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Getting your sums right with real estate insurance

At a glance

  • Some landlords leaving their properties exposed by incorrectly valuing full rebuilding costs
  • Complacency to valuations creeping in
  • Expert advice should be sought when working out sum insured, especially for more unusual

There are many variables that need to be taken into account to ensure that the sums insured on a building are adequate, but complacency is not usually one that springs to mind.

The amount of money it will cost to rebuild, or reinstate, a property depends on such factors as its construction, style, quality, condition and location, as well as considerations such as building regulations and the cost of labour.

However, following the correction in real estate prices caused by the financial crisis and the sluggish nature of the economy ever since, complacency is a growing problem that brokers and their real estate customers should be fully aware of.

“People are fairly relaxed about valuations at the moment because rebuilding index values over the last few years have gone in relatively fairly small steps,” said Jonathan Scotcher, Underwriting Manager for Real Estate at Zurich.

Underinsured properties

“But this is a danger as even though index-linking is hovering between 1%-3% in both the residential and commercial sectors, we have actually seen a few quite wide differences in valuations.

“Brokers and their clients can’t be complacent because of the changes to building regulations and all sorts of other geographical factors that simmer underneath the surface.

“The general index-linking figures tend to mask an awful lot of other movements. For instance, there are absolutely differences in rebuilding costs between the north and the south.”

Expert advice

And it is the more unusual buildings – such as listed or other landmark buildings – that expert advice should be a prerequisite when working out the sums insured.

“Where you have a listed building or a landmark building that is outside the norm and takes specialist construction, it is crucial that valuers are experienced in putting reinstatement values to premises of that nature,” said Colin Prince, Deputy Underwriter Manager for Real Estate at Zurich.

“You need to make sure that it is done on site and not using a generic valuation because by their very nature these things need to be treated individually by assessed by someone who understands it. The cost of rebuilding these types of buildings could be several times as much per square foot as a standard property.”

Increasing costs

It is, however, new UK building regulations and the introduction of more rigorous environmental laws that are causing total rebuild costs to skyrocket the most.

This is because if there was a total loss, a property valuation needs to be on the basis that a property is reinstated ‘as built’ but with additional allowances for improvements that will be required by building regulations in force at the time of a reinstatement and not at the time of construction, which may end up being a substantial sum insured.

People are fairly relaxed about valuations at the moment because rebuilding values over the last few years have gone in relatively fairly small steps. But this is a danger as we have actually seen a few quite wide differences in valuations

Jonathan Scotcher, Underwriting Manager for Real Estate

“These stringent codes of practice are increasing the cost of a total rebuild and the vast majority relate to energy performance or, put another way, insulation,” said Colin.

Dangers of underinsurance

If you insure a building for less than its full reinstatement cost, brokers’ clients are potentially putting themselves in danger of being exposed in the event of substantial damage and may only achieve a percentage of the actual cost to repair the damage. Landlords are either unaware, or are intentionally running these risks.

Last year, the Building Cost Information Service, which is part of the Royal Institution of Chartered Surveyors, estimated that 80% of commercial properties could be underinsured.

“You have the responsible landlord that arranges regular professional revaluations who would clearly and quite rightly have expectations that they are not underinsured,” said Colin.

“Sometimes even with the best processes in place this can still happen and therefore we include as standard in our wording a waiver of underinsurance rights in the event that the landlord behaves in such a responsible manner.”

Colin added: “But then there are some landlords who don’t understand that the reinstatement value is different to the market value. For example, the purchase price of a property doesn’t necessarily tie in with the cost of rebuilding it. This is particularly prevalent in in certain areas of the country and in respect of certain types of property where you will find that the purchase price is only a very small fraction of the cost to rebuild the property as it is.

“There is even some anecdotal evidence to suggest that there are a small number of landlords who deliberately understate the values in order to try and achieve a lower insurance premium. Both of these last two types of landlord run the risk of being financially exposed should an event happen.”

For more information please see our interactive infographic on calculating reinstatement values, or speak with your local Zurich contact.

Image © Getty

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