Coinsurance – Why do I need to insure my commercial building to its full replacement cost?

Coinsurance – Why do I need to insure my commercial building to its full replacement cost?

March 13, 2023
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Coinsurance is an often-misconstrued term in the world of insurance. In fact, there’s a totally different meaning depending on what insurance you are looking at! For the purposes of Commercial Property insurance, coinsurance is the policy clause that states policyholders must maintain a percentage of the property’s value to receive the appropriate claim payment.

Basically, this provision is included in most commercial property policies to warrant that the building is not underinsured. If the building is in fact underinsured at the time of claim, the policyholder could receive a coinsurance penalty that may result in a reduced claim settlement.

            The coinsurance clause is typically represented in a percentage of 80-90%. If a policy contains an 80% coinsurance clause, then the policyholder should purchase limits of at least 80% of the building’s actual replacement cost at the time of loss to avoid a penalty.

            For example, let’s say Jack purchases a building and gets a professional appraisal that deems his new property is worth $5,000,000. Upon closing, Jack also binds a Commercial Property insurance policy to protect his building from Wind, Fire, and other perils. Being unaware of the policy’s 90% coinsurance clause, Jack decides to only purchase $3,000,000 worth of building coverage to save money on premium. Unfortunately, a few months later, a hurricane with a friendly name rolls through the state and causes $200,000 of damage to Jack's building. To Jack’s horror and surprise, he finds out that he is on the hook for $66,666, plus his deductible! How did this happen? Well, Jack received a coinsurance penalty for not insuring his building to 90% of its replacement cost. To be in compliance with the coinsurance endorsement, Jack would have needed to purchase a coverage limit of $4,500,000 or 90% of the building's replacement cost. Instead, he purchased $3,000,000 which is only 60% of the replacement cost, which triggered the coinsurance penalty. Therefore, the insuring company only paid out 66% of the total loss, even though Jack purchased coverage that exceeded the claim amount, the penalty was still applied since he was 33% short of the coverage he should’ve purchased.

            Don’t be like Jack! Having a relationship with an educated professional in the insurance industry is the edge that every business owner needs. Give us a call at Galt Insurance Group now to prevent this scenario with your property.