‘Coinsurance’ in a Property Insurance Policy can be Problematic

In the unfortunate event of a property loss, you may learn a lesson about coinsurance. As we all know, lessons in business can be expensive, so take heed to this one and save yourself some heartache.

Insurers realize that the likelihood of an insured incurring a total property loss is small as compared to the chance that a property claim will involve only a partial loss. Therefore, insurers can collect premium based on the total exposure involved, they long ago introduced the coinsurance provision into property policies. Although the coinsurance percentage can vary, you may typically see coinsurance provisions mandating that you insure 80%, 90% or 100% of the total value of your property.

Remember that the value of insured property, for the purposes of the coinsurance provision, is computed at the time of loss, not at the time the insurance policy was purchased or renewed. In the event of a partial, covered property loss, the insurer will apply, in simple terms, the following formula to the claim for property damage:

DID/SHOULD x LOSS – DEDUCTIBLE = CLAIM PAYMENT

A) Where DID is the amount of insurance that you DID carry.

B) Where SHOULD is the amount of insurance that you SHOULD have carried to comply with the coinsurance provision of your insurance policy.

C) Where LOSS is the amount of damage incurred to your property.

For example, assume that you insured a commercial building for $1,000,000 with a 90% coinsurance provision. Six months into the policy term, you incurred a fire loss that caused $100,000 of damage to the building. At the time of loss, the adjuster computed the coinsurance formula and determined that your building, at replacement cost, would cost $1,500,000 to rebuild. Therefore, at 90% coinsurance, you should have insured the building for $1,500,000 x 90% = $1,350,000. Let’s apply the coinsurance formula to this scenario and assume that there is a $1,000 deductible:

$1,000,000 (DID) divided by $1,350,000 (SHOULD) = .74

$100,000 (LOSS) x .74 = $74,000 – $1,000 (DEDUCTIBLE) = $73,000 (CLAIM PAYMENT)

Because the insured did not properly insurer to value, a coinsurance penalty was inflicted on this loss. To avoid this problem, regularly review your property values to make sure that you are properly insured to value. Your insurer may offer an “Agreed Value” endorsement. This can effectively negate the effect of the coinsurance provision. Note that RISCO can assist you with insurance to value computations.

RISCO can also provide engineer based COST SEGREGATION STUDIES. Cost Segregation studies can allow you to accelerate your depreciation schedule. If you qualify, the financial benefit can be tremendous. Contact me for details.

Kindest regards,

Richard Michelson, CIC, CRM/Licensed Public Adjuster
RISCO, Inc. – Risk & Insurance Services Company

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