Understanding coinsurance clauses for commercial property policies is of utmost importance in order to avoid disputes and distribute risk equitably while discouraging underinsurance.
Insurance policies typically mandate insureds carry property coverage at a specific percentage, usually 80% of replacement value, yet this provision is often misunderstood.
Coinsurance is a form of underwriting
Property coinsurance clauses are an increasingly common provision in commercial and business personal property policies, encouraging policyholders to insure their properties for full value. They differ from co-pays on health policies, which charge flat fees every time you make a claim; instead, coinsurance clauses work differently using an insured-to-value strategy.
Coinsurance should be understood in order to maximize its potential, yet many are misinformed and use incorrect terminology. Coinsurance itself is misnomer; policy holders don’t share risk with insurers but are simply being penalized for not insuring their property at an adequate level of coverage.
Coinsurance clauses mandate that policy holders insure at least some percentage of their property’s value to avoid penalties from insurers, typically an agreed upon percentage ranging from rebuild or replacement value (or cash value calculation), up to 100% depending on which provider has issued them; failure to adhere will incur penalties in the event of a loss.
At the time of a claim, an insurance company will compare an insured’s limit of coverage against what would be required under their coinsurance clause. If it exceeds this minimum amount, they will receive a larger claim settlement; otherwise, their claim settlement will be reduced accordingly by that percentage amount.
Many agents and adjusters refer to this reduction as a “coinsurance penalty.” While this term may seem accurate, the term itself is incorrect as the reduction results from not insuring to a desired percentage of value and promotes rate equity across policyholders in one class. By informing your clients about its meaning and purpose, you can help them select higher insured limits while simultaneously informing them about inflation’s effects on building and contents limits, prompting them to review these amounts annually.
It encourages policyholders to insure their property to value
When owning property for business use, it is imperative that it is insured fully in order to recover losses in case of damage and to avoid underinsuring. Property insurance contracts between policyholders and insurers should be read and understood fully in order to make informed decisions about coverage levels; coinsurance clauses encourage policyholders to purchase adequate amounts by imposing penalties if insufficient coverage is purchased; without such penalties in place, many policyholders could try saving money by insuring only part of their actual value and thus put their businesses at risk – potentially jeopardizing or even damaging their businesses! Coinsurance clauses encourage policyholders by encouraging adequate amounts being purchased; without this clause in place many would try saving money by only insuring part of its actual value, leaving themselves vulnerable and possibly put their businesses exposed due to inadequate protection from large losses being covered properly by adequate insurance cover leaving large losses not being covered adequately and put their businesses exposed thereby leaving themselves vulnerable and therefore vulnerable!
Most commercial property policies contain provisions for coinsurance on Building and Personal Property coverages, with penalties applied when an insured’s limit falls below a specified percentage of actual replacement cost. As these penalties can be substantial, it is vitally important that records and documentation of compliance with coinsurance requirements is kept.
Most coinsurance clauses require policyholders to maintain limits at least equal to 80%, 90%, or 100% of their property’s replacement value – typically between 80%-90% of it. Most insurers provide an estimate chart showing how much of your property’s actual replacement value must be insured against.
If the policyholder’s limit of insurance falls short of what’s required by their coinsurance clause, their insurer will deduct a percentage of loss from claim payout. If it’s catastrophic in nature, this could mean substantial claim deductions.
Ideal, property should be insured to its estimated replacement value; your insurer will then offer you a premium discount. Unfortunately, this can be challenging due to difficulty in ascertaining an exact replacement value of property. Furthermore, policy limits must be updated annually in order to account for inflation.
It helps prevent disputes
Many property insurance policies contain a coinsurance clause that requires customers to insure their buildings or equipment at a minimum percentage of actual replacement cost or actual cash value, to encourage policy holders to insure it at its actual market or depreciated value and avoid disputes when losses occur; it also ensures full payment when claims arise under their policy.
Customers who opt to underinsure their property must pay a coinsurance penalty when underinsuring below required levels, known as coinsurance penalties. To avoid this liability, customers should always follow policy requirements; an effective way of doing this may be hiring a public adjuster to inspect and assess buildings as well as personal properties on an annual basis.
One example of coinsurance dispute would be when a customer purchases a $25,000 Inland Marine limit on music equipment that has an estimated replacement cost of $160,000 and its replacement costs total $160k or less. Under coinsurance clauses, however, the property should be insured at least 80% of its value or $160k minimum; when losses occur, insurers compare policy limit with actual replacement cost to determine if claims have been compensated at an adequate rate.
Coinsurance penalties (which can be substantial) will then be applied to claims exceeding policy limits, depending on which policy it is applied under. Furthermore, the insurer may specify if their deductible should be applied before or after coinsurance penalties; this may cause confusion for their insured if unfamiliar with their policy’s terminology.
Property coinsurance provisions can often be misunderstood by policyholders, yet this clause is essential in creating a comprehensive property insurance policy. Coinsurance helps prevent disputes by spreading risk equitably and discouraging underinsurance; thus it’s crucial for policyholders to understand how a coinsurance provision works and adhere to its terms to avoid experiencing serious financial implications should a loss occur.
It discourages underinsurance
As property owners may opt to purchase lower coverage limits in order to save on premiums, this practice can have serious repercussions if there is an incident requiring coverage. Not only will the insured not receive full replacement value of their property; additionally they will incur a coinsurance penalty, which reduces claim payments by an amount equal to the difference between actual coverage and policy value. As Chantal Roberts wrote for Adjusting Today, property owners should always abide by their coinsurance clause in their policy.
Insurance companies utilize coinsurance clauses as a tool to encourage their customers to purchase enough coverage in order to protect their assets. Insurance is built around risk, so having enough protection ensures equitable ratings across the industry – with those underinsured penalized accordingly.
Commercial property policies usually specify a coinsurance requirement of either 80% or 90% for buildings and personal property owned by businesses, calculated using an insurance company-determined formula upon policy purchase and then utilized when losses occur to determine claim payout.
Problematic with this method is that when an incident does arise, a policyholder could be underinsured and unaware until after filing their loss report. To mitigate this risk for insurance companies and protect policyholders alike, policyholders can negotiate with their insurance provider prior to purchasing insurance and agree on an agreed value for the property; typically this value will be less than replacement cost but eliminate potential coinsurance clause issues when filing claims.
Although many insurance agents and adjusters refer to this reduction as a penalty, it’s actually part of a policy provision designed to promote rate equity among all insureds in that class. While your policy doesn’t specifically state this wording as such, we advise against calling it that either.