As a business owner, you’re likely no stranger to the importance of insurance. It’s a safety net that protects your hard-earned assets, employees and livelihood. But what many businesses don’t realise is that simply having insurance isn’t enough – being underinsured can sometimes be just as risky as being uninsured altogether.
What is underinsurance?
Underinsurance occurs when your insurance coverage does not adequetately cover the full cost of a loss. This means that if disaster strikes (e.g. flood, fire, theft or liability), your policy might not pay out enough to rebuild, replace or recover. The result? A significant financial shortfall that could put your business at risk of closure.
Why does underinsurance happen?
There are several common reasons why businesses find themselves underinsured:
- Outdated Valuations: The cost to replace equipment, rebuild property or restock inventory often rises over time. If your sums insured are based on old valuations, you may fall short.
- Business Growth: As your business grows, so do your assets and liabilities. If your coverage hasn’t kept up with the growth of your business, you may be exposed.
- Incorrect Assumptions: Many assume that insurance policies adjust to market value or inflation – they usually don’t, or if they do it likely isn’t enough to meet changing costs.
- Choosing Premiums Over Protection: Opting for a cheaper premium can mean reduced coverage, limits or exclusions that don’t adequately reflect or cover your actual risk.
What happens if you have a claim and are underinsured?
Many business owners mistakenly believe that underinsurance only becomes an issue in the case of a total loss such as a complete building fire or major catastrophe. But the reality is that the underinsurance can significantly impact partial claims as well.
When you insure your assets for less than their true replacement value, insurance may apply the “average clause” at the time of a claim. This means that your payout will be reduced in proportion to the level of underinsurance – potentially leaving you to cover a large portion of the costs out of your own pocket.
For example, you have insured your business equipment for $100,000. A fire causes partial damage of approximately $50,000. You make a claim for the full $50,000, however during the claims assessment process, its determined that the equipment is actually worth $200,000 – meaning you’ve only insured it for 50% of its true value.
Your claim is then reduced by 50%. Instead of receiving the full $50,000, your insurer will only pay $25,000, leaving you to fund the remaining $25,000 yourself.
This highlights why accurate valuations and regular policy reviews are essential. Underinsurance isn’t just a minor oversight – it can have serious financial consequences, even in seemingly manageable situations.
What are the risks?
The financial and operations consequences of underinsurance can be severe:
- Partial Payouts: In the event of a claim, insurers may apply the “co-insurance” or “average” clause, meaning you only receive a portion of your claim if you’re underinsured.
- Cash Flow Stress: Gaps in coverage often mean having to fund repairs or replacements out of pocket.
- Delays in Recovery: Without adequate funds from insurance, business interruption can last longer, impacting customer relationships and revenue.
- Legal and Regulatory Issues: Insufficient coverage could expose you legal issues or fines.
Steps to protect your business from underinsurance.
- Review Your Insurance Regularly: Your business isn’t static so your insurance shouldn’t be either. Take the time to review your policies in detail or whenever your circumstances change.
- Get Professional Valuations: Engage a qualified valuer to assess your building, equipment and stock. Ensure that your sums insured reflect the replacement value and not depreciated value.
- Talk to Your Insurance Adviser: An experienced insurance broker or adviser can help you identify your risks, tailor your cover and provide advice to ensure your coverage fits your requirements.
- Consider Business Interruption Insurance: This often overlooked cover can support your cash flow during downtime and keep your operations afloat while you recover.
- Understand the Fine Print: Make sure you understand how your policy responds in the event of a claim as well as any sub-limits and exclusions. Your insurance adviser should explain these details to you, how they apply to your business and answer any questions you may have.
Don’t let underinsurance derail your business.
Insurance policies should give you peace of mind, not false security. By proactively reviewing your policies and partnering with a trusted insurance adviser, you can ensure your business is fully protected – no surprises, no shortfalls.
Need help reviewing your current cover? Contact our team today for an obligation-free insurance health check. We’ll help you identify any gaps and make sure you’re not caught short when it matters most.
General Advice Warning: This communication including any weblinks or attachments is for information purposes only. It is not a recommendation or opinion, your personal or individual objectives, financial situation or needs have not been taken into account. This communication is not intended to be a constitute personal advice. We strongly recommend that you consider the suitability of this information, in respect of your own personal objectives, financial situation and needs before acting on it. This document is also not a Product Disclosure Statement (PDS) or a policy wording, nor is it a summary of a particular product’s features or terms of any insurance product. If you are interested in discussing this information or acquiring an insurance product, you should contact your insurance adviser to obtain and carefully consider any relevant PDS or policy wording before deciding whether to purchase any insurance product.
