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Under-Insurance of Property and the Principle of Average

Updated: Jan 13


What is Under-insurance?


Simply put under-insurance is insuring your property at a lower value than it would cost to rebuild that property if it were to be destroyed. This is known as the reinstatement value of the property. Although it is most often associated with property, equipment or other assets, it can apply to liabilities and business interruption.


Under-insurance can have serious consequences for a business or property owner. In most cases an insurer will apply average but in the most serious cases where the underinsurance constitutes misrepresentation, a claim may be denied altogether.


What is The Reinstatement value of a property?


Reinstatement is it the cost of rebuilding that property, not its market value.


For property that includes :

· materials;

· labour;

· architects; surveyors and other legal fees;

· the cost of demolition and debris removal;

· VAT (as necessary)

· and any public authority or planning costs and inflation or other increasing costs that happen during the policy period as well as any rebuilding period.


The reinstatement value of the property or cost of rebuild is not the same as the market sales value of the property. It can be greater or less than the market value, depending on a number of factors, including the cost of the land the property is situated on.


In general the purpose of your insurance is to put you back to the same financial position after a claim as you were just before it happened; you should not be able to profit from an insurance claim.


It is worth bearing in mind that you can insure your property in different ways and the way the policy is set up will affect how to calculate a suitable sum insured.


Policies set up on an indemnity basis – claims settlement will take into account the value resulting from the age and condition of the property at the time of the loss or damage so putting you into the same position as immediately before the loss.


Policies set up on a reinstatement basis – claims settlement that will provide a replacement for property that is ‘similar but not better than’ sometimes called new for old.


Policies set up on an agreed value basis – claims settlement is based on a value agreed at the inception of the policy, for example, for specialised or rare property



What happens if my if my property is Under-insured?


If you are under-insured and your property is damaged or destroyed, your insurer may apply Average to your claim. Average is the is best explained by an example:


A property is insured for £200,000. The property is destroyed by fire and requires rebuilding. The total cost of rebuilding ie reinstating the property is £250,000.

The property is under-insured by £50,000, which the property owner would have to fund this shortfall themselves, but it gets worse.


Insurers apply the principle of Average and proportionally reduce the value of the claim by the proportion of the under-insurance. Therefore, in our example the property was insured for 80% of the reinstatement value. Insurers will therefore only pay 80% of the insured value ie £160,000


For the property owner this means they have a £90,000 deficit and will have to finance that themselves to rebuild that property.


In practice there are some limitations to when an Insurer can apply average. To find out more get in contact with us and we will be happy to answer your questions..


Why do insurers do this?


One of the main factors Insurers use to calculate the premium for a property is the sum insured. Insurers reason that if the property is only insured for 80% of its reinstatement value then they have only charged 80% of the premium due.


How can I avoid being Under-Insured?


The best way to ensure your property is not under insured is to have it professionally valued. Further information is via http://abi.bcis.co.uk or www.rics.org/bcis as well as links to online tools to estimate reinstatement values. Regular valuations will help ensure the sums insured are correctly assessed.


Many policies include a day one uplift clause which does allow for increases in the Reinstatement value of the property after inception of the policy.


If you would like a property insurance quote or have any concerns about Under-insurance or the insured value of your property, contact Forster Cameron Insurance Brokers Limited www.fcinsurancebrokers.co.uk/contact or call 0203 432 0270


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