What value actually applies?

Numerous white papers and articles have documented that following a catastrophe, the vast majority of buildings are likely materially underinsured. I don’t believe any reasonable debate is left on this point.

Carriers are forgoing substantial revenue by underinsuring property. That, by itself, begs a question about why they are so willing to forego so much revenue. In some cases, street-level intelligence indicates that a couple of carriers are doing so intentionally to gain market share. They have nothing to offer if they cannot cut the price by underinsuring the property. In other cases, it is clearly, to me, a situation of incompetence.

A large portion of the problem lies in the fact that real-world exposures have greatly outpaced the industry’s ability or willingness to keep up. In particular, this involves ordinance clauses and, in some cases, foundations. Historically, ordinance exposures were minor issues, mostly affecting older homes and buildings, and primarily related to electrical upgrades 30 years ago. That is far from the case today when soil removal is now an ordinance issue, not to mention the numerous green energy requirements. Standard policies do not adequately account for these factors, and neither agents nor carriers are adequately educated to address the additional ordinance coverage required. In fact, where in the world can anyone get a replacement cost estimator that includes ordinance compliance? Or separates ordinance from standard replacement cost? As far as I know, the industry does not provide any such thing.

I heard someone say that property models work well now. Not if they don’t address ordinance.

Another problem exists: the wording in regular policies. When I teach property classes, I usually ask my classes to tell me what the key words mean. But in many property policies, carriers either fail to define key terms or deliberately avoid doing so. “Actual Cash Value” is a prime example.

In a recent review of policy forms, one carrier defined ACV as the amount paid after accounting for wear and tear. “Wear and tear” is not defined. Also, who gets to determine what the “wear and tear” is? In another section, the form stated it would be the replacement cost less depreciation. What is the definition of “depreciation”? The form at least gives an idea of how depreciation is defined, stating that it reflects the age, use, and condition at the time of loss. Even then, those are very subjective judgments.

Moreover, depreciation has many definitions. There are multiple objective accounting definitions of depreciation, but policies rarely use any of those. For example, I have an old tractor. It works very well, and the paint looks great. I don’t think it should be depreciated whatsoever because its 30 years of use, i.e., “wear and tear,” has had no discernible impact on it. But what do you think a carrier will consider depreciation on a 30-year-old tractor? I know this is not a building, but I hope this simple example helps illuminate the problem with the word “depreciation”.

Another example is that even before depreciation is considered, one large carrier states that ACV will be determined based on the value of the covered property at the time of loss, prior to depreciation. Who determines the value of the covered property prior to the loss and prior to depreciation?

I’m not a conspiracy theorist, but when an insurance company can set a low initial value and then depreciate that property using some subjective measure, what is the probability the insured will receive what they think their building is worth? Especially if the building is underinsured from the get-go?

I don’t usually write about specific policy language because others write about this subject more effectively than I do. However, ACV presents a precise example of poor, ambiguous policy language that gives carriers the upper hand at claims time.

What are the solutions? The right solution is to eliminate such obviously ambiguous language. And for anyone thinking, “But ambiguity works in favor of the insured!”, shelve your thoughts. Ambiguity only works in favor of an insured who possesses the time, energy, and often money to fight a claim. Otherwise, ambiguity does not work in the insureds' favor most of the time.

Good agents, not order takers, are the key to solving these situations. Here are steps to take:

First, learn your coverages. This means thinking through the words. Read and understand the definitions. Identify key words that are not defined. Hardest of all is to identify what is missing that should have been included. This is only possible with experience, a lot of education, time to think it through, and maybe new AI tools.

Second, do not be afraid of calling the claims person at the company (not the underwriter!) to learn how they define terms. Agents always tell me they called the underwriter for this or that explanation. Underwriters might help, but they generally have no authority. Just because they tell you this means that, it does not mean much of anything unless they give you a manuscript endorsement. The better person to call is the adjuster or claims manager. They have the authority to interpret policy language, and they will do so when adjusting the claim. This makes them the person to call.

Be sure to document their response.

Third, it is imperative to learn to communicate these problematic ambiguities to your clients and prospects. Order takers cannot explain anything but price. A good agent distinguishes themselves by developing communication skills to explain policy language and by giving insureds a better basis for choosing their insurance solutions. An order taker causes an insured to choose based on one variable. A good agent helps insureds understand that a lower premium is often correlated to less coverage or ambiguous coverage (ambiguous definitions mean ambiguous coverage). Then let them choose the balance best for them between coverage and price.

Given that the majority of property is materially underinsured, educating clients and giving them choices also protects your E&O. Because, when a house burns and the insured cannot afford to rebuild, they’re going to sue someone.

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NOTE: The information provided herein is intended for educational and informational purposes only and it represents only the views of the authors. It is not a recommendation that a particular course of action be followed. Burand Insurance Education, Burand & Associates, LLC and Chris Burand assume, and will have, no responsibility for liability or damage which may result from the use of any of this information.

None of the materials in this article should be construed as offering legal advice, and the specific advice of legal counsel is recommended before acting on any matter discussed in this article. Regulated individuals/entities should also ensure that they comply with all applicable laws, rules, and regulations.