What is the Property Coinsurance Clause, and How Does it Apply to You?

The property coinsurance clause found in many commercial and personal insurance policies is a source of great confusion for many policyholders. Yet knowing exactly what it is and how it applies to your policy is vital to ensuring you are accurately insured. The last thing you want is to find out at the time of a loss that you don’t have the proper coverage limits in place to meet your policy’s coinsurance requirements.

Why the coinsurance clause exists

Let’s start by exploring the reasoning behind coinsurance and why insurance carriers apply it. Your premium is based in part on the coverage limits you select (the maximum amount you anticipate to be covered for in the event of a loss). The insurance company expects you, the insured, to insure your property to its full estimated replacement cost value. In other words, you are expected to determine the limit you need in the event of a total loss to make you whole again. With that, the insurance carrier feels they are collecting the appropriate premium for the risk they are insuring.

How does the insurance carrier encourage this approach with its policyholders? You guessed it: by applying a coinsurance clause that imposes a penalty on an insured’s loss recovery for failing to insure their property to an appropriate value.

How it works

Most coinsurance clauses require policyholders to insure to 80, 90, or 100% of a property’s actual value. So, if your policy has a coinsurance clause of 80%, you must insure your property at 80% of the total replacement value. Failing to do so will result in a coinsurance penalty—which, in essence, means you retain part of the risk and share the loss with the insurance company.

Here’s how it’s calculated:

  1. Determine the value of the covered property at the time of loss
  2. Multiply the above total in step one by the coinsurance percentage
  3. Divide the limit of insurance for the property by the above total in step two
  4. Multiply the amount of loss by the above total in step three (before applying the policy deductible)
  5. Subtract the deductible amount by the step-four total

Determining the proper property limits can be tricky and is not always exact, which is why insuring as close to 100% replacement cost is so important. If you are unable to do so, it is best to aim for at least 80% of the replacement cost to minimize coinsurance penalties.  Additionally, having an automatic percentage increase to your proper limits at policy renewal is helpful to ensure you keep up with inflation and the increased cost year to year on your property.

What does this all mean?

The coinsurance clause can be confusing, and you are not expected to be an expert on the matter (that’s our job). But there are some things you can do to protect yourself:

  • Find out if your policy applies a coinsurance penalty and which coverages it’s applied to (building/dwelling, contents, loss of business income are the most common).
  • Verify that your limits of coverage are not only adequate, but as close to the full replacement value as possible
  • Determine if your policy includes an automatic percentage increase on your policy limits at renewal. If not, be sure to review the limits at least every two to three years, if not annually.
  • Don’t forget to address any changes to the property, such as renovations, additions, new equipment, added contents and/or business property, and an increase in sales.

You don’t have to go it alone. At Hanson & Ryan, we’ve been helping clients navigate the ins and outs of their commercial and personal insurance policies for over a century. For more information about the coinsurance clause, contact us here.

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