For commercial property owners, underinsurance can turn what should be a manageable setback into a disaster. Many policy holders discover too late that their insurance falls short after a loss. Understanding underinsurance helps you protect your investment, stay in business, and sleep soundly at night.
Understanding Underinsurance in Commercial Building Insurance
Photo by Cris grafica
Underinsurance in commercial building insurance means your policy doesn’t cover the full cost to repair or rebuild your property after a loss. This gap often comes to light only when you make a claim. Many business owners believe they’re covered, only to face costly out-of-pocket expenses.
If your sums insured are too low, you risk reduced claim payouts, financial loss, and disruption to your operations. Let’s take a closer look.
Definition and Common Causes of Underinsurance
Underinsurance happens when the amount listed on your policy is less than 80% the true replacement cost of your property. It’s like putting a patchy safety net under a tightrope—one misstep, and you fall right through the holes.
Common causes include:
- Guessing the property value without evidence
- Forgetting to update sums insured after renovations or extensions
- Ignoring rising construction and labour costs
- Overlooking equipment upgrades or increased contents
- Mistaking market value for replacement value
If you understate the sum insured, insurers usually apply something called the “average clause.” This can shrink your payout even further, leaving you out of pocket.
Potential Risks and Financial Impact for Policy Holders
When you’re underinsured, any setback can become a much bigger problem.
Here’s what can happen:
- Reduced claim payouts: Your insurer may only pay a percentage of your claim, based on the ratio you’re underinsured.
- Large out-of-pocket expenses: You pay the shortfall yourself, potentially draining reserves or capital.
- Business interruption: Not enough cash flow to repair damage or resume trading quickly.
- Legal and regulatory pain: You may fall short of lease or lender insurance requirements.
Imagine a fire damages half your building, but your policy covers only 60% of the rebuild cost. Not only will the insurance payout shrink, you’ll also wear the risk of lost income and clients. Underinsurance can snowball and injure your business in ways that are hard to reverse.
How to Avoid Underinsurance: Practical Tips for Commercial Policy Holders
Staying out of the underinsurance trap takes more than luck. Regular checks, expert advice, and attention to detail make all the difference.
Regularly Review and Update Sums Insured
Businesses change, property prices fluctuate, and construction costs often rise. If you “set and forget” your sums insured, you’re leaving yourself open to shortfall.
Best practice:
- Review policy values at every renewal
- Adjust for new equipment, fit-outs, or refurbishments
- Reflect building additions and changes in use
- Document any large purchases or improvements
A quick annual insurance health check can save you months of stress and tens of thousands of dollars during a claim.
Engage Professional Valuers for Accurate Assessments
Many property owners guess their sums insured based on old valuations, recent purchases, or even advice from friends. Qualified valuers give you a professional, evidence-based assessment.
How a valuer helps:
- Calculates up-to-date replacement costs, including demolition, removal, and compliance with new rules
- Details the replacement value for different property types, eg, warehouses, offices, or mixed-use sites
- Updates you on regional construction price shifts
The cost of a valuer is often a small price compared to the peace of mind knowing you’re accurately covered.
Consider Policy Features and Exclusions Carefully
It’s easy to get caught by the fine print. Some policies limit payouts on certain building features, machinery, or stock. Exclusions or sub-limits can leave you in trouble for certain types of damage or events.
Checklist for policy holders:
- Read policy documents thoroughly and highlight exclusions
- Check sub-limits for things like floods, glass, or machinery
- Ask your broker or insurer to explain unclear terms
- Lock in features that suit your business and property
Knowing what’s covered and what’s not means fewer surprises at claim time.
Understand the Impact of Indexation and Market Changes
Most commercial building policies increase sums insured each year by a set percentage. This is called “indexation” and aims to keep pace with construction cost inflation. But sometimes indexation lags behind real market spikes, especially after natural disasters or supply shortages.
Strategies to keep up:
- Check how indexation rates compare to actual local cost rises
- Don’t rely solely on the default increase—adjust if needed
- Stay aware of current rebuilding costs in your area
Staying alert to these factors helps you stay protected, not just insured.
Conclusion
Underinsurance is hidden trouble for countless commercial property owners. Being caught short means paying the price when you least expect it. Avoiding underinsurance starts with being proactive—review policies, update values, and seek professional advice regularly.
Take a close look at your insurance today. Ask questions, get an expert opinion, and keep your business protected against whatever comes next. Stay covered, stay confident.
Have more questions? Get in touch at:
toma@mclardymcshane.com.au
