3 things to know about co-insurance

Insurance

3 things to know about co-insurance

If you’re wondering what co-insurance is and how it works, you’re not alone. It’s probably one of the most commonly misunderstood concepts in insurance.

What is co-insurance?

Co-insurance is a clause used by insurance companies meant to help you ensure your property is adequately insured, at either the replacement cost or on an actual cash value basis, and to help ensure your insurance company charges a fair premium for that risk. 

“If your property is under-insured, it will result in a co-insurance penalty that you’ll pay,” explains Kira Gretchev, Senior Commercial Lines Account Manager at The Insurance Market, based in Pickering, Ontario.

For businesses, the co-insurance clause can be found on business interruption policies to ensure you buy adequate coverage based on the value of your revenue stream.

“Co-insurance means you are responsible for ensuring a portion of the risk if you haven’t bought adequate insurance coverage from your insurance company, so it’s important to understand how it works,” Gretchev says.

How does co-insurance work?

Co-insurance is expressed as a percentage and the most common clauses require you to insure your property for 80%, 90%, or 100% of its value. 80% is usually used for property insured on an actual cash value basis, stock in trade, and gross earnings business interruption. 90% is usually used for buildings and contents insured at replacement cost, and industrial equipment. 100% is usually used for profits business interruption.

For example:
If your property’s replacement value is $1,000,000 with a co-insurance clause of 90%, then you have to insure your building for no less than $900,000. If the co-insurance clause is 80% in this example, you’ll have to insure your property for no less than $800,000. This means that the insurance company will be responsible for paying 80% of a claim and you’ve agreed to co-insure, or take on the risk, of the remaining 20% plus the deductible; according to a simple calculation.

Calculation:
Did x Loss / Should		
Did = the amount of coverage you did insure your property for.
Should = the amount of coverage you should have insured your property for (i.e. the co-insurance percentage).
Loss = the amount of the claim (actual cost to repair or replace damaged/destroyed property).

An example of a claim would look like this:
Did: $1,000,000 (coverage limit)
Should: $1,500,000 (value of your property)
Co-insurance Requirement: 80% ($1,200,000)
Total Loss: $500,000

$1,000,000 x $500,000 / $1,200,000 = $416,667
				
In this claim example, your insurance company will pay out $416,667 and you will pay $83,333 of the total loss.

3 Things to know about co-insurance

Gretchev offers the following advice:

  • Insure to value: To avoid co-insurance penalties, it’s recommended you insure your property to its full value.
  • Use a professional appraiser: While your broker can use standard tools to help determine a building replacement cost value, it’s best to use a professional appraisal firm to ensure you’re buying adequate coverage to protect your property.
  • Talk to your broker: With inflation and increased costs of construction (especially evident during the COVID-19 pandemic, with the price of lumber for example skyrocketing), it’s important to buy adequate limits of coverage. Your broker will help identify coverage gaps and find the right coverage for your needs.

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