Underinsurance is more common than you think. Industry figures show up to 62% of small-to-medium-sized businesses don’t have correct-value insurance.

So, whether you’ve self-assessed or secured professional valuations for your business plant, equipment, and property, you might still be at risk of underinsurance. Here’s why:

• Your self-assessment might be wrong
• You’re insuring for the price you paid rather than the real value of the item in today’s market
• For particular assets, an on-site rather than over-the-phone or online professional valuation is needed
• Your valuation was from a builder, bank, architect, or real estate agent, not a professional valuer
• Your list of contents insured hasn’t been updated
• You assume the replacement or reinstatement costs will cover the extra costs of debris removal, new building codes, and after a disaster, a spike in construction costs
• You focused on the price to lower the insurance premium due
• The initial valuations might not have been reviewed recently
• The value may be reviewed only by adding 5% to 10% to last year’s figures or looking at real-estate conditions.

Another issue is if your bookkeeping isn’t up to date, then your insurable gross profit could be off the mark for your business interruption insurance. Your insurable gross profit isn’t your taxable gross profit, either net or gross. It’s the total of your turnover of the business, add the closing stock and then deduct the value of the opening stock and purchases during the last financial year. This ensures every other expense of the business, other than purchases, are insured.

The risks of underinsurance

Most insurance policies expect you to insure an item for at least 80% of its value. However, the Insurance Council of Australia suggests 90% or more will adequately cover property rebuilding costs. The idea is to cover the cost of losing that item.

But, an inaccurate valuation could widen that gap considerably. At claim time, how much will your business be out of pocket? Will your coffers cover it, or worse, could the costs destroy your business? Being spot on with declared insured values has ramifications for company directors, too. If they aren’t, they could be penalised for misrepresenting the values and not fulfilling their duties to act in the best interests of the company. This means managing risks adequately, including having appropriate insurance cover.

These are other risks of underinsurance:

• Long delays with insurance claim processing and payment, particularly if there’s an inaccurate calculation
• Claims won’t be paid out in full, and your business having to bridge the gap
• The percentage your business underinsures will generally be the percentage less the insurer will pay
• Your business could be left with less cash flow than it needs to legally operate, so could take longer to recover after a disaster, or may even need to close
• If there’s a mortgage over your business premises, banks may claim the insurance claim payments to pay that.

Insuring the correct value

Here’s how to be spot-on with your insured values. Your inventory should reflect each item’s actual value for insurance purposes, rather than the historical purchase price or balance sheet value.

Schedule regular room-by-room inventories of the contents of your business premises. Check the replacement values and see if the totals match the sum for which they’re insured. You might consider having expensive items listed separately on your policy, but your policy may have limits on individual items.

Set up a system, so any new capital purchase triggers a policy review to see if it is already covered, and if not, ensure it’s added. Always insure stock at its maximum potential value you could be holding at any particular time.

Underinsurance is a major risk for your business. We can guide you on improving how you go about valuing your company’s assets and liabilities. We’ll explain key insurance and policy principles, how often you need to review the valuations and common misconceptions that lead to underinsurance. You’ll have peace of mind your policy will support your business if you need to make a claim.

What is Coinsurance on a Business Property Policy

Coinsurance clauses are found in a wide range of insurance policies, but serve varying purposes depending on the area of insurance. When used in the context of property insurance, coinsurance is defined as “the percentage of the value of the property that a policyholder is required to insure.” Coinsurance clauses are included in commercial property policies in order to ascertain that policyholders are purchasing a sufficient limit of insurance, and penalizes those who do not. If the policyholder fails to purchase an adequate amount of the value for their insured property, then their claim payment is reduced and they may not be fully covered in the event of a disaster. When this happens, the insurer compares the policy’s limit at the time of the loss against the amount required by the coinsurance percentage to calculate what will be paid out on the claim.

Let’s illustrate this in an example:

Say a building is valued at $1,000,000 and the insurance policy contains an 80% coinsurance clause. This clause would specify the policyholder insures the building for $800,000. If the policyholder were to only purchase $600,000, they would be subject to penalty in the case of a property loss.

Continuing the above scenario, if only $600,000 of property limit is purchased and a fire occurs that causes $300,000 in damage repair, the claim payout would be calculated by dividing the actual insured amount ($600,000) by the required insured amount ($800,000), or 75%.  That percentage is then multiplied against the $300,000 loss, so the policyholder would only receive $225,000 minus any applicable deductible. Insuring the property at an amount less than the coinsurance clause percentage detracts from the claim payout.