Hurricane Season Highlights Need for Co-Insurance

MIAMI—Hurricane season is in full swing. That means now is the time for commercial real estate owners to make sure they are in compliance. 

Most commercial real estate insurance policies require owners to carry insurance of at least 80% of the property’s value or risk penalties. That may seem like an easy task on the surface, but it can be complex given property value fluctuations—especially in South Florida.

GlobeSt.com caught up with Philippe Lieberman, a founding member of the law firm Kluger Kaplan in Miami, who has represented a number of property owners in dispute with their insurance carriers. Lieberman recommends commercial real estate owners err on the side of caution when assessing the value of their properties. We caught up with him to discuss what commercial real estate owners should know about their insurance before the damage happens.

GlobeSt.com: What is co-insurance?

Lieberman: Co-insurance is a clause of many insurance policies that requires the insured to share part of the loss, if the insured does not carry the appropriate amount of insurance for the property at issue. Most co-insurance clauses require the insured to purchase insurance equal to 80%, 90%, or 100% of the property value. If the insured fails to carry the right amount of insurance at the time of loss, the insured will be forced to participate in the loss or “co-insure.”

For example, if the insurance policy has an 80% co-insurance provision, the insured must value and insure the property for at least 80% of its value. If the insured fails to do so and the actual value of the property is higher, the insurance company will reduce the payout by the percentage of underinsurance, minus deductibles. To use numbers, if an insured declares the value of the property to be $100,000 and agrees to insure 80% of the value, the insured must insure the property for at least $80,000.  

Assume he insured obtains the policy with a limit of insurance for the $80,000 and suffers a loss occurs for $50,000. When the insurance company appraises the property after the loss, it is discovered that the actual value should have been reported at $200,000. Therefore, with an 80% co-insurance provision, the insured should have carried 80% of the $200,000 or $160,000 in insurance. Since the insured only carried $80,000 in insurance (or 50% of the required insurance), the insurance company will only pay 50% of the loss, or $25,000 in our example, minus deductibles.  

GlobeSt.com: Is co-insurance required to protect a commercial property from storm damage?
 
Lieberman: Co-insurance is usually a requirement imposed by the insurance company to make sure the insured carries adequate insurance, and properly values the property at issue, which is one factor used by insurance companies to set their premiums. Insurance companies will issue insurance without coinsurance provisions, but usually at higher rates.

GlobeSt.com: In a time where property values are rising post-recession, what types of issues might a property owner face?

Lieberman: Whether the insured will suffer a co-insurance penalty depends on whether they have carried sufficient insurance. If property values are rising fast, what was thought to be sufficient insurance when the policy was purchased may turn out not to be correct at the time of loss. Since most policies are for one year, it is a good idea to review property values on a yearly basis each time a new policy is issued or old policy renewed.

GlobeSt.com: In what situations would it make sense to contract out of co-insurance?

Lieberman: If the insured is nervous about fast rising property values and is willing to pay the typically higher premiums, then the insured may want to look into purchasing a policy without a co-insurance clause. Otherwise, the insured should review values at least yearly to make sure they are adequately insured.

GlobeSt.com: What are the penalties or risks associated with undervaluing a property?

Lieberman: If the insured does not carry the required amount of insurance, they will have to share in the loss and will not recover for the full amount of the loss from the insurance company. In this vein, it is critical that property owners carefully assess the value of their property and insure it accordingly. While undervaluing a property might save money at the outset by way of lower premiums, it could prove to be far more costly should damage ensue.

GlobeSt.com: Does it make financial sense to invest in a professional property appraisal for insurance purposes?

Lieberman: Whether to get a formal appraisal is a personal choice and business decision.  Appraisals cost money. If insuring a multi-million dollar building or multiple properties, it would probably make sense to spend money on an appraisal. If insuring a small single property, the insured may not want to spend the money on a formal appraisal.