Property Insurance Tricks & Tips
You may think, “At last, here are the secrets the insurance industry hides from us!” No, but you will find a number of tricks to make insurance work better. You’ll learn how to make the right choices when you buy your insurance.
Boundaries On Loss Payments
How do you determine value? For example, my old refrigerator just gets noisier and noisier. Now if there’s an electrical fire, will the insurance company pay me for the cost of a new one? Or will I be paid what the old clunker was worth at the time of loss?
The standard recovery is Actual Cash Value or ACV. The law defines ACV in several ways. One ACV is current fair market value; another is replacement cost less depreciation. An insurance policy may qualify ACV giving the insurer the contractual right to replace or repair an item if this is economical.
Let’s say my refrigerator was only a year old when my place had a fire. The actual cash value of my used refrigerator is much less than a brand new one will cost. The loss payment is less than the cost of a new fridge. I’ve been let down by the insurance process. Policy options to the rescue!
I can save myself this problem if I buy replacement cost coverage on personal and real property. This is known as “new for old.” Of course there are controls on a loss recovery. This is designed to make it fair to me and the insurance company. Another tool for a fair recovery is inflation protection. This offers an automatic rise in insured property values so inflation won’t mean low recovery at the time of a loss.
Valued Policy, Valued Policy Law, Agreed Value Policy and similar names indicate policies with a special settlement provision. These policies have set amounts you must pay at the time of a total loss. Most common are collector vehicle policies. The amount to be paid for vehicle theft or destruction is set in the Declarations. In other words, this is a pre-adjusted loss.
* Tip. Don’t rely on the terminology for these insurance policies! It is seriously misused. Know your policy. Ask questions about things you don’t understand. Your agent is there to give you answers.
Some states have value laws. These require the insured value to be paid in a total loss. These laws stop insurance agents and companies from selling high dollar coverage that would never be paid under an ACV policy.
* Tip. Review your insured property values each year. Values change.
Why Do Deductibles Exist?
Sometimes it makes no sense to insure a small loss. Why? It could easily be paid out of pocket and deducted from your taxes. Besides, it can end up costing more than your recovery. Policy writing and claim adjustment costs make insuring small losses uneconomical for both sides. Deductibles eliminate small losses and save premium dollars.
Deductibles also reduce the chance that dishonest people would create losses if there was no cost to them. No one likes a deductible during a loss. But that deductible may save you more premium dollars than the amount of the deductible. Probably the first one that comes to mind is for a car. Those deductibles of a set number of dollars are called straight deductibles.
There are three other types of deductibles:
- Aggregate. Adds all losses up to a certain dollar amount. After that, other losses for the policy year are paid in full. That way a business knows its maximum dollar loss for the year.
- Franchise. Below a certain dollar amount, you pay for a loss. Above a certain dollar amount, the insurance company pays. These deductibles are common in ocean marine insurance where small losses from dampness, pilferage, and similar perils are common.
- Disappearing. Lives up to its name. When a loss is large enough, there is no deductible.
* Tip. Save money! Increase your Deductibles!
The few remarks here concern insurance tools that are like deductibles or otherwise control loss payments. Two deductible-like tools are found frequently in health insurance:
- Elimination or waiting period. Holds loss payments until a certain point is reach. You carry the losses up to that point.
- Percentage participation requirement (also called co-pay or, incorrectly, coinsurance – see below). Holds you to a set percentage of the payment in a loss.
What happens if you have two insurance policies covering the same property? Insurance policies commonly have provisions for this situation. Even though they are not deductibles these provisions also serve to reduce moral hazard.
Policy provisions to multiple insurance policies covering the same property:
- call for the policies to split a loss prorate (no sense in buying more than one policy)
- make one policy primary and the other excess
- bar any contribution to a loss, and
- with no provisions, both pay as in life insurance.
Coinsurance & Its Friends
Never tell an insurance agent that coinsurance is a type of deductible. Chances are, you will be considered wrong. A coinsurance provision in a property insurance policy means an insured shares in a loss. Isn’t this the act of a deductible?
