One of the most costly mistakes property owners make is underinsuring buildings to save on premiums. What many don’t realize is that most commercial property policies include a co-insurance clause, commonly set at 80%. This means insurers expect the building to be insured for at least 80% of its replacement cost. If it isn’t, the insurer can legally reduce claim payments — even on partial losses — leaving the owner to cover the difference.
Here’s how it works in practice. Suppose a building’s replacement cost is $2,000,000. With an 80% co-insurance requirement, the policy should carry at least $1,600,000 in coverage. If the owner only insures the building for $1,000,000 and suffers a $500,000 loss, the insurer won’t simply pay the claim. Instead, they apply a formula:
(Amount of Insurance Carried ? Amount Required) ? Loss = Claim Payment.
In this case: ($1,000,000 ? $1,600,000) ? $500,000 = $312,500 paid by insurance — meaning the owner must cover the remaining $187,500 out of pocket, plus the deductible.
This often comes as a shock because the loss is well under the policy limit. But co-insurance penalties aren’t triggered by the size of the loss — they’re triggered by being underinsured at the time of loss. Rising construction costs, outdated valuations, and assumptions based on market value instead of replacement cost are the usual culprits.
The solution is proactive, not complicated: regular valuation reviews. Property values don’t keep pace with rebuilding costs, especially after material and labor spikes following storms or supply shortages. Reviewing replacement costs every year or two — and adjusting limits accordingly — protects owners from co-insurance penalties and ensures that when a loss happens, the insurance policy performs the way it was intended to.
Stay Tuned For Other Great Reads In This Month’s Newsletter
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