During the waning winter months of 2020 in New York State, an insurance customer suffered a loss to a building that housed a major part of their operations. The accumulated weight of ice and snow caused a roof collapse, resulting in extensive damage.
During the course of the claims process, it was discovered that the value of the building, which determined the amount of coverage that would be provided to make repairs, was incorrect. In fact, the building was undervalued by almost 80%. Needless to say, this incorrect information compounded the already fraught situation of having an unusable building.
Insurance policies are meant to provide peace of mind, but they can be a source of frustration for both the insured and the insurer if they are built on inaccurate information. This is particularly true for property coverage and the relationship between the value of the covered property and the coverage provided.
As important as this aspect of property insurance is -a concept known as insurance-to-value (ITV) -there is an epidemic of inaccurate information when it comes to property values throughout the insurance industry.
According to Marshal & Swift/Boeckh (MSB), as much as 75% of commercial buildings are undervalued by an average of 40%. By providing the following information on the various aspects of ITV, PHLY hopes customers can better understand their building values and be prepared and accurately covered in the event of a loss.
What is Insurance-to-Value (ITV)?
ITV is an insurance industry concept that involves the relationship between the approximate value of the insured property, the amount of coverage provided to rebuild or repair, and the premium charged for the coverage. This relationship is built around two main components:
- Rate: The property underwriter develops a rate based on the risk characteristics of the property, such as occupancy, the type of construction, and fire protection
- Insured Value: This is an approximation of how much it would cost to completely reconstruct a building. It's important to note this is not the market value or the amount the building would sell for as real estate. This amount will typically become the amount of coverage that would be afforded should a loss occur
The rate is then applied to the insured value, which gives the premium charged for the coverage. When all is in line, an accurate ITV is reached and an appropriate premium is charged for the right amount of insurance coverage needed to cover a loss.
While an accurate rate is important, the insured value is the foundation on which the ITV is built. If this number is incorrect, an insured could be left underinsured, leaving them with a large portion of the loss not covered or subject to stiff coinsurance penalties.
The insurance company could also be undercharging for the risk, causing premium increases due to inaccurate rate. Therefore, it is extremely important to understand how an appropriate insured value for a property is reached.
What Drives the Property Valuation?
Insurance companies and brokers use a variety of methods to determine a property's approximate value, but the most common technique is using building valuation software to obtain a building valuation estimate (BVE).
Unlike an appraisal that's also used for accounting purposes, the BVE provides a guideline value to help property underwriters determine if the insured value is accurate. Regardless of the method, they all use the same basic characteristics of the building to generate a value.
Square Footage
Square footage is one of the most important driving factors of the valuation. Being off by only 500 square feet could impact the value by thousands of dollars. Square footage can be obtained through public records like a tax assessor's website, building reports and appraisals, and insurance professionals who can physically measure the building.
Material Costs
The types of materials used to build the structure have a huge impact on how much it would cost to repair or rebuild it. Whether it's traditional lumber, sheetrock, or granite stone, each will have an impact on the valuation. In addition, changes to costs due to market fluctuation can have a direct impact on material costs. For example, lumber prices soared
275% during the pandemic, significantly increasing the costs to repair or build. Exotic or difficult to procure materials, such as marble, stained glass, or specialized lumber can also add to the cost of construction.
Labor Costs
The valuation not only takes into account construction and administrative overhead, but must also incorporate architect and engineering fees as well.
Location
While building material and labor costs are important, the geographic location can influence those values, fluctuating costs by as much as $30 per hour from the national average.
Building Features
The various components of the building can also have a direct impact on the value. This includes items such as unfinished versus finished basements, garages, decks, and various mechanical equipment like elevators.
Historic Buildings
From unique architectural features to more exotic building materials (some possibly difficult to obtain) the costs to repair or rebuild an older building can be substantially elevated. Even more so if the building is historically significant. Reconstruction may also be
impacted by updated building codes that require the reconstructed or repaired building meet these new rules.
Having accurate insured property values and ITV can help save both the insurance customer and the insurance company a lot of headaches. Once accurate ITVs have been determined, customers should make reviewing their building's insured values part of their risk management and property conservation program on a regular basis.
Philadelphia Insurance Companies (PHLY) has resources that can help both insureds and agents with determining appropriate ITV. In addition, the PHLYSense program, a no-cost temperature and water monitoring system, can help alert to potential property losses before they become a huge claim.
Contact the PHLY Risk Management Services department to find out more.