal requirement reflects the high stakes involved. A single incident of theft or fraud can destabilise a scheme’s finances, forcing members to contribute additional funds to cover shortfalls – a burden that could be avoided with adequate insurance.

What fidelity insurance protects against

Fidelity insurance primarily protects against the misappropriation of funds by individuals entrusted with managing a sectional title scheme’s finances. This includes:

1. Theft by trustees or managing agents: Trustees and managing agents have access to the body corporate’s accounts, making internal theft a critical concern.
2. Employee dishonesty: Employees who handle funds, such as bookkeepers or maintenance managers, may commit fraud.
3. External fraud schemes: Some policies may also cover theft arising from cyber crimes or fraudulent schemes targeting the body corporate.

By having fidelity insurance, the body corporate ensures that stolen or misappropriated funds can be recovered, preserving the scheme’s financial stability and avoiding potential conflicts among members.

How to obtain fidelity insurance

The process for securing fidelity insurance is straightforward but requires careful consideration to ensure adequate coverage:

1. Consult a specialist broker: Work with an insurance broker experienced in sectional title schemes to find a policy tailored to your needs. Brokers can assess the body corporate’s financial activities and risks to recommend suitable coverage.
2. Understand the legal minimum: The STSMA specifies a minimum coverage amount: the total value of the body corporate’s funds and reserves at any given time. Ensure the policy meets or exceeds this requirement.
3. Evaluate exclusions: Review the policy details carefully to understand any exclusions, such as limits on covering cyber crimes or specific types of fraud.
4. Submit documentation: Insurance providers typically require details about the body corporate’s financial management practices, including who has access to accounts and whether annual audits are conducted.
5. Maintain compliance: Once the policy is in place, the body corporate must continue adhering to sound financial practices, such as regular audits and transparent reporting, to maintain coverage.

While fidelity insurance is essential for protecting bodies corporate from financial mismanagement and theft, it has limitations. Understanding these shortcomings ensures that sectional title schemes take additional measures to safeguard their finances.

Failings of fidelity insurance

1. Limited coverage

Fidelity insurance covers theft or fraud committed by individuals entrusted with managing the body corporate’s funds, such as trustees, managing agents, or employees. However, it typically does not cover:

• Third-party theft: Theft by external parties not directly affiliated with the body corporate (e.g., contractors or vendors) may be excluded.
• Cyber crime: Unless specified, cyber-related theft, such as phishing or hacking, may not be covered. Some policies offer optional extensions, but these must be explicitly included.

2. Non-financial misconduct

Fidelity insurance does not address losses stemming from mismanagement, negligence, or incompetence that do not involve theft or fraud. For example:

• Poor financial decisions by trustees.
• Errors or omissions in budgeting or managing reserves.
• Unintentional accounting mistakes.

In such cases, the body corporate may need additional liability or errors and omissions insurance.

3. Delayed discovery

Most fidelity insurance policies require timely reporting of theft or fraud. Losses discovered long after the fact may not be covered, especially if they occurred before the policy was in place.

4. Policy exclusions and caps

• Exclusions: Policies often have exclusions for specific types of fraud or conditions under which claims can be rejected. For instance, losses arising from a lack of due diligence in hiring staff or appointing trustees might not be covered.
• Coverage limits: The policy will only compensate up to the insured amount. If the body corporate’s reserves exceed this limit, any uncovered balance becomes the members’ responsibility.

Costs beyond stolen funds

Fidelity insurance generally reimburses direct financial losses due to theft or fraud but does not cover indirect costs, such as:

• Legal expenses incurred while investigating or recovering stolen funds.
• Reputation damage or loss of trust within the scheme.

Mitigating the shortfalls

To address the limitations of fidelity insurance, bodies corporate should adopt complementary measures:

• Cybersecurity insurance: Protect against hacking, phishing, and other cyber-related threats.
• Directors’ and officers’ liability insurance: Cover errors, omissions, or poor decisions by trustees.
• Sound financial practices: Implement strict internal controls, such as dual signatories on accounts, regular audits, and transparent financial reporting.
• Fraud prevention training: Educate trustees, managing agents, and employees on identifying and preventing fraudulent activity.

Conclusion

Fidelity insurance is both a legal requirement and an essential safeguard for the financial health and trust of sectional title schemes, protecting members from financial loss caused by theft or fraud. However, it is not a comprehensive solution, as it has limitations that bodies corporate must understand. To ensure complete protection, they should consider additional coverage and implement robust internal controls. A proactive, holistic approach not only enhances financial stability but also fosters trust within the community. For tailored advice, consult an insurance provider experienced in sectional title schemes.