Insurance is there to help protect you, your business and ultimately your livelihood at the time of a loss. It is estimated that between 70-80% of Australian businesses are underinsured, which could result in significant out of pocket costs when trying to rebuild or repair.
Most commercial property insurance policies have what is called a Co-Insurance Clause, which enables the insurer to penalise a client for not insuring their building, stock or contents for its true replacement value.
So how does this work? Here are some basic examples:
EXAMPLE 1: TOTAL LOSS SCENARIO
Nominated Building Sum Insured: $300,000
Actual Replacement Cost: $400,000
Insured’s Out of Pocket Costs: $100,000
EXAMPLE 2: PARTIAL LOSS SCENARIO
Nominated Building Sum Insured: $300,000
Actual Replacement Cost: $400,000
Loss Incurred: $100,000
Payment to Insured: $75,000
Insured’s Out of Pocket Costs: $25,000
A partial loss is where the Co-Insurance Clause becomes a real issue at claim time. In this example, as you have only insured 75% of the Replacement Value of the building, the insurer will only pay 75% of the loss incurred, being $75,000 in this instance. The remaining $25,000 on this claim would be considered your contribution or the value that you have chosen to self-insure.
Most policies or insurers will allow for a safety net of between 15-20%, so if your sum insured is at least 80-85% of the actual replacement cost, you may not be penalised or asked to contribute. This varies between each policy, so ensure you check the terms and conditions carefully or ask your adviser to confirm.
HOW DOES IT HAPPEN
You can often become underinsured over time without even realising it. As you gradually accumulate more possessions or change your business processes, the number and value of assets that you own can grow significantly. We also tend to replace and upgrade our contents and stock with better quality and more expensive items without adjusting the sums insured. Additionally, some clients don’t realise that most policies work on a new for old replacement value and subsequently insure based on a written down or depreciated value.
The cost of building materials and associated building costs typically increase each year, so a building that is now 20 years old will cost significantly more to rebuild today. During times of catastrophe, such as floods or bushfires, these costs can escalate due to the large demand on suppliers.
We often find that businesses will intentionally underinsure themselves in an effort to save on premium, without understanding the consequences of doing so in the event of a loss. If you choose to only insure a percentage of the replacement value, you also choose to take on a percentage of the risk.
HOW TO AVOID IT
It is important to review the amount you are insured for regularly, and check that you still have the cover you need, particularly if you have undertaken a major renovation or upgrade of business items. The crucial point here is to ensure your cover reflects the true replacement value of your stock, equipment or buildings and that your insurance coverage grows with your business. There are other costs you need to consider, such as removal of debris, drawing up new plans and applying for approvals that will often need to be factored into these figures. Removal of debris may be covered separately, or may need to be factored into your sum insured, so it is important to understand the terms and conditions of your policy.
We often find that clients only want to insure the value of assets in their balance sheet. These figures will factor in depreciation and are not an accurate representation of the actual cost to replace them at the time of a loss. We recommend using a quantity surveyor to complete a valuation for insurance purposes for higher value or bespoke assets as this can help you get a more accurate picture of the full replacement value of your assets.
Your insurance broker or adviser should be able to work through the process and help you determine the right level to replace your contents, stock or buildings.
BUSINESS INTERRUPTION & CO-INSURANCE
Business Interruption Insurance is also subject to the Co-Insurance clause, so it is vital that you partner with an experienced insurance adviser to ensure you calculate the correct Insurable Gross Profit, which differs to Accounting Gross Profit. You can find our more about Business Insurance here.
Don’t leave yourself exposed – contact the allinsure team to review your coverage and sums insured today.
GENERAL ADVICE WARNING
THE INFORMATION PROVIDED IS TO BE REGARDED AS GENERAL ADVICE. WHILST WE MAY HAVE COLLECTED RISK INFORMATION, YOUR PERSONAL OBJECTIVES, NEEDS OR FINANCIAL SITUATIONS WERE NOT TAKEN INTO ACCOUNT WHEN PREPARING THIS INFORMATION. WE RECOMMEND THAT YOU CONSIDER THE SUITABILITY OF THIS GENERAL ADVICE, IN RESPECT OF YOUR OBJECTIVES, FINANCIAL SITUATION AND NEEDS BEFORE ACTING ON IT. YOU SHOULD OBTAIN AND CONSIDER THE RELEVANT PRODUCT DISCLOSURE STATEMENT BEFORE MAKING ANY DECISION TO PURCHASE THIS FINANCIAL PRODUCT.
