Under-insurance – a growing risk to Irish businesses

What is under-insurance?

Put simply, under-insurance occurs when, due to inadequate coverage, a policyholder is left responsible for the shortfall. This may be due to:

• The sums insured on property being less than the amount it would take to rebuild or replace the property
• Business interruption sums insured and / or indemnity periods being less than that required to reinstate the business arising from a property loss
• Liability indemnity limits proving inadequate where a large loss or accumulation of losses occurs (within the same policy period).

Under-insurance may, in turn, lead to financial hardship and / or create an unexpected threat to the business.

What might happen in the event of under-insurance?

Within business insurance policies, one of the terms and conditions associated with property and business interruption coverage is the “Average Clause”.  If the property sums insured at the time of a claim is less than the cost of reinstating the property or the business interruption sums are also inadequately insured, the amount paid out by a policy if a claim occurs may be reduced. The following example demonstrates how the “Average Clause” may affect a claim:

“Average clause” – Example of its application in a partial loss

• Policyholder insures their buildings for €750,000. Fire damage to the property causes €100,000 worth of damage
• During the claims assessment, it becomes known that the correct rebuild cost is actually €1,000,000.
• As the property is under-insured, the “Average Clause” is applied to the claim and the policyholder is advised that the claims payment will be reduced. See calculation below.

Claims settlement:

The reduction due to under-insurance is 25% in this case. As a result, the maximum payment the policyholder will receive is €75,000.

Other common causes of under-insurance:

• Failure to include in the building sum insured the cost of:
• Removal of debris
• Removal of asbestos debris
• Professional fees
• Public authority requirements
• Walls, gates and fences
• Outbuildings
• Landlords fixtures and fittings
• Ducting, Cables, wires and accessories on the premises and extending to the public mains but only to the extent of the Insured’s responsibility
• Yards, car parks, roads and pavements.

• Omitting to include reinstatement value of extensions/improvements to the buildings during the period of insurance.

• Failure to include a provision for listed or protected structures, which are listed on the local authority record of protected structures.

How might business insurance customers better estimate the adequacy of their property sums insured?

In the case of buildings insurance, business insurance customers may wish, at their own expense, to request a rebuilding valuation from a professional

surveyor, builder, architect or valuer to establish the appropriate buildings sums insured for their businesses.

This may differ from a valuation from an estate agent who may provide the market price of the business property. Customers should assure themselves as to the competency of those providing valuations.

In the case of business interruption, customers should familiarise themselves with coverages available, policy definitions on, for example, “gross profit”, and the required periods by which full business operation reinstatement may take place. A business continuity plan can assist businesses in considering worst-case scenarios and present a timeframe and resources required to return the business to pre-loss turnover levels.

It is essential that sums insured and policy limits be reviewed regularly – at a minimum annually. Once revised values are advised to insurers, the insurance company will assess the premium due.  

In reviewing the adequacy of your insurance coverage, do not wait until your next renewal date to act. For assistance, please contact your Hastings Insurance representative.