By: Derick Stitik – Property Practice Leader
When your clients purchase a commercial property insurance policy, it’s important to determine how much the property is worth. This ensures that they get the right coverage amount – but it’s not a one-and-done task. The value of a property is far from static. As it changes, the insurance coverage also needs to be adjusted. And while updating the value may seem like a minor headache, if your clients fail to update the value accurately, major headaches may follow.
Property values tend to increase over time. In some highly coveted areas, this increase may occur rapidly. It’s also possible for property values to decrease in an area. Insurance limits should reflect these changes.
In addition to the value of the property itself, it’s also important to look at the cost of construction. Some insurance policies are written on actual cash value (ACV), but others use the replacement cost. Local increases in repair costs can have a significant impact on this value.
This is especially true after a major disaster. In its analysis of factors that contributed to a prolonged recovery after California wildfires, Insurance Journal names both underinsurance and demand surge, which can increase construction costs by 15 to 30%. This is another reason not to be underinsured.
Your clients might not give much thought to their insurance limits – until they need to file a claim.
Inaccurate property values hurt both the insurance carrier and the insurance client. Carriers have paid out substantially more in claims than the actuarial models have shown due to insurance schedules not being updated properly. This makes it difficult for carriers to maintain accurate underwriting practices.
Clients can suffer, too. If a property is destroyed and there’s not enough insurance to cover the replacement cost, the insured takes the loss. Underinsurance isn’t only a problem after a total loss, however. Insurance policies often include a coinsurance clause. These clauses are designed to encourage policyholders to purchase sufficient coverage, and to do this, they penalize insurance clients who have too little insurance.
For example, let’s say a coinsurance clause requires a property to be insured at a minimum of 80% of its value. (The actual level of insurance required can vary.) On a $1 million property, the insurance policy must have a limit of at least $800,000 to meet this requirement. If the insured does not meet this requirement and files a claim, the coinsurance penalty will apply to the claim payment, even if the claim amount is less than the insurance limit.
Because property values can change rapidly and regionally, renewal values are not always accurate. Every schedule should be updated annually to reflect any increases or decreases in value. When doing this, use Marshall & Swift Valuation Service or a similar program.
Educate your clients and doublecheck to ensure that their commercial properties are sufficiently insured. In event of a catastrophic claim, both you and your clients will be glad you took this extra precaution.