Insurance rates are determined on a number of assumptions. A major one is projected losses. Another is that every insured will take enough insurance dollar-wise to cover the full value of an insured property. However, some insureds will figure that most losses are small and rarely a total loss. So those insureds will insure for less than the value of the property. In turn the premiums received by the insurance company are less than expected.
The insurance company reasons that if you want to insure for less than full value, you’ll have to share in the losses. The insurance policy will set a coinsurance percentage, frequently 10%. That percentage will be the basis for loss sharing. If the insured maintains insurance to the required percent, there is no loss sharing. For example, a $100,000 building, a 10% coinsurance requirement, and $90,000 of insurance equals full recovery. Meeting the required coinsurance percentage means no loss sharing.
Coinsurance penalties are established at the time of a loss. If your property has increased in value, surprise! Your loss recovery is reduced by a penalty.
Coinsurance is more complex in detail, but those are the basics. What looks like a rip-off at the time of a loss settlement actually translates into premium savings over the years. Want to avoid coinsurance problems? Then don’t avoid this tip!
* Tip. Dodge coinsurance penalties with avoidance tools. Review this with your agent!
Ask about an agreed value provision. This allows you and your agent to set the amount of insurance you carry. If this agreed amount is carried, then a coinsurance provision is waived. Other avoidance tools are Replacement Cost Coverage and Inflation Guard Protection. These prevent your coverage from falling below the required coinsurance percentage, forcing you to share a loss.
Business inventories can fluctuate widely over time. Perhaps the inventory is high because a special sale is scheduled. Or maybe Christmas season inventory is higher than normal. Goods may be moved from location to location for special sales or other reasons. Therefore, inventory can vary at multiple locations. Say that the business owner paid premiums based on the highest inventory period of the year. The result would be over insurance. Reporting forms allow you to pay the correct premium for the inventory despite varying inventory.
At the beginning of a year, you pay a provisional premium. Current inventory values are reported on a daily, weekly, monthly, quarterly, or policy year basis. At the end of the insurance policy year, you either pay additional premium or the provisional premium is returned.
* Tip. NEVER accept a reporting provision unless you can provide timely, accurate reports. There are penalties for failing to report properly.
Improvements & Betterments—Or, Insuring Something You Don’t Own
You rent a new facility and installed permanent partitions, fancy lights and a large boiler. With a 15-year lease, it looks like you’re set until retirement. After a year of happiness, the building burns to the ground. You can’t collect for the loss of the permanent items you installed. Why? Because they legally became the landlord’s property. Where will you find the funds for a new location? The value of improvements to the real estate of others can be very expensive.
A person investing in improvements and betterments (alterations) to rented property can insure the use value of the changes. Permanently installed items or items that devalue the property if removed generally become the landlord’s property.
You can insure against the loss value of your changes. This begins at cost. But as the years go by, since you have had the use of your improvements, it is less. Conversely, the landlord can insure the value of your improvements. The term improvements and betterments is an old one intended to convey any type of improvement.
Another term, trade fixtures, is an important one because it conveys items like counters that can be removed legally even though permanently attached to the rented space. This is by custom but usually a lease will cover trade fixture ownership.
Example. Let’s say I rent your space from you and I do not like the lights. I tear your lights out and install my own of much better quality. I better save your lights because when I leave, the space has to be made usable. In other words it needs lights. The time to set ownership of property installed in a landlord’s building is at the time of leasing.
* Tip. A proper lease takes into account questions like who owns what and who will insure what. That’s the key to protecting both the lessee and the lessor.
The “Vacant & Unoccupied” Trap
Properties that are vacant or unoccupied present a higher risk of loss than property in use. Vagrants can use vacant buildings for shelter. And fires can occur with no one to send out an alarm. Insurance companies will insure vacant and occupied buildings but they want to know it.
Provisions are often found in property insurance policies eliminating or reducing coverage for a building that becomes vacant or unoccupied. These provisions may become effective after so many days, 60 days is common. Coverage may not be cut for all perils, but only those likely to occur as vandalism and glass breakage.
Unoccupied means usual activities or operations have been suspended; however business personal property has not been removed. Vacant means empty. This trap should not catch you—just keep your insurance agent apprised of any periods of vacancy.
* Tip. The material in this article will make you a better insurance consumer and reduce surprises at the time of a loss.